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Tuesday, May 29, 2012

Frustrated financial dreams

Special to The Japan Times

HONG KONG — My mother had great dreams for me when I passed the exam to go to a grammar school — that I would one day become a bank manager and have status in the community, wear a suit and tie to work, and earn enough to buy a house, a car, a telephone and television, all things that my family never owned. How she must be turning in her grave — along with all the bank managers of her dreams — at the way that the respectable world of banking and finance has been subverted.

The still mysterious but "stupid" (chief executive Jamie Dimon's word) $2 billion losses by JPMorgan Chase raise again the issue of modern banking and what is happening to the financial system. The questions and challenges posed by the workings of the modern financial system go far beyond TBTF ("too big to fail") banks and into the values of society.

Dimon and his chums should be asked what are the underlying values and contribution to society of their activities. How do the mega-banks reflect the 21st- century version of "The Great American Dream"? Are their modern financial practices turning capitalism into a casino?

Political leaders, especially President Barack Obama and Mitt Romney, Angela Merkel, Francois Hollande, David Cameron, whoever speaks for Japan, and incoming Chinese leader Xi Jinping, should be asked tough questions: How should the financial system contribute to the modern economy, and is it succeeding or failing?

How do they prevent worship of money from corrupting and eating at the heart of the ideals of a civilized society?

It seems ancient history to talk of a bank manager as the epitome of a modern respectable citizen, but it was only 40 to 50 years ago. Indeed, the Irish government still insists on a passport photograph being countersigned by a priest, bank manager, lawyer or school principal or deputy, as if the small town were set in aspic.

My mother's favorite banker was a former Royal Air Force squadron leader and navigator on wartime bombing missions over Germany. He was totally unflappable, utterly respectable, honest and dependable as the day is long, a pillar of the small-town community, provider of loans to small and medium businesses, careful and calculating dispenser of overdrafts to customers who had cash-flow problems, along with gentle fatherly advice on how much time they had to put things into order.

His days have gone. Bank managers also seem to have vanished into history. The last time I went into my local bank, where I have had an account for 42 years, in search of a new checkbook, I was made to stand at a table by a punky 30-something "account executive," who asked me a series of impertinent questions about my account — which only once slipped into debit 25 years ago — and my spending habits before haranguing me about buying the bank's "superior savings" products.

I asked to speak to the manager and he told me, "I am your manager."

Banks have grown and grown, and seemingly become giant cash dispensers, at least for their superpaid senior executives. In spite of promises to bring the big banks down to size, their dominance has gone on increasing even after the 2008 great financial crisis: The top five American banks now account for 56 percent of U.S. gross domestic product, against 43 percent in 2008. Their gargantuan appetite remains insatiable. When there was recent speculation that Standard Chartered Bank might be on the block because Singapore's Temasek might be tempted to sell its 18 percent stake, the names of JPMorgan and Wells Fargo immediately followed as potential buyers.

In spite of Obama's promises that TBTF banks would never again be a threat to the financial system or the taxpayer, they are because of their very size. No government could fail to ride to the rescue of one of these banks if it got into trouble.

In addition, pulling the teeth of the regulations of the Dodd-Frank law to clean up the U.S. financial system means that the government is on the hook in case of another crisis. The TBTF banks endanger the U.S. recovery and its financial system.

In the 2011 annual report of the Federal Reserve Bank of Dallas, Harvey Rosenblum, the head of the bank's research department, throws down a challenge, claiming that the TBTF banks, aided by government laxness and complicity, now present a threat to American capitalism.

He cites Joseph Schumpeter on the importance of "creative destruction," in which weak companies fail and go out of business. Capitalism without failure is religion without sin.

But TBTF has distorted the system by removing the freedom to fail. Government has failed to enforce a level playing field, intervening to prop up the rich and powerful while failing to enforce accountability for the consequences of actions by the vested interests.

There is more to it than that. There is too much evidence that the behemoth banks have lost sight of their customers or indeed the actual economy. The ordinary bank manager has gone. The loans that he or she would have made on the name, face, reputation and collateral of a customer have disappeared into giant collateralized packages and sold on.

The banks have moved on to far bigger things than merely lending money to entrepreneurs with good ideas for great products, or, in the case of old investment banks, helping companies to the stock market to raise money.

The financial world is far bigger than the real economy. How much bigger is a calculated guess. McKinsey last year said that the "world's financial stock, comprising equity market capitalization and outstanding bonds and loans" rose to $212 trillion in 2010. That is about three times total global GDP.

Then there is the vast outer space of derivatives. Michael Snyder in the blog Seeking Alpha says: "The notional value of all derivatives in the world is somewhere between $600 trillion and $1,500 trillion. Nobody knows the real amount, but when this derivative bubble finally bursts, there is not going to be nearly enough money on the entire planet to fix things."

Even though BBC reporters trill about the actions of "investors" on the world's stock markets, computer-driven high-frequency trading makes a travesty of capitalism. As David Llewellyn-Smith claims, "We are now in a world of meta-money." The purpose is to make money by trading — on stocks or currencies. The algorithms don't distinguish between companies or currencies; all trading is done in nanoseconds.

It reminds me of the "Sorcerer's Apprentice," with money flying everywhere, but no one in control to see that it is going to useful purposes, not mere gambling. Unfortunately, the wizard governments have returned to watch the action but not to intervene. They are either mesmerized by the numbers or unwilling to take action against their friends and sponsors.

It is high time for governments to govern. Banks' banking activities of taking money from depositors and lending to customers should be protected and guaranteed by insurance, paid for by the banks themselves. Playing in the great casinos of stock markets and derivatives should be at their own and their shareholders' risk — not covered by a bank license.

Don't issue 2,300 pages of rules, as Dodd-Frank does, with each one spawning myriad loopholes. Use the KISS principle: "Keep it simple stupid."

Kevin Rafferty is editor in chief of PlainWords Media.

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