The author has been described by News Ltd as an "iconoclast", "Svengali", a pollie's "economist muse", and "pungently accurate". Fairfax says he is a "Renaissance man" and "one of Australia’s most respected analysts." Stephen Koukoulas concludes that he is "85% right", and "would make a great Opposition leader." Terry McCrann claims the author thinks "‘nuance’ is a trendy village in the south of France", but can be "scintillating" when he thinks "clearly". The ACTU reckons he’s "an enigma wrapped in a Bloomberg terminal, wrapped in some apparently well-honed abs."

Friday, November 23, 2012

Fantastic column from The Oz's Adam Creighton on the banks

love this column, which echoes my views on the subject (see here). Excerpt below...

IF the value of your total assets fell by 6 per cent would you be insolvent? If you are sensible, probably not. Big companies like Woolworths or BHP would have to endure a drop in their assets of at least 40 per cent before their assets were worth less than their liabilities.

Yet the four major banks would be. If National Australia Bank's total assets, for instance, fell in value by 6 per cent to $717 billion, its capital or shareholders' funds would be more than wiped out.

Such a fall is far from impossible given the Big Four's huge exposure to home lending. The International Monetary Fund prompted lots of harrumphing from the Big Four this week when it suggested they held too little capital -- the difference between assets and liabilities.

ANZ's chairman said extra capital would make the Big Four banks, which have among the highest returns on equity among any group of large banks in the world, "globally uncompetitive".

The IMF said the four majors were "highly profitable, enjoying a funding cost advantage derived partly from the implicit government support and earning larger net interest margins than smaller banks and international peers".

A very large chunk of their $25bn-a-year profits arises from their ability to borrow more cheaply because investors know hapless taxpayers' stand ready to bail them out if they falter.

"Significant and protracted difficulties in any one of them would (have) severe repercussions for the entire financial system and real economy," the fund added...

A century ago and decades thereafter, before prudential regulation was even conceived and only market forces provided discipline, Australia's banks maintained capital ratios of between 15 per cent and 20 per cent, more than three times what they maintain today.

With memories of the 1890s, when the Depression wiped out half of Australia's banks, banks prudently built up their capital ratio to near 20 per cent. In the Great Depression of 1929, not a single bank failed. A far smaller economic lull in 2008 paralysed the world's financial system...

One theory is that bureaucrats become captured by the institutions they "supervise", reluctant to upset friends or limit lucrative job opportunities later. Formal regulation means the banks and their creditors absolve themselves from serious prudential introspection, and instead focus on jumping through (or avoiding) the arbitrary and naive hoops regulators set for them.

Ideally, government wouldn't regulate banks and wouldn't save them if they collapsed. But that is a libertarian fantasy given the big government reality.

The second-best option is to force banks to hold much more capital than they