IT’S MUCH MORE widely accepted that backward-looking efforts to fix the cause of the last financial crisis have failed to lead us to an era of banking or economic enlightenment. That’s what I wrote a couple of weeks ago and I’m sticking with that view. Despite what Mark Carney wrote in his letter to G20 leaders, or the conclusions of the FSB’s second annual update on Implementation and Effects of the G20 Financial Regulatory Reforms, both out ahead of the Hangzhou summit.
In his letter, Carney has four main positive points: the G20 reform agenda has fundamentally strengthened the global financial system; the financial system is now less reliant on banks and more reliant on markets; G20 leaders need to fully implement in-process reforms; and we need measures to support more resilient and inclusive globalisation built on sustainable cross-border investment.
But in saying more needs to be done, Carney effectively admitted at the same time the reform programme has failed in three of its four core areas: ending TBTF, making derivatives markets safer, and transforming shadow banking into resilient market-based finance.
Far be it from me to naysay the BoE governor and FSB chairman, but on the evidence so far I’d say it’s arguable that the financial system is more reliant – certainly enduringly so – on markets. If it is, it’s less down to G20 reforms promoting markets and more down to those same reforms having battered the banking system into a state of capitulation via hefty capital and liquidity ratios and a host of other operational burdens. If that was the desired outcome, it’s not healthy.
Put another way, if capital markets issuance has grown significantly, it’s less a case of reforms having driven a seismic shift away from bank lending; more a reaction to the current rate environment created by Carney (in his day job) and the merry band of major central bankers whose monetary blunt instruments have created a set of once-in-a-lifetime issuing conditions.
The FSB says the growth of market-based finance needs to be matched with appropriate measures to address associated financial stability risks, so it’s keeping an eye on the effects of its reforms and says it’ll adjust policies where necessary to address material unintended consequences. “Work is underway,” it said, “to address the conceptual and empirical challenges in evaluating whether the reforms taken together are having their intended effects on the financial system and the broader economy.”
Guys, save yourself some time: they’re not. It’s scarcely believable, in my view, that Carney can talk with a straight face about there being limited evidence of a broad deterioration in bond market liquidity in normal times, when the market has been up in arms about it for so long. The market as in banks, investors and, most stridently, issuers.
And emerging market and developing economies may have not reported any major unintended consequences from implementing the reforms, but the FSB’s acknowledgement in the same breath that global banks are reducing their presence and activities in these markets strikes me as a pretty major one right there.
IF REFORMS HAVE rendered the financial system less susceptible to systemic shocks, you have to ask: at what cost? If the cost is an impotent banking sector that’s struggling to be profitable and where G-SIBs and national champions are being forced to shrink headcount and balance sheets, ditch business lines, exit geographical locations, alter client service levels and legal structures, hire armies of compliance staff and spend billions on regulatory fulfilment, isn’t that a Pyrrhic victory?
This is all supposed ultimately to be about providing finance to the real economy to create growth. On this topic, it’s worth pointing out to policymakers that capital markets proceeds on the corporate side have tended not to be used for business investment. A big chunk has been used to finance share buybacks, distribute cash to shareholders, pay executive compensation, launch financially-engineered M&A or to stockpile cash. Not sure that’s the point.
What is a point, though, is that it’s impossible to make conclusions while we’re immersed in this monetary experiment. We need a normalised rate environment. I’d counsel policymakers to hold fire until then.
ON TBTF, INCIDENTALLY, I was fascinated to see John Cryan calling for cross-border and in-country bank mergers in Europe, rallying against the fragmentation that is killing profitability. I’ve love to know how deeply he got into merger talks with Martin Zielke, his counterpart at Commerzbank, as their talks were happening just as DZ Bank’s merger with WGZ Bank was finalising shareholder approval and NordLB confirmed it would be buying the rest of Bremer Landesbank.
A lot of the chat around DB/Commerz focused on the implausibility of the merger from a business strategy perspective, not to mention the political difficulty of pushing through a marriage that would result in large-scale branch closures and headcount reductions. But then again: assume DB finally offloads Postbank and sells a large minority stake in its asset and wealth management business. What’s left?
A beleaguered investment bank with a massive illiquid derivatives book. In that scenario, gaining an SME-focused spoke in its strategy wheel would offer sound diversification benefits. UBS and SBC made it happen. I say bring on Deutsche Commerzbank.
Which brings me to my final point: if we do start to see banking consolidation and the rise of bigger institutions, it’ll be happening in an environment where monetary chiefs are actively encouraging investment in risky assets fuelled by cheap borrowing. The more policymakers and lawmakers try to push the financial system aggressively away from the pre-2008 vintage the more it seems to resemble it. Weird …
