Comments on: The mother of all bailouts: perspective from India http://www.eastasiaforum.org/2008/10/09/the-mother-of-all-bailouts-perspective-from-india/ Economics, Politics and Public Policy in East Asia and the Pacific Thu, 18 Mar 2010 04:17:23 +1100 http://wordpress.org/?v=2.9.2 hourly 1 By: Terry Dwyer, ANU http://www.eastasiaforum.org/2008/10/09/the-mother-of-all-bailouts-perspective-from-india/comment-page-1/#comment-759 Terry Dwyer, ANU Mon, 13 Oct 2008 11:27:42 +0000 http://eastasiaforum.wordpress.com/?p=1607#comment-759 One of the checks we used to see in Australia within the financial system was that we had government-owned banks and insurance offices together with mutual building societies and credit unions. The diversity of institutions with different regulatory controls allowed for more genuine competition. But as the government financial instititutions are privatized and mutual institutions demutualized they move towards shareholder-owned commercial institutions where management is rewarded by stock options. The long-term interests of customers or shareholders is not management's prime objective. The objective functon and the time horizon is what the share price will be in 5 years when the CEO's contract ends -hence risky behaviours and hollowing out balance sheets to pump up reported profits. Fortunately, in Australia these incentives have not had full sway but one can understand why NINJA loans were created in the US. And, behind all this was the figure of Alan Greenspan making sure that the money rate of interest was below the real rate of interest and credit expansion could flow through the world. The parallels with the 1920s years of easy credit and the "New Economy" before 1929 are unnerving. Unfortunately, what we need is a limit to the creation of fiat money, not a helicopter showering of largesse on those who created the mess. When productivity is increasing, real interest rates might be 5%, nominal rates 3% and inflation minus 2% - but central banks print money to take the 2% as they keep the price level (even if they do that). The whole system has been built on clipping the coinage and is inherently unstable. We also need a shift from taxing labour and capital to taxing land values to prevent the emergence of speculative real estate bubbles which are then validated to save the financial institutions which helped create them. The net result is that the next generation can rarely afford a home. The rentier is entrenched. The moral of the story, as we see it unfolding, is borrow by all means, keep borrowing and investing but stay liquid and and never gear TOO much. Make sure you are an infra-marginal bank customer, meet your mortgages and ride out the storm. The banks will be bailed out, they won't be able to foreclose on you. Meanwhile get ready to get more loans to buy hard assets at the bottom as inflation rears its head in response to the new flood of easy credit. It's like surfboard riding. You can do it with your career as well. I had wondered whether Greenspan had stayed on too long, but I must say he rode the wave he created to perfection and avoided the dumping. A first-class performance! For those who enjoy history Murray Rothbard's "The Great Depression" repays reading. One of the checks we used to see in Australia within the financial system was that we had government-owned banks and insurance offices together with mutual building societies and credit unions. The diversity of institutions with different regulatory controls allowed for more genuine competition. But as the government financial instititutions are privatized and mutual institutions demutualized they move towards shareholder-owned commercial institutions where management is rewarded by stock options.

The long-term interests of customers or shareholders is not management’s prime objective. The objective functon and the time horizon is what the share price will be in 5 years when the CEO’s contract ends -hence risky behaviours and hollowing out balance sheets to pump up reported profits.

Fortunately, in Australia these incentives have not had full sway but one can understand why NINJA loans were created in the US.

And, behind all this was the figure of Alan Greenspan making sure that the money rate of interest was below the real rate of interest and credit expansion could flow through the world. The parallels with the 1920s years of easy credit and the “New Economy” before 1929 are unnerving.

Unfortunately, what we need is a limit to the creation of fiat money, not a helicopter showering of largesse on those who created the mess. When productivity is increasing, real interest rates might be 5%, nominal rates 3% and inflation minus 2% – but central banks print money to take the 2% as they keep the price level (even if they do that). The whole system has been built on clipping the coinage and is inherently unstable.

We also need a shift from taxing labour and capital to taxing land values to prevent the emergence of speculative real estate bubbles which are then validated to save the financial institutions which helped create them. The net result is that the next generation can rarely afford a home. The rentier is entrenched.

The moral of the story, as we see it unfolding, is borrow by all means, keep borrowing and investing but stay liquid and and never gear TOO much. Make sure you are an infra-marginal bank customer, meet your mortgages and ride out the storm. The banks will be bailed out, they won’t be able to foreclose on you. Meanwhile get ready to get more loans to buy hard assets at the bottom as inflation rears its head in response to the new flood of easy credit.

It’s like surfboard riding. You can do it with your career as well. I had wondered whether Greenspan had stayed on too long, but I must say he rode the wave he created to perfection and avoided the dumping. A first-class performance!

For those who enjoy history Murray Rothbard’s “The Great Depression” repays reading.

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