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The root of the credit crunch?

by Laurence Rowe published Jun 19, 2009 10:10 PM
Those obscene salaries really were at our expense.

From Donald MacKenzie's review of Gillian Tett's "Fools Gold" in the LRB:

Perhaps most surprising of all, top banks also bought super-senior tranches [of mortgage backed securities] originated by other banks. If you are a top bank, you can borrow at around Libor (that is, after all, what Libor means); if you are particularly well regarded, it may be possible to borrow at a rate a tiny bit lower than Libor. So you could borrow at Libor or below, buy a tranche that seemed safer than safe, and from it earn a slender spread over Libor. It looked like free money. It was especially tempting to traders whose banks ‘charged’ them for their use of capital, in the systems by which traders’ profit is measured, at around Libor, and credited them with the small additional spread that super-senior tranches offered. The slenderness of the spread meant that you had to do the trade on a very large scale to earn a really big bonus, so traders did just that.

Banks enjoy access of the cheap lending because of the explicit (retail depositor's savings accounts) or implicit (interbank lending) guarantee of the state that your money is safe with them. Over the past three decades the regulation of the banking system has been softened and banks have merged into huge entities that are two big to fail.

Big banks in themselves may not be the problem (see Paul Krugman), but their span of activities from boring retail and commercial banking to speculative investment banking surely was. (until it was repealed in 1999 the American Glass-Steagall Act prohibited this crossover). By virtue of their parent, banks' investment arms enjoy cheaper access to capital than their non-bank competitors. This is effectively subsidised by implicit state guarantees of bank debt. An advantage that lay behind the banking mega mergers of recent year, culminating in the disastrous acquisition of ABN by RBS wanting to expand it's activities in the profitable casino of investment banking.

Why was this allowed to happen? In Britain, under a Labour Government?

Instead of building a more just and equitable society by closing the gap between rich and poor, improved health and education would be funded from the profits of speculation. Even with widespread tax avoidance, at the height of the boom profits in the City of London accounted for almost 14% of the total UK tax take.

But we cannot solve the problems in our society by just throwing money at public services, we need to make society itself more equal. In their new book "The Spirit Level", Richard Wilkinson and Kate Pickett convincingly demonstrate that once a society has become developed, increased levels of average wealth no longer bring health and social benefits. Instead levels of inequality in a society determine how happy and healthy we are. Staggeringly, even the relatively rich do better in a more equal society - presumably relieved from the stresses status anxiety. Those greedy bankers would be happier too.

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