Whose Money Are We Guaranteeing?

by C.D. Sludge from Scoop 20 October 2008 Banks Are The New Temples A 2-year-old boy of my acquaintance used to remark when he noticed a bank in the street - "there is one of my temples" - and looking at recent political responses to the financial crisis, public and political understanding of what is going on is not a great deal more mature. Having failed the taxpayer and public catastrophically the banking community has now been presented with a solution which solves nothing. Prior to the latest financial crisis US bank deposit insurance was limited to $100,000. As part of the recent rescue packages implemented these past few weeks the US Treasury increased this sum to $250,000. Importantly this is insurance. I.E. in the US bank customers pay the taxpayer for the privilege of having their deposits guaranteed. But this is not the case elsewhere in the world where deposit guarantees have been put in place. For example here in NZ and Australia we have implemented unlimited deposit guarantees. But what does this mean? Whose Money Are We Guaranteeing? If the NZ taxpayer is to guarantee the deposits in NZ banks - could someone please first answer these questions: Who is holding these deposits? Whose deposits are being guaranteed? How many depositors are there with $50,000 or more? How many depositors are there with $100,000 or more? With $1 million or more on deposit? Scoop asked these questions of the Reserve Bank back in the early 2000s. The response then is likely what it is now, namely: "it is too complicated to provide that data, we do not collect it". And yet you would think that this is precisely the most important question that banks ought to need to know themselves in order to run their businesses? But let us extend this question beyond our borders since this is a global crisis. Who are the depositors who stand behind the $Trillions in US Treasury debt? Who are the depositors who stand behind the rest of the trillions in US bank debt and commercial paper? Clearly the $700 billion provided by the US taxpayer earlier this month is only a fraction of the resources available to these depositors? Surely these depositors could simply with a stroke of a pen relieve some of the pressure that is currently choking the global economy? But the truth is nobody knows who these depositors are. If indeed they even exist. This is Mary Shelley's monster. A man made creation which is now completely out of control. John Key Calls For A Guarantee On Interbank Loans This morning would be NZ Prime Minister (NZ holds elections on November 8th) and former Merill Lynch currency trader John Key is calling on NZ to guarantee overseas wholesale deposits in the NZ banking system. Mr Key is concerned that because Australian banks have been given this guarantee they will be able to attract money that NZ banks will not. His concern is probably justified - as all our banks are Australian owned and they will be more attractive than their NZ subsidiaries - however his proposed solution is pure stupidity elevated to giddy heights of foolishness. All unlimited bank deposit guarantees as implemented all over the Western World in recent weeks - seemingly without much thought - are irresponsible, idiotic and intensely foolish. They risk extending bank failure to Government failure and a complete breakdown of the ability of sovereign Governments to respond to this crisis. And they reward failure. They remove the risk and incentives to behave sensibly from the very people who have already screwed everything up. If there is no liquidity in the market then there are other ways to manufacture it. Rather than guaranteeing interbank loans Governments could provide the liquidity direct. At least then they would be able to attach conditions to them. As it stands any fool in the US can lend the ANZ Bank as much as they like without even having to look at the ANZ Bank's balance sheet. This is a case of all care no responsibility. It is a moral hazard of the highest possible order and it should be tolerated – if it is necessary at all - for the shortest possible period. Publicly it should be viewed as what it is - an extreme measure which is unsustainable and is not part of the solution. It would be far far better to simply nationalise the entire banking system - which as it happens is most probably where we are headed anyway. Taxpayers in the nations which have adopted these guarantee schemes - including NZ - have basically taken all the risk out of banking. And in doing so they have created a new financial structure which cannot succeed for fundamental economic reasons. It will inevitably result in chaos. Here in NZ unsurprisingly it is already having perverse consequences as bank deposits become a better place to put wholesale funds than the commercial paper being issued by local authorities. Local authorities unlike banks have their ability to pay back loans backed by the ability to tax the public via rates! The scheme currently in place has made Banks - which ought to be pure poison - into the best place to put wholesale money? And so at a time when debt financed infrastructure development is universally regarded as the only sensible economic response to current economic conditions this response is being obstructed, as an unintended consequence of guaranteeing bank deposits. Rewarding Failure I forget now where I heard the story - but on the day that one of the big European banks created an unlimited guarantee to deposits - a very rich individual promptly deposited $1 billion cash. Now this story is possibly apocryphal but unfortunately rings far too true. This individual almost certainly made his $1 billion on the back of the financial fraud that underpins the current crisis. He or she is now having the $1 billion in ill-gotten gains guaranteed by taxpayers. Why? If he was in the US which brought this mess upon us he would be unable to protect more than $250,000 of his loot. And yet right at the moment nobody seems to even be asking questions about such foolishness. Instead we have Morning Report Host Sean Plunket on the radio this morning discussing with two NZ bankers whether politics should be taken out of the financial response debate in NZ. And if we take politics out of the equation, who exactly should be given responsibility for this? The bankers? What seems to have been forgotten in the past five weeks is that it is the banking system that has failed. The privately controlled system which we the public empowered to enable commerce, to facilitate the fabric of our lives – and in which we the public had seemingly limitless trust has now failed. In failing the world the banking system has brought planetary wide carnage down on us all. It will almost certainly result almost immediately in millions of people in the third world starving as aid funds dry up. And as we worry about our mortgages and dental bills we should spare a thought for the poor and the vulnerable who are likely to suffer the most in this crisis just as they do in all crises. In Eastern Europe and the former Soviet Union this crisis will almost certainly lead to a further rise in warlord power and organised criminal activity. And it is not at all unlikely that the events set in train by US merchant banker greed will shortly lead to war. Why Are We Listening To Bankers? And yet we continue to worship at the doors to these banks, plaintively hoping that they can put humpty dumpty together again. On the radio and TV we ask the same bankers who screwed up what they think is best for us to do now? And we offer them all our worldly possessions to use as they see fit to save us. And these people haven't even expressed any regret for the chaos they have unleashed on us. Many of them are instead taking multi-million parachutes as they bail out of their failing institutions. And we should remember it is not just the banks that have failed us. Banking regulators failed us. Government Treasury oversight has failed us. Banking academics have failed to warn us of the perils. And, importantly, the media whose job it is to watch the markets have failed us. Not all the media however - Scoop.co.nz and several of its associated publications have been warning of the events currently unfolding since the early 2000s. And so rather than jumping to the tune of those who made this mess, it is now vital that those who are responsible for cleaning up this mess - and that has to mean our elected politicians, however low an opinion we have of them - think carefully and prudently. Actions taken now all over the globe have the potential to limit the damage that is ahead of us. We need smart solutions and we need them fast. We need to sharpen up. At present we are sitting like stunned mullets, unaware of what our future holds, listening to rubbish in the media as our political masters have chose to allow the banking community - which has already nearly strangled us - to put a noose around our neck for the next phase of this crisis.