Smith Faculty Opinion Article
The 30 Seconds Outlook
January 1, 2010
|
“I made a wiseacre remark that that the most
important financial innovation that I have seen in the past 20 years is
the automatic teller machine. That really helps people and prevents
visits to the bank and is a real convenience.”
|
— Paul Volker, in Alan
Murray, “Paul Volker: Think More Boldly,”
Wall Street Journal, December 14, 2009. |
Former Fed Chairman Paul Volker critiqued the present arrangements for banks
and provides a framework for their future at several private sector meetings
(Alan Murray, WSJ, 12/14/09).
(Mr. Volker is responsible for expertly reducing the large inflation that
threatened the economy in the early 1980s.)
“. . . [M]y overall impression is that you [bankers] have not come anywhere
near close enough to responding with necessary vigor or structural changes to
the crisis that we have had.
If it is really true that financial weaknesses brought us to the brink of a
great depression that would have ended your livelihood and destroyed a lost of
the global economy, then let me explain.”
1. “Well, I have been around the financial markets for 60 years, and how many
responsible financial leaders have we hear speaking against the huge
compensation practices?”
2. “I hear about these wonderful innovations in the financial markets, and
they sure as hell need a lot of innovation. I can tell you of
two---credit-default swaps and collateralized debt obligations---which took us
right to the brink of disaster. Were those wonderful innovations that we want to
create more of?”
3. “I have been on [bank] boards of directors, and the chance that they are
going to understand these products that you are dishing out, or that you are
going to want to explain it to them, quite frankly, is nil.”
4. At a conference of business people, “. . . I found myself sitting next to
one of the inventors of financial engineering. I didn’t know him, but I knew who
he was and that he had won a Nobel Prize, and I nudged him and asked what all
the financial engineering does for the economy and what it does for
productivity.
Much to my surprise, he leaned over and whispered in my ear that it does
nothing---and this was from a leader in the world of financial engineering. I
asked him what it did do, and he said it moves around the rents in the financial
system---and besides, it’s a lot of intellectual fun.
Now I have no doubts that it moves around the rents in the financial system,
but not only this, as it seems to have vastly increased them.”
5. “. . . I have found very little evidence that vast amounts of innovation
in financial markets in recent years have had a visible effect on the
productivity of the economy. . . . Indeed it [the economy] was quite good in the
1980s without credit-default swaps and without securitization and without CDOs.
I do not want to stop you all from innovating, but do it within a structure
that will not put the entire world economy at risk.”
6. “First, let us agree that we have a problem with moral hazard. . . . I
would suggest that we can approach an answer by recognizing that elements have
always been risky, and that’s certainly true of the commercial-banking system.
In a crisis, everybody runs back to the commercial banks. . . . We cannot
have this global economy with commercial banking operating an efficient payment
system globally as well as nationally. They provide a depository outlet for
individuals and businesses, and they are still big credit providers for small
and medium-sized businesses. The commercial-paper market is totally dependent on
the commercial banking market. They are an essential financial institution that
has historically been protected. It has been protected on one side and regulated
on the other side.
I think the fundamental is going to remain. People are going to think it is
important, it is important, it needs regulation and in extremis it needs
protection---deposit insurance, lender of last resort, and so forth.
I think it is extraneous to that function that they [banks] do hedge funds,
equity funds, and that they trade in commodities and securities, and a lot of
other stuff, which is secondary in terms of direct responsibilities for lenders,
borrowers, depositors and all the rest.
There is nothing wrong with any of those activities, but let you nonbank
people do it and you can provide fluidity in markets and flexibility. If you
fail, you’re going to fail, and I am not going to help you, and your
stockholders are going to be gone, and your creditors will be at risk, and that
is the way it should be.
We need a new institutional arrangement, which I believe has a lot of
support. We need a resolution facility. . . . If one of you fails and has
systemic risk, then it steps in, takes you over and either liquidates or merges
you, but it does not save you.”
John A. Haslem
