Thursday, November 25, 2010

Actually i would re-name this as “something for everyone”..

Something old and something new: Novel and familiar drivers of the latest crisis

Yes it was in May... but its imo interesting nonetheless. Not a short read but shows that Turner is no lightweight when it comes to these issues. Of course all a bit monday morning quarterbacking ... but still.

Posted by techieman @ 12:31 PM (986 views)
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2 thoughts on “Actually i would re-name this as “something for everyone”..

  • Thanks for posting Techieman; that was quite a read! I cannot imagine how this dry, academic approach to bubbles will compete with ‘animal spirits’ so I will mentally pigeonhole Turner as a well-meaning but ineffectual regulator.

    Some quotes from the article for those who don’t have the time/inclination to read the whole thing:

    “credit plays a specific and potentially destabilising role because of its interaction with real asset prices, its ability to drive speculative bubbles in real assets, such as equities, but above all in real estate. Increased credit supply can drive capital appreciation which appears to both the borrower and the lender to make further borrowing and lending safer. In Hyman Minsky’s terms, credit supply can become first ‘speculative’, relying on the anticipation of capital gain to pay back the capital of the loan and then ultimately ‘Ponzi’ in nature, relying on the anticipation of capital gain to raise new loans not just to pay back existing loans but also to service interest payments. Without credit there could still be irrational exuberance in real estate or other real asset markets, but with the implicit put option of a credit contract, the potential is hugely increased. And the extent to which the banking system is involved, for instance, in the financing of real estate investment has, at least in the UK, increased dramatically over the last 20 years.”

    “HBOS, one of the UK banks which got into most trouble, was not extensively involved in risky proprietary trading, complex structured credit and credit derivatives. But it was extensively involved in what turned out to be poor bank lending against commercial real estate, one of the most familiar and most recurring features of recent banking crises –the Japanese and the Swedish crises of the early 1990s, the savings and loan crisis of 1980s America, the early 1970s secondary banking crisis in Britain, or the Thai crash of 1997. Minsky’s insight into the inherent dangers of bank lending against assets whose value can move in line with the value of bank finance extended, must be central to a policy response which ensures that we do not repeat the pattern yet again in another 15 or 20 years time.”

    “The idea that either the central bank or the regulator should be willing to make judgements on the sustainability of lending and asset prices in, say, the commercial real estate sector, has been outside the conventional intellectual framework. But a historical perspective tells us that we used to pull such levers; and an international perspective tells us that many emerging markets still use such levers today, having resisted our over-simplistic preaching in favour of our apparently more advanced approach. We need, I believe, new policy levers which can take away the punch bowl before the party gets out of hand – levers such as counter-cyclical capital requirements, which a macro-prudential authority can pull on a discretionary and possibly sector specific basis”

    “Over the last 55 years for instance, private sector debt to GDP in the UK has grown from around 30% of GDP to over 120% of GDP, with that growth almost entirely dominated by growth in household mortgage debt and commercial real estate financing. Both forms of finance of course perform some useful economic functions; but it is clearly not the case that further growth of such credit intensity is essential for economic growth; further [financial] intensity of this sort, for instance, does not drive increased fixed capital formation”

    “Too much of recent economics has involved the development of mathematically elegant results based on assumptions about rational economic man, rather than on observation of human decision making in the real world. Too much financial and monetary economics has treated the specific structure of the financial system itself – the balance sheets of banks, insurance companies, investment banks, mutual funds, hedge funds, as unimportant. And too much of economics has ignored economic history.”

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  • Quiet guy, yes it is quite a read! But it is pretty good, at least he has a good idea of what what wrong and potentially how it can be fixed. On this basis i think the FSA’s position on being draconian on new lending is a posturing position in that they will give way a bit. (in the talk below he basically says that we have to be more prudent but that it will take decades otherwise we stymy growth).

    I think the minsky extract is key. Its basically all about the growth in credit and the fact that at the ponzi stage its not used for productive use but for asset price speculation.

    If you are interested he did a talk on this its here – i think i will post it above – even though it was April.

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