Recent media reports in the international financial press show a misunderstanding of what it means to overcome the most recent financial crisis. Many reports exhibit surprises that many financial institutions still have significant problems with non-performing loans, shrinking demand for their services and the mostly reduced profits when compared to the years before the crisis (see e.g. the reports on the demise of the Portuguese Spirito Santo Bank). The second major point is complaints by financial institutions about over-regulation, meddling in compensation systems by regulators, required higher equity ratios, and so on (e.g/.HSBC on July 5, 2014).
It is understandable that financial institutions and the persons responsible for them would like the pre-crisis times back, when they were seens “Masters of the Universe”, when ever new and complex financial products were offered, when remuneration systems depended on the risk taken and the turnover generated, rather than on customersatisfaction, when there was no limit to excessive bonus payments both to board members and traders.
However, the role of finance ministers, national bank governors and regulators is to re-establish a financial system which primarily focuses on the needs of its customers, i.e. businesses and savers, restrains risks to the stability of both the global and regional and national financial systems, to devise a system which is more of a utility than a self-serving “exploiter” of an “anything goes” principle. It is still not clear whether ministers and national banks and regulators all have come to this conclusion, that their task is not to serve the ubiquitous “investor” and make her or him happy, but that the “real economy” needs to be serviced by a stable and innovative finanical system where prudence takes precedence before risk-taking.
Since the crisis struck, many attempts at re-regulation of the financial system have been undertaken, unfortunately insufficiently coordinated across the globe and insufficiently consistent with the above tasks at hand. While national banks have flooded the economy with ample liquidity, financing of real investment projects is still expensive, difficult or non-existent. This liquidity push seems to have once again fed the financial system itself, leading to irrational yields for highly risky assets, and to asset bubbles, both for equity and once more housing assets in several countries. Yes, the flood of new liquidity has helped to prevent more banks from collapsing, but it has not really reached its intended goal.
The task of overcoming the crisis has, especially in Europe, been left of the Central Banks, while government budgets have again been subjected to austerity goals. This has led policy makers, again in Europe, to close their eyes to the fact that many of the “crisis countries” in the European periphery are burdened with government (and also private sector) debt which is not only not “sustainable”, but is still rising and can – according to the simplest arithmetic – not be paid back, ever. While it may not be a problem to push the payback date further and further down the field (as long as private financiers of government debt are willing to buy), these countries suffer from excessively high interest burdens on their government debt. These crowd out more productive or socially necessary public expenditures, thus restraining growth and throwing increasing numbers of citizens into hopelessness and unemployment. Once more, this system serves those who hold government debt titles (“investors”), at the expense of future investments and the needy.
Debt which has been accumulated in the past can never go away: the question is only, who is going to pay for it. Will it be the taxpayer, will it be the holders of the debt instruments, the owners of the financial institutions, or some other group of businesses or persons? Even the frequently muted “debt forgiveness” or “debt cancellation” is not free, but would be paid by the holders of the debt titles, respectively their customers and owners. This is where questions of income distributions set in, but are rarely discussed in the open. Whether failing financial institutions are wound down, nationalized, “saved” by governments, split into bad and viable banks – all these have very diverse implications for distribution and should be discussed openly before decisions are being taken.
It is high time that public authorities inform investors that they had a grandiose time for several years before the crisis, enjoying very high profits and a seemingly never-ending boom, which is over for good. Expected, or “warranted” rates of return between 15% and 25% are a thing of the past. In the longer run, the rates of return for financiers cannot be higher than the nominal rates of growth of the underlying economies – unless they are reached at the expense of the other sectors of the economy. Thus, to wean the global economy of excessive debt financing, to reduce the high debt burdens so the remaining debt is sustainable and can be financed out of the growth dividend, the financial sector will have to shrink further. This shrinking involves somebody picking up the tab of non-paid debt. Governments need to think strategically how this “deleveraging” can be achieved at the lowest social costs in general and with the least damaging distributional effects.
Ceterum censeo: At this point I would like to repeat once more my proposal to gradually take government finance out of the hands of the private sector: under the assumption that government expenditures respond to the (political) will of the population and are undertaken appropriately and prudently (I know, I know that this does not happen all the time), their financing above and beyond tax revenue, should be undertaken by equally socially accountable institutions, i.e. the Central Banks. We all have seen numerous examples that the (legitimate) interests of private investors have only little in common with pursuing the public good: why then should their interests determine yields and viability of government finance? We should really think seriously about such a possibility. In the recent past, proposals approaching this have been made by issuing joint European bonds, by restricting trading in government bonds, and others more.
We need a new, functioning financial system. It will need to be smaller than now, but be appropriately regulated, in order to maintain stability and serve the real economy. The radical idea to finance governments via Central Banks, with the necessary safeguards against profligacy and party- or election-political pressures, is an idea whose time has come.