I’m taking the day off work today to get a bit of R & R. It also gives me a bit of time to do a few posts, which has proved difficult lately.
Working in the financial industry, I see a lot of things that the general public don’t. That doesn’t make me right, but hopefully it makes me better informed. It has been very interesting watching the credit crunch from the inside and the outside.
On the inside there are lots of things I’ve learned about the monetary system and credit markets over the past eighteen months. It has stretched me intellectually to understand why this is happening. Most people (including myself) were relatively relaxed to start of with. However, the inter-connectedness of financial market, which used to be strength, has turned into a weakness, spreading the contagion to all parts of the system.
However, what I want to write about is the blame game. Whenever something goes wrong, we need someone to blame. This is particularly true if we are affected and if we have played some part in the action or event that we are exercised about.
In the credit crunch everyone is blaming the “greedy bankers”. While it is true there have been some greedy and grossly irresponsible actions in the banking and credit markets, let’s start to get some perspective on this. The bankers did not act in isolation.
For starters, what about the shareholders in the banks? They could have taken action about the egregious pay packets, but they chose to be silent. What about the fund managers, who are charged with looking after your savings in pension funds and unit trusts? Most remained silent. Are they free from blame? Surely they have a fiduciary duty to monitor investments and intervene if shareholders are being disadvantaged or exploited.
What about the regulators? Even if shareholders find it difficult to keep a check on risky behaviour, the regulators should be holding the bankers in check. They have access to much more information than anyone in financial markets, why did they not act? Pretty much every banking regulator around the world is guilty of being reactive rather than proactive.
Then we have the Bank for International Settlements, which has been warning for ages about excesses in the financial system. Yet its Basel Committee, which sets the rules for capital in the banking system, had been proposing that the banking system holds less capital against certain assets. In particular, they proposed much less capital against mortgages. Not surprisingly, the banks took this as a green light to expand recklessly into mortgages, producing some of the mess we’re in now.
What about the monetary authorities (the Federal Reserve, Bank of England, European Central Bank)? Interest rates were kept too low too long in the early part of this decade, setting in motion the credit excesses we are seeing now. It’s no use Mervyn King bleating about the fact that he warned the banks. What did he do about it practically? Nothing. There was no funding gap in UK banking in 2001 (deposits matched loans). Now there is a £625bn funding gap that needs to be funded either in international money markets or through the Bank of England funding scheme. It’s no use saying you warned about it, Merv, you did nothing about it.
The government is also far from blameless. Gordon Brown has trumpeted his economic credentials. As usual with politicians, their grasp of reality is about as robust as candyfloss. He inherited a very strong financial position from the previous government. To be fair, he resisted messing this up for quite a long time. However, in the last four years, he has been recklessly profligate, leaving this country much less fiscal ammunition to fight the recession. Not only that, he mistook the growth that came from ever increasing amounts of personal sector borrowing as true underlying growth. This weakness has now been mercilessly exposed.
Lastly what about us? Just because you are offered a loan, you don’t have to take it. Who forces you to spend on your credit card? Can you discriminate between a need and a want? While I have sympathy for those caught in a debt trap, we have to take responsibility for our actions. Very few of those who are caught with excessive debts can truly say that it was unavoidable.
We are now entering a decade of living within our means. Old habits will have to be changed, sometimes it will be painful. So before blaming those “greedy bankers” for the mess we’re in we need to take a good look at ourselves. Yes, there have been some obscene excesses. Yes, they are guilty (more guilty) than others. But they are not alone. The sooner we grow up and take responsibility for our own actions, the sooner we can sort out this mess and get a better society.
blogpackinglight 
Well said Robin. Although most of it seemed like common sense or statements of the bleedin’ obvious. Or is that just me?
The comments from the press and politicians have really irritated me. There’s no analysis, just sloganeering.
golf clap, golf clap. Well said sir.
Is this the narrative fallacy at work?
“Narrative fallacy: creating a story post-hoc so that an event will seem to have an identifiable cause.”
http://en.wikipedia.org/wiki/Nassim_Taleb#Research_and_theories_of_randomness
I think Taleb is a fraud. The Black Swan is largely unintelligible. I don’t see where his analysis gets you other than to be careful about the possibility of extreme events. He’s a very clever linguist.
It is entirely true that normal statistical analysis fails in investment as low probability events occur more frequently than they should.
Nearly all financial crises have their roots in overconfidence, hubris and over-leverage. To blame it just on “greedy bankers” ignores the fact that others also played their part.
Robin, I’m not sure if it’s what you meant, but I think Taleb wouldn’t blame the greedy bankers or anyody else. That’s (as I understand it) what he means by the narrative fallacy – going forward from now nobody has any idea of how things will turn out, or there are several possible scenarios, which indicates an element of randomness; yet in a months time the media will construct a narrative to explain events and aportion blame.
It’s like wandering lost and aimless across the Cairngorms in a fog (unless you think the markets are under control), and then later tracing your course on the map and explaining your random turns to left and write with explanations that fit.
Anyway, I know I’m not going to convince you, but it’s fun discussing it.
“I don’t see where his [Taleb] analysis gets you other than to be careful about the possibility of extreme events.”
I think there’s more to his work than that, but that advice on it’s own would have been very good advice over the last eighteen months wouldn’t it?
Sorry, John, “fraud” is too strong a word. What iritates me is that he has three interesting ideas (none of which are exactly new) and spins them into two long dense books with very little additional insight.
You can see narrative fallacy happens in all walks of life. I read a lot of history and it is certainly present in a lot of history books.
Using your Cairngorm analogy, if you were using a compass or GPS, then your route could be explained by those instruments. Equally what is happening in the financial world can be explained partly by the faulty instruments that were available to investors (mathematical models, credit ratings etc).
Robin, good point about his taking a few ideas and turning them into a couple of books. My digging a little deeper has shown this to be true. On the other hand, he has made the ideas accessible to people like me who are midly interested in such ideas, but are not equipped to deal with in-depth books on philosophy, or inclined to get involed in economics.
As for the Cairngorm analogy – anologies are rarely successful, but….
If you did have an OS map, a compass and GPS, the anology would be dead. There is no map for the current economic situation (or arguably any other economic situation), and even if we had an economic GPS and compass, without a map we’d still be lost.
Yes, we do know where we want to go, and if there was a map, GPS and compass we would be able to get there without doubt. The fact that there is doubt that $700B will take us there indicates to me that there is no map.
Perhaps the difference in our outlook is that I think the markets have a large degree of randomness in them, or at least the markets are so complicated that the movements are as good as random. Unlike very complicated mechanical systems such as the weather, where reasonably good guesses are able to be made in the short term, the economic system has human beings involved who don’t act in a mechanical way, making predictions difficult. Otherwise it would be easy to be certain of becoming rich.
Perhaps it’s fairest to say that we’re all to blame, but I would add that it’s likely that those with the most money, or economic clout are most to blame. I’m not letting politicians off the hook, but I think it would be a mistake to think they have much control either before or after the event.
My view is that markets are logical most of the time, but there are times like now when old paradigms and models don’t work and there are unintended consequences that blindside everyone. Allowing Lehman to go bankrupt has destroyed confidence in the commercial paper market which in turn has made it very difficult for industrial companies like General Elelctric to raise short term finance. I don’t think the Fed/Treasury understood that.
Where the “authorities” are culpable is lax oversight and poor decisions on monetary policy, which many warned about. Interestingly, there are parallels as to what is happening at the moment in the banking crises that the US saw in the 1800s and in 1907. However, the financial system is very different, so the course of events will play out differently.
I don’t think that the bankers should escape blame, just that others ought to look at themselves as well.
“My view is that markets are logical most of the time, but there are times like now when old paradigms and models don’t work…..”
I think that there’s an underlying logic, but there’s also always a degree of randomness or noise – you’ve only got to look at a graph of share prices (even in the stable times) to see this noise. The ratio of noise to logic varies and in times such as these there’s a lot of noise and less logic.
I think that this noise is to some extent due to the fact that the markets have a dangerous tendency towards positive feedback (due to the human element),and this is very hard to regulate against.
Having said that, I’m all for more regulation, and it’s good to hear somebody in the industry calling for regulation. I think a lot of grew up under the impression that the finance industry is peopled by free market fanatics.
But regulate as you will, I bet we’ll still be looking at another boom-bust in the future. I don’t know how, but it seems to me that the markets are structured in a way that allows this to happen – so it will happen.
Banks cannot be left to regulate themselves as they are too important to the economic system. One reason that I’m angry with the monetary authorities and regulators is that interest rates stayed too low for too long and banking capital rules were eased at the wrong time. It’s a bit like dumping a load of knives into a children’s playground and expecting there to be no accidents!
You can’t regulate away booms and busts or greed and fear, but you can lean against them. I’m afraid Mr. Greenspan has a lot to answer for in not leaning against the credit bubble.