Occupy London: So Near, So Far

There have been times over the last couple of weeks where I felt truly tempted to drop everything and head for St Paul's Cathedral.

What? In truth, from this distance, the protesters are difficult to like. I don't automatically respect people who paint their incoherence as a sort of democratic innocence, and I don't like those who claim their innocence as a cover for self-indulgence borne out of privilege.  All told, we the spectators to their spectacle could feel justified disappointment that, in the end, though they have demonstrated an ability to attract the TV cameras, they seem to have nothing coherent to say to them. Instead, we get a generalized attack on capitalism (yeah, thanks, grandad) or the inner practices of the Corporation of London (Huddersfield talks of little else, I assure you). 

It is as if they do not truly feel the weight of their actions; and probably do not truly wish to feel the weight of their actions. Protest ultimately as self-expression rather than political action. 

Despite all that, there's just this feeling that they're close, so close, to something important. Forget all I said about protest as self-expression, forget the jibes about trustafarians, sometimes when you're reaching for a new idea, the creative process is messy, silly, annoying, time-wasting. Sometimes the struggle to be born looks a lot like dicking around. 

If only these people had the faintest inkling that a fair number of people in the City feel the same as they: that something has gone deeply wrong; and that the opportunity to rectify it is slipping away day by day; and that as it slips away, so do our chances for the future. 

And so, in all seriousness, I offer this as a simple one-stop program for reform around which the St Paul's protestors, the Archbishop of Canterbury, academics and intellectuals, a coalition of politicians from all  points of intellectual sentience across the spectrum, a hefty slice of the City, and even Islamic thinkers could unite: 

'We ask that the law be changed in order to recognize the fundamentally one-sided and immoral nature of the deposit contract, and for such contracts to be made illegal under UK law.' 

Frankly, that single change would do it. Just that single change. And from that springs the Fundiflora.     

Why Nothing Changes

Does it seem incomprehensible to you that nearly two years after the derivatives market blew up the world's opaque and monopolistic commercial banks, taking your money with them, there's still no move to stop them doing it again? That they're still to be allowed to gamble your deposits and take what winnings they can without so much as a by-your-leave? It should. One of the points of Woolman Wonders was to point out that a post-bank financial system is easy to envisage, and would deal with the current system's dreadful breakdown in transparency and responsibility, and would, as a consequence, allocate savings better.

Yet there's no sign that any politician anywhere in the world is willing even to demand the divorce between retail banking and investment banking. They're all trying to reconstruct the system that failed so disastrously.

Want to know why? Here's a clue. Britain will do nothing without a lead from the US. And in the US, the policy is being determined by a US Congressional Financial Services Committee, chaired by Democrat Barney Franks. Let us consider this committee.

First, it's huge, with 71 members, of whom 42 are Democrats, and 29 are Republicans. At first sight, that looks like a big majority for the Democrats - not usually considered the friend of Wall Street (let us suppose). But delve a little closer and something very strange appears: of those Democrats, a dozen hold seats which are, in British terms, marginals.

Let's name them: Paul Kanjorski (PA); Ron Klein (FL); Travis Childers (MS); Walt Minnick (ID); John Adler (JB); Mary Jo Kilroy (OH); Steve Driehaus (OH); Suzanne Kosmas (FL); Alan Grayson (FL); Jim Himes (CT); Gary Peters (MI): and Dan Maffei (NY).

For all these Representatives, the best hope for re-election is to spend money - loads of it. The total campaign spend for the coming Nov mid-term elections is . . . US$3.7 billion according to the US Center for Responsive Politics.

Where will these poor marginal Democrats get their finance from? Nancy Pelosi might as well have hung a 'For Sale' sign on the Committee door.

One further thing, even if just half of those 12 Committee members looking for money to fight their marginals vote against significant financial reform, the Committee is deadlocked.

There is a moral to this. If we want to develop a post-bank financial system, we'll have to fight for it. We'll have to become a more powerful political force than Wall Street.

Ghastly Dance: Financial Repression

It's a rule: governments act in their own interests, and so do monopolists. For most of human history, these two look each other in the eye, and like what they see. Soon enough, no-one else gets a look in.

It now seems inevitable that this ghastly mutual attraction is once again going to shoulder aside the interests of you and me and the rest of the economy, let alone the interests of fairness or even prudential common sense, in the re-shaping of the banking industry. Naturally enough, it comes tricked out in the most reasonable and ethically self-congratulating disguise: in order to ensure that greedy bankers never again etc, the government's going to ensure raised bank reserve and capital requirements, are going to keep an eye (and maybe a thumb) on the amount of credit extended, and doubtless provide a guiding hand to ensure the right people get the credit.

I could go on - and probably will soon enough. But suffice it to say that what's being proposed as our salvation is simply financial repression in one guise or another. Oh, it'll mean your savings are allocated even more poorly than before (which matters if you want a pension or an economic infrastructure), but never mind, it's for your own good. In fact, it's very markedly for the government's good, because if the government can mandate (or regulate) a monopoly position for banks, it'll be able to tax them both overtly (stand by for windfall taxes) and covertly (by creating a captive market for their debt).

Meanwhile, for the incumbents - ie, for the bankers - all the regulation is just a further entrenchment of a monopoly power which they have already abused to very nearly the destruction of the entire economy.

And the logical outcome of this is, of course, that there are plenty of people who want to get on-board this new financial repression/financial monopoly gravy train. Step forward Metro Bank, step forward Virgin Money. And step forward Lord Levene, a former chairman of Lloyds of London - a man so keen to pitch himself into this new monopoly that he's raising money on the AIM market before he has even put in the time to think of a name for his wretched bank. As someone might once have put in their prospectus: 'a company for carrying out an undertaking of great advantage, but nobody to know what it is' called.

I wonder - I seriously wonder - whether the politicians of all stripe who lobby for this disgraceful entrenchment of failure, know what they are doing. Can they be so bereft of imagination that they don't know what they are doing? Can they not grasp that there is an alternative which takes apart the monopoly, rather than entrenches it?

'Now all my tales are proved untrue,

And I must face the men I slew.

What tales will serve me here among

Mine angry and defrauded young?'

Growth and Ignorance

As the man said, most of the problems of the world could be fixed with five minutes concerted thought: but thinking is hard work, and five minutes is a long time.

One of the characteristics of the British at the moment is that we are happier debating in an information vacuum than when in full possession of the facts. Nowhere is this embrace of passionate ignorance more destructive than in political and economic debate. Consider again our approach to growth. To summarise, for most of the world most of the time, I think economic growth equates to an increase in human security, without which most of the things we value and love about humanity comes under threat. But plainly, not all growth delivers increases in security: growth generated by excessive 'returns to agglomeration' in cities measurably results in people finding it more difficult, expensive and therefore risky to retain their toehold in the successful city. Alternatively, growth sustained only by ever-larger acceptance of debt by households and families can hardly be said to have increased the debtor's security. Put the two tendencies, and rapid economic growth can degenerate into a desperate struggle to stay on board the careering train. If you live and work in the fully developed world, you can count yourself lucky if you don't recognize this.

We could, if we wish, make some attempt to measure the extent to which economic growth seems to be delivering or destroying the good life.

India does - a legacy of Amartya Sen's work, perhaps. In its annual Economic Survey, published this week, we have this:

India’s growth performance over the last couple of decades or so has been a subject of a great deal of scholarly enquiry, as well as a cause for celebration. A measured optimism, in this regard, would be understandable–-but a spillover into unbridled euphoria would not. The case against complacence resides in the large magnitudes of both poverty and inequality which coexist with growth. A natural question that arises is: is there a simple summary statistic that might throw some light, all at once, on the phenomena of growth, inequality, poverty, and inclusion? In

a broad and suggestive way, yes: the statistic in question is the “quintile income”, or average income, of the poorest 20 per cent of population.

Actually, what they produce is a comparison of the bottom quintile expenditure as a proportion of the average. It shows that spending by the bottom 20% rose from an average of 42.3% of the average in 1977/78 to 49.7% in 2004/05. If the figure is right, it suggests that India's growth has probably not been a matter of the rich getting richer whilst the poor get poorer.

I have tried to produce something similar for the UK, but - surprise, surprise - the data, if collected, is neither current nor easily available from the National Statistics Office. I can construct them only for the three fiscal years ending 2002/03. They show that the bottom 20%'s expenditure was only 37.5% that of the average in 2002/03. On the face of it, Britain, with all its pretensions to being a rich social democracy, has an income distribution markedly more uneven than India. What's more, within the three years of the data that is available, there is no sign that things were getting better - indeed, the situation in 2002/03 was slightly more uneven than in 2001/02.

Any set of politicians who had an interest in addressing these issues would ensure that this data would be released simultaneously with the quarterly GDP figures. We could then see not just whether the economy is growing, but also begin to fathom out what the growth, of lack of it, actually meant. We would soon learn to understand not just how we ourselves were developing as a society, but also where we stood in comparison with others. More, if things started going wrong 'despite all our efforts' (you hear our politicians cry), then there'd be an advantage in debating and understanding the causes. In particular, it would be difficult to escape the ownership of the results of policies.

But you can see why this would make our politicians nervous. Our current crop might have to defend themselves against charges that large-scale immigration had undercut the lower end of the labour market. We'd find out if the combination of minimum wages and tax credits actually worked in the way they were (presumably) intended. Our future crop would have to explain why the rise of unemployment and/or cuts in welfare spending were a price worth paying.

Having the information is the start of the debate. Our current determined and perverse ignorance merely suggests that our political establishment has no real interest in our society.

Fundiflora: Sketch of a Post-Bank Financial System

The engines at the heart of the post-bank financial system will be a whole new ecology of daily quoted money market mutual funds. These would be the principle way you saved, and would be the principle source of money for those wanting to borrow.

What's so great about money market mutuals? Let's say first of all what they are. Money market mutual funds are open-ended investment funds which invest in debt securities and the price of which is quoted every day. So if you buy a unit of a money market mutual fund at 100p on day one, and the fund receives interest of 1p during that same day, it'll be quoted at 101p the next day. Since it's an open-ended fund, there's no room for 'speculators' to manipulate the price, since it is re-priced every day at the net asset value of the unit. When you want to get back some of your savings, you simply sell the unit.

What does the money market mutual fund do with your savings? It lends them out, of course, by buying bills and/or bonds.

Why would a system of money market mutual funds be so much better for saver and borrower than the current ecology of commercial banks?

The first benefit is that by being a mutual fund, any money they earn goes back to you, the saver, not the 'banker'. I pointed out in The Sheer Cost of Opacity that at the moment average deposit rates are 0.31% whilst the average interest rate on personal loans is 13.38% - that's one potato for the saver, 25 for the banker. In a money market mutual fund, you get all the potatoes, except the scraps you're prepared to throw to the menial drudge who manages the fund for you. How much you choose to throw to the manager is up to you - after all, he's just advising on the administration of your fund.

If one stipulates that the fund must always provide its owners with a detailed breakdown of its holdings, then a second benefit emerges: we get an extra layer of transparency which should help to improve credit decisions.

The third reason is that such clarity and transparency will encourage a wildly diversified 'fundiflora'. Some people (many probably) will want the absolute security of return which forms the bedrock of the bad deals depositors make with commercial banks. For these people, there will be money market mutuals which invest only in government bills and bonds. True, the interest they receive on these bonds won't be great - but it won't be nothing, because, after all, 10yr gilts are yielding about 4% a year. But the fund will only every go up, not down (provided the government doesn't default).

Then there'll be people who want a higher rate on their savings are are prepared to accept more risk in doing so - perhaps by investing in commercial paper and corporate bonds. There's be some people who go the whole hog, and want to risk a portion of their savings in high-risk paper. They'll have to accept that at some point, their usually rapidly-rising fund will take a fall.

And there'll also be funds for people who have strong views about where their savings should end up. Why not have a money market mutual fund for people wanting to fund micro-credit schemes in developing nations (or Hartlepool for that matter?). Money market mutuals for people who want to make sure their savings don't finance the arms trade, or ciggies/booze trade, for example. Money market mutual funds, in other words, for those who want to put their money where their mouths and consciences are. Our current financial system blithely incorporates the assumption that 'homo economicus' is a simple creature motivated solely by profit. We all know people have vastly more complicated motivations than that.

Those are just the benefits for you the saver. But there are benefits to the borrower too: removing the opacities of the deal between saver and borrower will close the 'banking spread.' Will some borrowers object to their borrowing becoming public information? Oh, perhaps - but they've learned to live with it in the bond markets, and they'll learn to live with it in 'banking' markets, provided their terms improve. If they really want secrecy, they'll have to pay extra for it.

And, of course, if the terms for both savers and borrowers improve, then capital allocation improves and so, in the medium-term, does the performance of the economy lucky enough to be serviced by such a financial system.

But it's not just a better deal for savers and borrowers, and the economy, it's a better deal for the financial system itself, since money market mutuals are incomparably more stable than commercial banks. Though it's not absolutely impossible for a money market mutual fund to go bust, their transparency makes them many magnitudes safer than commercial banks. Quite simply, they can't be brought down by either sub-prime defaults, or by the collapse of the CDS market - if only because the flow of cash into those markets would be cut off as the problems appeared.

Finally, though the death-throes of the commercial banks in such a system would be appropriately dinosauric (flailing, lots of noise, teeth and cannibalism), developing such a system now, and in London, would reinvent the City for the 21st century. I've previously described commercial banks as a pretty decent compromise for 17th century problems. The new fundiflora I envisage is above all a response to the key conditions of the 21st century - the collapse of the price of information distribution and the associated death of credentialism.

You can be quite sure that such a system will emerge somewhere in the world, and with it a new set of industries servicing it: administrators, IT guys, loans-sourcers and packagers, credit-assessors, ethical counsellors - the full gamut. Properly handled, it'll just outperform the commercial banking system out of existence.

So if not London, where? And if not now, when?

Gary Player's Law - A Bit of Luck

I was loitering in Starbucks this morning innocently mopping up a cappu, when who should stroll in but one of the few MPs who doesn't necessarily view politics as a public auction of our liberties. So, after finishing what I was doing (creating a presentation on Taylor Rules -no relation - policy interest rates) I went over to give him a bit of encouragement.

(Well quite, I know what you're thinking - but the brave chap didn't flinch or cower. Rather, he humoured me, and finding I am an economist . . . . )

. . . he told me he was on a Parliamentary Treasury committee with Pope Vince Cable et al which was thinking about possible structural reforms of the City.

So if you're reading this, Mr D, always remember this: regulation rightly begins only when transparency, and thus choice, fails. Deal with the opacity, and a surprising proportion of the problems and failures are fixed . . . . by us.

Oh yes, and keep reading, because we've done most of the spadework now, and it's time to start building the new post-bank financial system.

The Sheer Cost of Opacity

So I think I can build a new and better financial system, do I?

It's not just that the opacity of the current banking system is wrong: you give your money to a bank manager, who promises to pay you a fixed return whilst he feels free to do with it whatever he and his derivatives team can imagine, and take the profit on it. Nor is it just that the opacity of the credit decisions he makes is likely to lead systemically to bad decisions - though it does. These are reasons why the commercial banking system is bad in principle.

But in practice, commercial banks are even worse. By which I mean they offer a rotten deal to the saver, and a rotten deal to the borrower. And, of course, the rotten deal they offer is the practical consequence of the opacities behind which they hide.

Right now, Bank of England data tells me the average interest rate on banks and building societies' time deposits is 0.31%, whilst the average interest rate on a personal loan is 13.38%. In other words, you the depositor are getting 0.31%, whilst they, the bank, get 13.07%. In terms of dishing out the meal, that's one potato for you, and 25 for the bank.

Yes, we're at an extreme point just now, but over the last five years, the average banking spread between fixed deposits and personal loans is just under eight percentage points, whilst the average deposit rate has been just 3.5%. One potato for you, two and a bit for the bank.

So personal loans are a bad deal? Well, yes, but so too are five year fixed mortgage rates at 5.35%, when you consider they're getting your deposit for 0.31%. That's one potato for you, and nine potatoes for the bank.

And you wonder how they pay those bonuses.

My guess is that these extraordinary banking spreads are only going to get wider in the next few years, as the costs of regulating the dangerous opacities of the system grow, as the cost of recouping the losses of their previous bad credit judgements are maintained, and the baleful influence of the inefficiency of the nationalized banks is felt more widely.

But what this means is that these ridiculously excessive banking spreads means we have not just the motive to build a post-bank financial system, we have the means. Somewhere between nine and twenty-five potatoes worth.