7 ms·

I agree with every single point you've made except for the third (ie about central banks). Central banks need to act as the "lender of last resort" - however, w

I agree with every single point you've made except for the third (ie about central banks). Central banks need to act as the "lender of last resort" - however, what needs to be fixed is the transmission mechanism - so that the emergency loans reach the economy when it needs it and not be used up by intermediary banks trying to shore up their capital reserves when they've blown them up playing roulette. But I think, if points 1 & 2 are addressed well enough, the transmission mechanism would work better and the banks would become what they ought to be - conduits for monetary policy and price discovery. Point 4 - the reason Wall Street bankers get 10-100x the salary of a top-notch achiever in any other sector is because the government has created regulations which allow banks to have an oligopoly in this sector and pay its minions disproportionately high salaries - what saddens me is the same government which wants its best students to go into STEM ends up encouraging them to go into a non-productive profession.

JumpCrisscross 14y ago
Central bank as lenders of last reserve barricade against liquidity panics. They need to funnel capital directly into banks' reserves. They don't guard against insolvency (Treasury) nor "funnel money to the real economy" (Congress). One of the best bank rescues of all time, Sweden's, involved pumping capital into banks' equity. Bankers earn less than traders and PE guys. For the same reason that Google has to pay exorbitantly for an engineer because he can walk out into a startup a bank has to keep pay competitive with hedge funds et al. Create/buy parity is maintained. For measure on "non-productive professions" look at how hard emerging economies are working to build domestic fixed income and equity markets. P.S. Anticipating a line of argument, no, the militant high-frequency guys aren't taking home even close to the lion's share of compensation.
- photon137 14y ago
  Central banks do funnel money into the real economy via their monetary policy (Congress can only provide fiscal stimulus). And lack of liquidity to the extent that it prevents current liabilities to be serviced causes insolvency - something which a Central Bank does guard against. By "bankers", I meant to include the markets guys along with the IBD/M&A/ECM/DCM people. PE people come from the higher echelons of the latter category - which isn't too poorly paid. PE/HF people get the rewards for the risk they take, that's their business - this isn't true for bank-based traders who rely on cheap funding enabled by implicit guarantees from the taxpayer and non-transparent bid-ask spreads and collateral funding rates due to them always having more info than their clients about the market they trade in because, at the end of the day, they are the source for the bid-ask spread and they are the source for the collateral - there's no other conduit - in my book, it's called an oligopoly. They are not reaping returns commensurate to the value they actually provide. Also, a top-notch Google/MS engineer isn't nearly as highly paid as a top HF/bank-prop(yes, the species still exists) trader unless they have equity upshot. As for emerging markets - they aren't trying too hard. It's the western world which wants them to do that so that they can tap into returns more easily which isn't that easy to do with just off-shore/non-deliverable instruments. Emerging economies such as China and India often rely on capital controls for their competitiveness and continued ability to import commodities. Their domestic corporate funding still relies on bank loans. Granted, having more capital markets leads to more transparent pricing and probably cheaper funding - but saying cheap funding is more valuable than the contribution of engineers and doctors and others who translate that funding into real, physical growth is naive, at best.
  - JumpCrisscross 14y ago
    Sorry, I was speaking of central banks within their capacity as lenders of last resort. Monetary policy works through multiple financial intermediaries, not just the banks. I agree that federally insured banks shouldn't have prop desks - but that probably means they won't be making markets, either. The emerging markets are very ambitiously trying to develop capital markets. Singapore issues domestic debt explicitly for the purpose of nurturing a domestic bond market. Shenzen has dangled, in front of me and colleagues, heroic sums to build an equities market making operation. What is your source for saying EMs aren't pursuing a more sophisticated financial system?
    - photon137 14y ago
      Singapore is a different sort of "emerging-market", to be honest - it's economy has historically been far too open (and too small) to disallow that sort of thing from happening. A similar theme applies to South Korea - which probably has the most sophisticated bond market in Asia (ex-Japan). Even for Japan as well, the most sophisticated market in Asia, the keiretsu system drives most of the inter-corporate funding and credit. The equity capital markets in both China and India are peanuts as compared to the bank-lending market for corporate funding and that's likely to remain the case for the foreseeable future - a crash in the HSI or the Sensex doesn't spell doom for the economy. The fact that we see China willing to allow RMB-trading in the London markets or to build an equity market-making operation implies a tactical funding alternative - not wholesale market "liberalization" as we perceive it. As far as the debt-markets are concerned, these countries have been extremely wary of the implications - especially post the credit-crisis and the disastrous impact on high-yield names in the developed world. Non-performing corporate loans are a big problem as it is in both these nations and unsafe leverage is avoided at all costs. Foreign-currency bond issuances are strictly controlled by their respective central banks and domestic-currency corporate issuance is virtually non-existent. For a recent example of strict capital controls: to safeguard the Indian economy against commodity inflation and INR weakness on general growth concerns, the RBI imposed strict conditions on importers/exporters specifically and on FII transactions generally.
  - deleted 14y ago
    [deleted]
arohner 14y ago
> Central banks need to act as the "lender of last resort" Central banks act as lender of last resort because fractional reserve banking is broken by design. It's essentially very similar to a race condition in software. Bank runs are a very bad situation that happens only under "hypothetical", or "very rare" situations. The central bank is trying to patch things after the fact. Imagine trying to resolve a race condition that corrupts memory by undoing the corruption after the fact. Insanity. Rather than put a bandaid over the race condition, eliminate the race. The race happens because customers put a large pile of money into the bank, and don't specify when they need it back. The bank assumes the customer will leave it in the bank for a certain amount of time. Then if customers get spooked because of something they hear on the news, they'll want to take all their money out. The result? Only 10% of it is liquid, and the rest is tied up in loans that won't be repaid for years. If the next customer wants to take their cash out, the bank is forced to sell short the loans it issued (which could be entirely legitimate and profitable). The bank now faces bankruptcy. In this situation, the bank run is rational, because the first N customers will get 100% of their money out, but the N+1th might only get 90% of their cash back. It's worth pointing out this flaw is present, and exploitable in any fractional reserve bank at any time, regardless of how good its finances are. All you need is enough customers taking their money out at the same time. The solution is really very simple. Require the customer to specify when they'll need their money back, and the bank is not allowed to loan out that money for shorter periods of time than the customer specified. i.e. if I have an account at a bank, I'd say "I will always need access to $1000 in cash at any time of the day. Then I'll save $5000 for a vacation in six months, and won't need to touch the rest for 10 years." The bank then matches up the money you stored with available loans. i.e. your $5k in vacation money can only be loaned to other clients at terms of six months or shorter, so you and the bank have a clear understanding of when the money is available. What this means is bank runs are not rational (nor possible, because you have a contractual obligation about when you get your money back). No central bank nor lender of last resort is necessary now.
- JumpCrisscross 14y ago
  Actually the solution is simpler: deposit insurance. Strikingly, economists thought about these things before Hacker News. Restricting banks to time deposits pushes the liquidity problem onto the depositors (you need to break your time deposit for an emergency? Nope, can't do it). It is also similar to how post-war financial repression created the Eurodollar savings markets that produced much of the mess in the 1980s. P.S. shadow banks try to do this by raising money wholesale at fixed maturities. Problem is nobody wants to lend to a bank unsecured for long tenors. Hence, one constricts the yield curve to the short, volatile end.

JumpCrisscross 14y ago

Central bank as lenders of last reserve barricade against liquidity panics. They need to funnel capital directly into banks' reserves. They don't guard against insolvency (Treasury) nor "funnel money to the real economy" (Congress). One of the best bank rescues of all time, Sweden's, involved pumping capital into banks' equity. Bankers earn less than traders and PE guys. For the same reason that Google has to pay exorbitantly for an engineer because he can walk out into a startup a bank has to keep pay competitive with hedge funds et al. Create/buy parity is maintained. For measure on "non-productive professions" look at how hard emerging economies are working to build domestic fixed income and equity markets. P.S. Anticipating a line of argument, no, the militant high-frequency guys aren't taking home even close to the lion's share of compensation.

photon137 14y ago
Central banks do funnel money into the real economy via their monetary policy (Congress can only provide fiscal stimulus). And lack of liquidity to the extent that it prevents current liabilities to be serviced causes insolvency - something which a Central Bank does guard against. By "bankers", I meant to include the markets guys along with the IBD/M&A/ECM/DCM people. PE people come from the higher echelons of the latter category - which isn't too poorly paid. PE/HF people get the rewards for the risk they take, that's their business - this isn't true for bank-based traders who rely on cheap funding enabled by implicit guarantees from the taxpayer and non-transparent bid-ask spreads and collateral funding rates due to them always having more info than their clients about the market they trade in because, at the end of the day, they are the source for the bid-ask spread and they are the source for the collateral - there's no other conduit - in my book, it's called an oligopoly. They are not reaping returns commensurate to the value they actually provide. Also, a top-notch Google/MS engineer isn't nearly as highly paid as a top HF/bank-prop(yes, the species still exists) trader unless they have equity upshot. As for emerging markets - they aren't trying too hard. It's the western world which wants them to do that so that they can tap into returns more easily which isn't that easy to do with just off-shore/non-deliverable instruments. Emerging economies such as China and India often rely on capital controls for their competitiveness and continued ability to import commodities. Their domestic corporate funding still relies on bank loans. Granted, having more capital markets leads to more transparent pricing and probably cheaper funding - but saying cheap funding is more valuable than the contribution of engineers and doctors and others who translate that funding into real, physical growth is naive, at best.
- JumpCrisscross 14y ago
  Sorry, I was speaking of central banks within their capacity as lenders of last resort. Monetary policy works through multiple financial intermediaries, not just the banks. I agree that federally insured banks shouldn't have prop desks - but that probably means they won't be making markets, either. The emerging markets are very ambitiously trying to develop capital markets. Singapore issues domestic debt explicitly for the purpose of nurturing a domestic bond market. Shenzen has dangled, in front of me and colleagues, heroic sums to build an equities market making operation. What is your source for saying EMs aren't pursuing a more sophisticated financial system?
  - photon137 14y ago
    Singapore is a different sort of "emerging-market", to be honest - it's economy has historically been far too open (and too small) to disallow that sort of thing from happening. A similar theme applies to South Korea - which probably has the most sophisticated bond market in Asia (ex-Japan). Even for Japan as well, the most sophisticated market in Asia, the keiretsu system drives most of the inter-corporate funding and credit. The equity capital markets in both China and India are peanuts as compared to the bank-lending market for corporate funding and that's likely to remain the case for the foreseeable future - a crash in the HSI or the Sensex doesn't spell doom for the economy. The fact that we see China willing to allow RMB-trading in the London markets or to build an equity market-making operation implies a tactical funding alternative - not wholesale market "liberalization" as we perceive it. As far as the debt-markets are concerned, these countries have been extremely wary of the implications - especially post the credit-crisis and the disastrous impact on high-yield names in the developed world. Non-performing corporate loans are a big problem as it is in both these nations and unsafe leverage is avoided at all costs. Foreign-currency bond issuances are strictly controlled by their respective central banks and domestic-currency corporate issuance is virtually non-existent. For a recent example of strict capital controls: to safeguard the Indian economy against commodity inflation and INR weakness on general growth concerns, the RBI imposed strict conditions on importers/exporters specifically and on FII transactions generally.
- deleted 14y ago
  [deleted]

arohner 14y ago

> Central banks need to act as the "lender of last resort" Central banks act as lender of last resort because fractional reserve banking is broken by design. It's essentially very similar to a race condition in software. Bank runs are a very bad situation that happens only under "hypothetical", or "very rare" situations. The central bank is trying to patch things after the fact. Imagine trying to resolve a race condition that corrupts memory by undoing the corruption after the fact. Insanity. Rather than put a bandaid over the race condition, eliminate the race. The race happens because customers put a large pile of money into the bank, and don't specify when they need it back. The bank assumes the customer will leave it in the bank for a certain amount of time. Then if customers get spooked because of something they hear on the news, they'll want to take all their money out. The result? Only 10% of it is liquid, and the rest is tied up in loans that won't be repaid for years. If the next customer wants to take their cash out, the bank is forced to sell short the loans it issued (which could be entirely legitimate and profitable). The bank now faces bankruptcy. In this situation, the bank run is rational, because the first N customers will get 100% of their money out, but the N+1th might only get 90% of their cash back. It's worth pointing out this flaw is present, and exploitable in any fractional reserve bank at any time, regardless of how good its finances are. All you need is enough customers taking their money out at the same time. The solution is really very simple. Require the customer to specify when they'll need their money back, and the bank is not allowed to loan out that money for shorter periods of time than the customer specified. i.e. if I have an account at a bank, I'd say "I will always need access to $1000 in cash at any time of the day. Then I'll save $5000 for a vacation in six months, and won't need to touch the rest for 10 years." The bank then matches up the money you stored with available loans. i.e. your $5k in vacation money can only be loaned to other clients at terms of six months or shorter, so you and the bank have a clear understanding of when the money is available. What this means is bank runs are not rational (nor possible, because you have a contractual obligation about when you get your money back). No central bank nor lender of last resort is necessary now.

JumpCrisscross 14y ago
Actually the solution is simpler: deposit insurance. Strikingly, economists thought about these things before Hacker News. Restricting banks to time deposits pushes the liquidity problem onto the depositors (you need to break your time deposit for an emergency? Nope, can't do it). It is also similar to how post-war financial repression created the Eurodollar savings markets that produced much of the mess in the 1980s. P.S. shadow banks try to do this by raising money wholesale at fixed maturities. Problem is nobody wants to lend to a bank unsecured for long tenors. Hence, one constricts the yield curve to the short, volatile end.