Looking To The Future

4th September 09 – Looking to the future

If we have turned the corner in the credit crisis, the question inevitably arises as to what can be put in place to avoid a repeat performance. The deputy governor of the Bank of England has been putting his mind to this and had some thoughts for a conference held in Barcelona.

Charles Bean referred to a “tumultuous” two years for the global economy and went on to say that “pre-emptive action” would be needed to cool future credit and asset price booms. “We have seen the eruption of a systematic financial crisis of quite unusual intensity and international reach. The nearest precedent is probably the widespread closing of international capital markets on the eve of the First World War.”

Mr Bean had two proposals:-

• The introduction of pro-cyclical capital requirements for banks. They would be required to build up extra capital during a credit and asset price boom and which could be run down in the event of a bust

• Increase the risk weights attached to lending when calculating how much capital a bank requires.

Placed in an historical context, Mr Bean proffered this view, “In all probability, the Great Panic and the Great Contraction of 2008 will join the Great Depression of the 1930’s and the Great Inflation of the 1970’s as discipline defining events.” One other constructive thought was that such financial crises should be treated as a central feature of capitalist economics and factored into economic models accordingly. They should not be explained away as “pathologies that happen at other times or in other places.”

Not one to overstate the case, the deputy governor also told the conference that the initial response to the B of E’s QE programme had been “moderately encouraging.”

£175bn sounds a lot of money for moderation.

Pearl of the week

“You have a financial system that creates products which at one level help you to hedge volatility but which can also be used in ways that create more volatility. I don’t know whether that means the world would have been better off without any credit default swaps, or simply some”.

Lord Turner of Ecchinswell – Chairman of the FSA