The last few weeks have brought with them the genuine risk of overdosing on “ten years on from the financial crisis” think-pieces. Unfortunately, we’re going to have to inflict another on you.
Yesterday, Vice tweeted an article , originally published last summer, entitled “Why is No One Talking About Regulating the Banks”. The article touches on money laundering, Brexit and money creation. It does not discuss the many important regulatory changes that have affected banking since the crisis, but, in this respect, it ends up making an important point.
Discussion of post-crisis regulations really only take place in extremely rarefied and specialist settings. In fact, this is one of the main reasons that attempts to engage with the topic are usually replete with omissions. This matters irrespective of your political persuasion.
The Vice article, for example, suggests that “there was a moment in the aftermath of the financial crisis where there was opportunity for real reform”, but that “politicians didn't take it”. However, the major themes that emerge in the film-script version of the crisis — derivatives, securitisation, the bailing out of the banks, the rules governing mortgage lending — have all been subject to major changes. These reforms might be insufficient but, to make that point, they need to be brought into the conversation.
In 2009, leaders of G20 countries made significant changes to derivatives markets. Securitisation markets have been regulated extensively; they are now a fraction of their former size in Europe. The bailing out of banks has resulted in perhaps the most important, and least discussed change of all, which is the transformation of bank bonds so that investors, rather than taxpayers, bear the risk of bank failure. In the UK, mortgage borrowers are constrained by their salaries, and almost no of them has access to mortgages in excess of the value of the property they are buying.
These measures are not inherently complicated; their complexity is usually drawn from the array of institutions that determine them. The Basel Committee, for example, draws up rules on bank capital that then inform legislative packages in different countries or regions. The regulator for banks in many countries is an independent central bank, which removes much of the discussion from public debate, and results in a conversation between expert policymakers and expert practitioners. In the EU, there is a separate body in Brussels that deals with bank failure.
So there are a few people talking about regulating the banks, but the conversation is mostly inaccessible. What emerges from the lack of open discussion about actual regulation is a kind of parallel and often misleading discussion based on over-simplified assumptions. One of these is that “deregulation” straightforwardly explains the financial crisis. Some parts of this are true, but a brief history of the securitisation market — the most commonly connected market to the crisis — tells a more complicated story.
That industry firstly gained prominence in an environment where high inflation in the 1970s created incentives to transfer exposure to long-term fixed-rate mortgages. The prevalence of these kind of mortgages can be traced back to the regulatory response to the Great Depression, and the creation of the US housing agencies (which also played an important role, later, in the demand for subprime mortgages in the financial system).
From the eighties onwards, a focus on capital constraints on bank balance sheets encouraged banks to sell mortgages and other loans through securitisation. The regulatory framework meant that profitability had become at least in part a function of state-directed regulatory rules around capital — a fact that persists today. For this reason, lending against a house might be preferable to lending to a business, even if the former represents, for whatever reason, a greater risk.
There are dozens of other stories which disrupt the simple but popular dichotomy pitting anti-regulation market forces against pro-regulation benevolence. Other dichotomies, which pit a pro-regulation extractive state against market benevolence, are equally flawed. The problem is that the financial system is an accumulation of accidental causes and effects, and we can only retrospectively entertain the fiction that some powerful force intentionally crafted it in its entirety.
Individual areas, though, are being crafted. If there were meaningful political debates about regulation, it would soon become clearer whose stake lies where. To take one example, TLAC , the rule that allows for the bail in of bank bonds in systemically important institutions, transfers a risk from taxpayers to bond investors. In simple terms, this means that those saving for their pensions, or dependent on insurance, are more likely to lose out when banks fail. While taxpayers are located in one country, savers of this kind are now dispersed around the world.
There are many political movements that would have a strong view on this kind of thing. Unfortunately, we don’t know what they think, because they don’t know TLAC exists.
Related Links: Are we safer now? - FT Series