Monday, September 12, 2011

Ideology- More Important than Theory Or Reality

The report by Sir John Vickers into how to reform banking so that we never again have to face a choice between bailing out bankers and risking a domino like collapse of the entire economy has made a number of recommendations- most prominently that retail and investment banking should be ring fenced  from one another.

What a brilliant idea, in order to avoid banking crises we should ensure that all banks either do nice safe low risk retail banking (like Northern Rock for example) or engage purely in risky investment banking so there would not be a knock on effect to the wider economy if they did collapse (like Lehman Brothers).

The Roosevelt administration brought in a similar law during the Great Depression- and bank collapses continued at a rate of 1 a week throughout the 1930s.

In theory spreading risk widely (by engaging in multiple sectors) should make banks sturdier.

And in practice none of the combined banks have actually suffered the kind of collapses that sent the economy into freefall in 2008 but they are the ones we should break up it seems.

So it neither works in theory or reality but in terms of ideology it is a winner.


James Higham said...

Rearranging the deck chairs .....

Matthew said...

I've read, but not checked myself, that the report argues the case in terms of reducing the cost of such a collapse, rather than the likelihood of one (apparently it is much easier to work out which bits to rescue and who owes what, etc).

I'm curious though as to why you think the committee members would be so ideologically driven - they don't seem particularly so?

Ross said...

As Alastair Darling pointed out:

“It is always difficult to say ex ante that you would never intervene to save a particular sort of bank,” he said. “In Lehman, for example, there wasn’t a single retail deposit, but the then American administration allowed it to go down and that brought the rest of the system down on the back of it.

The idea that some kinds of banks could collapse with few repurcussions seems questionable to me.

It is the widespread acceptance of any proposal that is seen as sticking it to the banks that I regard as ideological, not so much the people who wrote the report.

Matthew said...

I don't really buy the 'it wa all Lehman's fault' argument, (not least as its far too convenient for those who want to justifty their failure to note anything was wrong).

But on the people who wrote the report, why then do you think they decided to play to the ideological gallery?