Design a better banking system [Discussion]

Anonymous1987 · 03-12-2009 11:42PM

nesf wrote: »

What you'd find interesting is the hysteresis effect in economics. It's an idea that's been around for a few decades and there's a lot of argument for and against the idea. It centres around how spikes in unemployment during recessions have long term effects on unemployment rates when the economy recovers (i.e. unemployment levels stay higher than one would expect after a recession than they would if the effect of the spike of unemployment was transitory).

Hadn't heard of it sounds very interesting though and topical in Ireland's case.

nesf · 03-12-2009 11:47PM

Anonymous1987 wrote: »

Hadn't heard of it sounds very interesting though and topical in Ireland's case.

It's introduced in 4th year/1st year Masters course books I think in this country. Not necessarily something that one would see in an undergrad course outside of Trinity I think. Could be wrong though.

Most of debate I've seen has been about why it happens rather than if it happens, it seems to be fairly agreed that unemployment spikes do have long term effects.

Hasschu · 05-12-2009 06:01PM

A banking system evolves and is too complex to be designed. The transition would be chaotic and for that reason alone it will be steady as she goes until she piles up on the rocks. There has to be a crisis or a crisis has to be created before major changes occur. The market would "design" a better banking system if the governments of the day did not rush to the aid of their friends, relations, cronies, contributors and others. Creative destruction works wonders and concentrates the mind like nothing else. By banking system I mean something that will last the 400-600 year life that is expected of any decent economic system. The Austrians have put forth a number of solutions that governments would not implement because they have to be seen to be helping the girls and boys now, not in the medium or long term. As a matter of fact if one considers Japan to be the canary in the coal mine, to be followed by the US, EU and others we might consider the 21st century as the last century of capitalism as we know it. What 1989 was to communism and 1917 to Russian feudalism could occur to capitalism and quite suddenly at that. I would not place any bets on what decade this will occur but I am certain it will occur. The vision that pops in to my head is that of bowler hatted gentlemen using wet noodles to push bundles of bank notes into the economy, futility!

Flamed Diving · 05-12-2009 06:14PM

What do you mean by transition, in the context of this thread?

Hasschu · 05-12-2009 08:27PM

"The powers that be have decided that enough is enough". Presumably we are talking, burn it to the foundation and start over. The pillars as they existed in the past have been melted into each other with new pinnacles of complexity added. I am operating from memory here so correct me if I am wrong. The pillars were 1) Branch deposit taking banks (retail) lending to individuals and small businesses. 2) Commercial banks dealing with medium to large business transactions on a short term basis. Deposit taking but only above set amounts and from businesses. 3) Investment banks dealing mostly with large businesses both in a lending and advisory capacity. Privately funded. 4) Trust institutions often owned by banks but operated at arms length. 5) Mortgage or Building Societies both deposit taking and specialized lending in the retail market. 6) Securities and commodities trading. 7) Mutual funds. 8) Hedge funds. 9) Insurance. Overlying the foregoing are the Central Banks,, Deposit Insurance Institutions, Pension Plan Regulators and guarantors, private and public regulation of most activities.
There is a lot to tinker with there but root and stem surgery will only occur when the system is broken without the slightest shadow of a doubt. In my opinion not only are institutions too big to fail they are too complex and interconnected to break up or to rescue. Hence the probability of chaos during the transition from the legacy system to the new and improved system. We must never forget that we are dealing with complex houses of cards built on trust, any action that hints at the system lacking cast iron certainty undermines trust. There is no reason why a gov't cannot promote the establishment of Community Development banks or specialized funds such as pension funds for example. That would be undermining the established system from below and replacing it over 50-100 years.

Flamed Diving · 05-12-2009 08:49PM

Ah right. Perhaps I should have put it like this.

"A new world has been discovered and we are designing the financial system from scratch"

The old system need not be transitioned from. If you want this to be set on another planet, if it will help you distance yourself from the current situation, then so be it. Hell, I will even throw in those Men In Black memory-erasing sticks.

I just want to see what people would do with a blank slate. So not only are we not burning to the foundations. We are actually building foundations for the first time. What would you do?

Euroland · 09-12-2009 01:13PM

Flamed Diving wrote: »

I thought this might be an interesting thought exercise for the Economics forum. Imagine that we are chosen to design a banking system from scratch. The powers that be have decided enough is enough and want one to be built on theoretical foundations. No more financial crises, no crony banks, no taxpayers bailing out bankers, how do we achieve this? How do we set the rules of the game, so as to avoid these problems?

I thought I would outline a few rules:
This is not a thread to have a rant about the current crisis

Posts such as "No point because bankers are evil" shall be labelled wrong, by default

All points of view are welcome, no matter how left-of-field, so long as they are valid, sensible contributions

Ok, so where do we begin? I think the first matter I would like to bring up is the matter of competition. Since we will be issuing licenses for the banks, should there be some restrictions on the number of banks? Should we simply allow licenses to be freely available to those that want them? Might we be better off having a monopolistic system? How about the Keirstu system? Perhaps different banks restricted to different sectors of the economy?

Discuss, my beauties. Discuss.

EDIT: Some people seem to have trouble getting this, so I will further explain. This is an abstraction. There is no banking system. We are starting from scratch.

It is very simple:

Split all banks in two entities:

1) First entity - this entity would absorb lending and saving facilities, and daily transactions. All entities of this type must be fully nationalised, allowing the State to have full control over lending, in such a way significantly minimising the risks associated with classic lending. These entities would be fully backed by the State. The state also would vigorously monitor construction sector and property market and ease or tighten lending requirements depending on the actual developments in the both sectors. All complex financing structures should be transferred to the entites of the second type.

2) Second entity - this entity would take all remaining activities usually associated with investment banking/trading/wealth and asset management/etc. All entities of this type should be fully sold into private hands, in such a way completely eleminating risks to the State associated with the abovementioned high-risk activities. The State should be completely banned from saving these institutions in case of default.

Flamed Diving · 09-12-2009 02:18PM

Euroland wrote: »

It is very simple:

Split all banks in two entities:

1) First entity - this entity would absorb lending and saving facilities, and daily transactions. All entities of this type must be fully nationalised, allowing the State to have full control over lending, in such a way significantly minimising the risks associated with classic lending. These entities would be fully backed by the State. The state also would vigorously monitor construction sector and property market and ease or tighten lending requirements depending on the actual developments in the both sectors. All complex financing structures should be transferred to the entites of the second type.

2) Second entity - this entity would take all remaining activities usually associated with investment banking/trading/wealth and asset management/etc. All entities of this type should be fully sold into private hands, in such a way completely eleminating risks to the State associated with the abovementioned high-risk activities. The State should be completely banned from saving these institutions in case of default.

Yeah, because the State tends to follow anti-cyclical economic policies, don't they?

Christ, what you are suggesting would make things a million times worse than they are now.

Euroland · 09-12-2009 03:23PM

Flamed Diving wrote: »

Christ, what you are suggesting would make things a million times worse than they are now.

Nonsense. I would advise you to research this idea in depth first; you would be surprised to know how many prominent banking/financial figures now advising similar approaches. This is the only way out of any future similar crisis.

Flamed Diving · 09-12-2009 05:04PM

Euroland wrote: »

Nonsense. I would advise you to research this idea in depth first; you would be surprised to know how many prominent banking/financial figures now advising similar approaches. This is the only way out of any future similar crisis.

But... politicians tend to not follow anti-cyclical policies... Without a political leader with a strong aversion to, say, asset bubbles, then this model fails utterly. Given our recent experience, I would not expect to find many a political leader who will take the heat out of a rising economy. It just doesn't seem to happen that way in democratic systems.

Anonymous1987 · 10-12-2009 07:39PM

Another problem with the banks seemed to be CEO's making decisions for short term gain which ultimately would have been detrimental for the bank in the long run. To counter this top management should recieve a % of income in the form of equity which can only be sold within a certain time frame e.g. a year after resigning. Again the problem would be what % of income should be set and for how long.

Seems like Goldman Sachs are attempting to beat the regulators to it, hurray

Goldman Sachs Announces Changes To 2009 Compensation Program December 10, 2009 Management Committee To Receive No Cash Bonus for 2009 All Discretionary Compensation Awarded As Equity “Shares At Risk” Equity
•“Shares At Risk” Subject to Sales Restrictions For Five Years
• The firm’s entire 30-person management committee, which comprises all global divisional and regional leadership, will receive 100 percent of their discretionary compensation in the form of Shares at Risk, which are subject to restrictions for five years. Discretionary compensation represents the vast majority of senior management's compensation and is directly tied to the firm's overall performance.
• Shares at Risk cannot be sold for five years, in addition to other restrictions.
• The five-year holding period on Shares at Risk includes an enhanced recapture provision that will permit the firm to recapture the shares in cases where the employee engaged in materially improper risk analysis or failed sufficiently to raise concerns about risks. Enhancing our recapture provision is intended to ensure that our employees are accountable for the future impact of their decisions, to reinforce the importance of risk controls to the firm and to make clear that our compensation practices do not reward taking excessive risk.
• The enhanced recapture rights build off an existing clawback mechanism which goes well beyond employee acts of fraud or malfeasance and includes any conduct that is detrimental to the firm, including conduct resulting in a material restatement of the financial statements or material financial harm to the firm or one of its business units.
• Shareholders will have an advisory vote on the firm’s compensation principles and the compensation of its named executive officers at the firm’s Annual Meeting of Shareholders in 2010.

Hasschu · 12-12-2009 02:02AM

The two tier system sounds plausible. The lowest tier and the one considered to be an essential national service would be deposit taking institutions lending to individuals and small businesses. It would have to be tightly regulated along the following lines.
Reserves in the range 8-10%
Loans up to Euro 500,000 to individuals with collateral not less than 120% of the loan.
Loans to small business up to Euro 1,000,000 with collateral not less than 125% of the loan.

Deposit insurance up to Euro 200,000 with the state as insurer of last resort or reinsurer if you prefer.

Ireland is too small to have banks competing at the low end of the market so there would be one national branch banking institution. Lots of objections to this but they cut each others throats and are leading the country into bankruptcy.

The market above a half a million and one million would not be deposit taking and could be left to anyone that wishes to enter it as a true free market player. The state would have to make it crystal clear that only the low tier player is protected.
We are not the US, UK or Germany we are more like Iceland, Slovenia, Latvia. Denmark and it is time we dropped the delusions about our ability to compete in Banking or any finance related activity where we have no natural advantage and are sorely lacking in regulatory know how.

As for the Gov'ts role in banking, just look at the lunacy of cash for trash in the budget and ask yourself would you let them take care of your cat over the weekend.

CRoche09 · 16-12-2009 01:23AM

Hi Joan Burton

Design a better banking system [Discussion]

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