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Mervyn King ‘Could have Done More’

May 4, 2012

In the second Today Programme lecture on Wed 2 May, Mervyn King admitted that the Bank of England could have done more to raise awareness of the impending crisis. Many in the media felt this was not good enough; he wasn’t paid for 20:20 hindsight, but for foresight. In the Today Programme on Thursday, Baroness Wheatcroft defended him, observing that Gordon Brown in giving the Bank independence in setting interest rates had transferred its power to regulate banks to the Financial Services Authority, which unfortunately in the run up to the crash appears to have deserved the Private Eye’s label for it of the ‘Fundamentally Supine Authority’. Baroness Wheatcroft also observed that King did speak out at the Mansion House speech in 2007, but no one was listening. No one that ‘mattered’ at least; there were plenty of ‘heretics’ who argued that excessive debt levels spelt disaster.

All this is water under the bridge. What I had hoped for was a more forceful and more explicit message about what should now be done. After all he is in his last year as governor of the Bank; what has he to lose?
His remedies were the three Rs, Regulation, Resolution, and Restructure.

On Regulation he had nothing to offer except requiring banks to hold more capital. The idea that excessive lending to finance spending on existing assets (regardless of the use or otherwise of complex and opaque derivatives and special purpose vehicles) represents a huge systemic risk did not get a mention, and heaven forbid that we should seek to learn from successful Asian economies. Did he not heed what Lord Turner (hardly an heretic surely?) wrote in 2010,

“…If  instead  we  believe  that  financial markets, maturity transforming banks, and credit extension against assets which can increase in  value,  are  inherently  susceptible  to  instabilities which  cannot  be  overcome  by identifying and removing some specific market  imperfection,  then Professor Kay‘s proposal fails  to address  the fundamental  issues. It would create safe retail deposit banks which would never need  to be rescued, but  it would  leave credit supply and pricing as volatile, pro-cyclical and self-referential as it was pre-crisis. [Turner in ‘The Future of Finance: The LSE Report 2010]”

A resolution mechanism to deal with insolvent banks by requiring senior bond holders to take a ‘haircut’ is of course sensible in order to reduce moral hazard. However it is not a complete answer. There might not be enough such bond holders to save retail and small business deposits in a narrow bank, and is it relevant in the case of a casino bank?

Proper restructuring would involve creating narrow banks as proposed by Prof. John Kay, not the watered down version proposed by Vickers and apparently accepted by government. If it were achieved the need for the resolution mechanism would be much reduced. But did he voice a word of criticism against the government for so far failing to bring forward any legislation? I could find no such criticism in his script.

In short his prescription was inadequate, and he failed to berate the government for their inaction at a stage in his career when surely he could afford to do so.

But the fault is not his alone. He clearly understands the strength of the forces at work against him and the 99%. The main fault lies with the moral cowardice, greed, and short sightedness of the coalition government, which will not stand up to the banking lobby. And was Gordon Brown much better?

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