Preface: “The economy is behaving in ways we did not expect, and new ideas will be needed if we are to prevent a repetition of the Great Recession and restore prosperity.” — Mervyn King
Browsing The End of Alchemy
Credit: Donald J. Sauder, CPA | CVA
Is something wrong with the global banking system? Mervyn King knows firsthand. With a decade of leadership at the Bank of England, including time during the 2008 global financial crisis, Mervyn writes about the history and future of banking and provides a clear clarion call for work to solving the long-term risk of a credit powered banking system.
In his 2016 448 page book The End of Alchemy Mervyn King outlines the growing global banking risks with over-leveraging of and excessive risk assumptions with real estate loans, derivatives, and financial engineering driven excess with banker facing career sanctions for missing forward profit guidance.
While economists apply econometric models to endeavor to make accurate predictions about the future for planning purposes, uncertainty abounds. That’s why we have insurance enterprises because such impossible to predict events exist that cannot be forecasted or measured. Without effective risk management tools as a necessary part of the capitalist system, the financial system would fail, and perhaps in grand way. Yet even with strong safety nets, the uncertainty that abounds can be still be alarming disruptive. This results in the fact that currently financial crisis’ and recessions as unavoidable outcomes of from the banking system structure.
In the free-market economy it is believed that people act in their own best interests. Yet, when one party fails to act in fairly and fails to keep a “contract” this behavior is harmful to board trust in the system and requires society to apply resolutions with a proper judicial system measures from checks and balances.
Money is only as good as the trust the users place in it. If trust were to fail in the financial system on a large scale the entire system would implode. Therefore, those who are part of the system must be willing prisoners to keep the system working effectively.
A central banks role is act as a lender of last resort, that is to provide whatever liquidity is necessary to maintain trust in the banking system. This is a “whatever credit is required will be provided” mechanism, but hence bank are to only loan for good collateral assets to prevent losses to depositors. When the necessary 2008 emergency funding was required, one major problem was that the liquidity required did not have good collateral to pillar the loans. Therefore, the riskiness of the loans required the lender of last resort to step up to the counter to keep the system intact, necessitated moral hazard on behalf of qualifying collateral.
To maintain the financial system, the obvious system disequilibrium is that over a duration of time debt has grown to excessive levels creating a low interest rate environment, that now imprisons the financial systems long-term viability. The Bank of England for 315 years from 1694 to 2009 never set bank interest rates below 2%. With banking system mired today in near zero rates, that 2% anchor level, never breached in centuries, seems to have perhaps untethered from the alchemy ship, and hence would raise the question – where are the banking systems risks taking the world?
The book looks at a fundamental question of why experts have talking about “recovery” for more than a decade after 2008. What trust should be placed in the systems long-term capacity to prevent a greater financial crisis from re-occurring?
What is next? Aside from the The End of Alchemy, the United States Federal Reserve has recently (June 2021) proposed what may be the first significant steps to launching a virtual currency, that would reshape the entire banking infrastructure and future of financial alchemy in the United States . This idea of a fully digital US dollar that was unthinkable just a few short years ago, has huge banking implication. One of key considerations of importance, is that with digital currency there are no needs for the icon of Main Street American for centuries – the cornerstone architecture of a local bank.
Is this simple a currency proposition that a digital dollar be used alongside the Us Dollar currency, perhaps the single largest shift in American commerce since the Tea Act in 1773 by the British Parliament? Who knows? Perhaps a John on the Isle of Patmos?
In The End of Alchemy Mervyn King gives a clear guide with the futuristic concept of a financial system with a “Pawnbroker for all Seasons” proposal. And, for the rest of story read: The End of Alchemy – Money, Banking, and the Future of the Global Economy