NEWSMAKERS
Moral hazard brigade on the march
After the plaudits come the brickbats. The Fed basked in a warm glow of approval – from most if not all commentators – for its initial handling of the Bear Sterns affair. But then Ben Bernanke and Hank Paulson “caved in” to JPMorgan’s renegotiation of the terms on which it is acquiring Bear Sterns: keeping taxpayers on the hook for $29 billion of Bear Stern’s liabilities even while allowing shareholders to be paid three times as much as the original deal.
“The price of this Fed intervention may well be far more regulation of our financial markets, not to mention a reduction in Fed independence”, thundered the Wall Street Journal.
As Allan Meltzer, the Fed’s historian, has pointed out, after examining many such episodes, the pressures on the central bank at such times of market crisis are intense and unremitting. It is very difficult for an outsider to grasp their dilemmas.
Meltzer’s latest comment to Newsmakers on Bear Sterns is savage:
“Wiping out most of the equity and removing management is not a bailout. That's the route Congress authorized after the S&L defaults. But guaranteeing $29 billion of risky assets is an unprecedented action. And wrong! Telling Dimon, boss of JPM, that they had to have agreement before 8PM Sunday gave the store away.”
Right or wrong, what is becoming clear is that actions taken now in the heat of the moment will shape not only the financial system, but also the relationship between central banks and ministries of finance for years to come.
Last call for Windsor!
There is still time – just – to register for Central Banking Seminar Series for Spring 2008. Join fellow central bankers and supervisors for two weeks of exciting and challenging discussions with fellow professionals from around the world. Six training courses/seminars to be held March 30 to April 10 cover key aspects of the work of central bankers and other officials engaged in making public policy towards financial markets. For programme details and how to register, please click on the following link: www.centralbanking.co.uk/conferences/index.htm
Trooping in to see “the Guv’nor”
20 March: Mervyn King, the governor of the Bank of England, receives the chief executives of the five biggest UK banks – HSBC, Halifax Bank of Scotland, the Royal Bank of Scotland, Lloyds TSB and Barclays. The five ask him to widen the range of eligible collateral for open market operations along the same lines as the “more lenient” European Central Bank and Federal Reserve. That morning Angela Knight, head of the British Bankers Association, tells the BBC they will also beg the Bank for more funds.
Newsmakers had a spy in the room:
MK: “Welcome, good day, gentleman, what can I do for you?”
The Five: “Congratulations on your rather unexpected reappointment, governor. Can we have some more money please?”
MK: “Well, now, you will of course have read my letter to John McFall, chairman of the treasury select committee, last September; in case you have mislaid it, I have copies here. This puts my views rather well. You will see I warn against moral hazard. I will read it out to you.”
The Five (interrupting): “There’s no need, we remember that letter – all a bit academic, wasn’t it, governor? A bit out of touch? We rather supposed that your subsequent experience with Northern Rock and all the trouble that caused you might have made you re-think your position. We really need more money, you see, rather large amounts actually, and by this afternoon, please.”
MK: “You are not asking for a public subsidy, I hope.”
The Five: “Good Lord, no; just help!”
MK: “Glad we got that clear. We can roll over the £5 billion in additional reserves supplied earlier this week (why you did not ask for enough reserves to start with, I don’t know) and think about other things we might be able to do. But on the main point at issue, I must disappoint you. I have not changed my views one iota, in fact rather the contrary. The more I think about it, the more I believe you lot must take much of the blame for getting us into this mess, and you and your shareholders have to realise that and pay the price for the risks you took. Frankly I don’t like your attitude; you behave as if you had a right to call on public money, whereas you should come here as supplicants, as penitent sinners – it is Easter next weekend, you know.”
The Five: “But the stability of the UK banking system is at stake! Your job at the central bank is to stand behind the banking system in case of need. That has always been the deal.”
MK: “Don’t lecture me! I am the one to give lectures around here. You and your kind have had it too good for too long. The public sector has been far too generous. To correct that, we are going to change the rules of the game. To be sure, one of the Bank’s roles is to contribute to financial stability, and there will be lessons for us all to learn, but that is a long, long way from standing ready to bail out any individual institution. The Tripartite authorities will consider assistance as necessary on a case by case basis.”
The Five: (plaintively): “Can’t you give us more comfort, please? The situation is pretty dire out there in the markets.”
MK: “If you want to know what will happen if an individual bank comes to us for last resort funding, I will tell you. The central banker’s traditional reply to a banker who comes asking for assistance is to say ‘I will consider your application and stand ready to discuss terms and conditions with your successor.’
In other words, in such hypothetical circumstances, the first order of business would be secure the dismissal of the CEO, chairmen, most of the board etc of a bank that gets itself into difficulties. People like you, in fact. As they say on Wall Street, the general idea would be to leave you with only your socks and a smile. By the way, I think your banks’ compensation systems need urgent review – they encourage excessive risk-taking. How much are you paid?”
The Five: “Er, um, £1m, £2m, £3m a year….some of our guys get much more than we do.”
MK: “Yes, I thought so. Disgusting, I call it. Any more questions? That brings the meeting to an end. In the interests of transparency I propose to put out a press release summing up our discussions today. It reads as follows:
“Representatives of the UK banking industry met today with the Bank of England for a regular meeting to discuss current market conditions and the Tripartite consultation document on financial stability and depositor protection. The Bank of England and the banks agreed to continue their close dialogue with the objective of restoring more orderly market conditions”
MK: “I think that wraps it up. Good day, gentlemen.”
The real Mervyn King in confident mood
A week later, the real Mervyn King appeared before the same House of Commons select committee to answer yet more questions about the crisis. He was in confident, nay buoyant, mood, cracking jokes with members of the committee, and reporting that he was discussing “with the banks” (haha) how a longer-term resolution of the problem might be reached. He again insisted that the risk of losses on bank lending will “remain with banks’ shareholders” and that the central bank would not “subsidise issues of new assets”. Was this a little dig at the ECB, which has fuelled a cute little bubble in the paper it accepts as collateral in its so called “lenient” money-market operations?
Bank of Japan gets an experienced helmsman
Masaaki Shirakawa, newly appointed acting governor of the Bank of Japan, has started well and is now in the frame for appointment to the top job. He certainly would make an excellent choice.
It is urgent that this position is filled. For a major central bank to be without a governor at this time of chaotic markets, and widening threats to the stability of the international financial system, is widely seen as a disgrace. Not for over 80 years has the BoJ been without a governor. In fact, all responsible governments make sure that, whatever their own failings, their national central bank has a properly appointed governor in office at all times. Exceptions such as the recent gap between the resignation of Antonio Fazio at the Banca d'Italia and the appointment of Mario Draghi are extremely rare.
Yet now Japan and the international system is left with a policy vacuum at a critical time. Prime Minister Yasuo Fukuda has vowed to fix the problem. Masaaki Shirakawa, who started his first day as deputy governor on 20 March, is acting governor until the government and opposition agree on a successor. Appointees need approval of both houses of parliament. But he needs the full authority of the governor's position to enable him to fill the policy vacuum.
Commenting on the vacancy, the Financial Times of London said in an editorial on 20 March: "The perfect candidate must be a brilliant macroeconomist, a psychologist of the markets, a sure-footed public speaker, an international diplomat and an able chief executive."
Masaaki Shirakawa meets these requirements. Above all, he is a most experienced central banker with a deep understanding of the financial markets. Shirakawa has spent the last two years as professor at the Kyoto University School of Government writing a book on central banking, monetary policy and financial stability. He has drawn on his practical experience after a long career at the central bank as well as his reading of finance and economics.
Shirakawa, who was born in 1949 in Kitakyushu, graduated in economics from the University of Tokyo in 1972 and obtained his MA in economics from the University of Chicago in 1977. After joining the Bank of Japan in 1972 and working in various fields of central banking including monetary policy and prudential policy, he became head of the monetary policy department from June 2000 to July 2002 and executive director in charge of monetary policy and financial markets from July 2002 to July 2006. He joined Kyoto University as professor of the School of Government in July 2006. He has published papers and books on monetary policy and the Japanese experience of the asset price bubble.
New financial frontiers
Malcolm Knight is amongst the luminaries at “The New Financial Frontiers” conference, which is part of the Chatham House City Series 2008 taking place on 29th April at Bloomberg Studios, London. Alistair Darling, chancellor of the exchequer, Martin Graham, director of markets, LSE, and W. Todd Groome, division chief, International Capital Markets, IMF will also be speaking. For further details email conferences@chathamhouse.org.uk.
..and People’s Bank of China keeps Zhou
After months of deliberation, the Chinese authorities on Monday approved the reappointment of Zhou Xiaochuan as governor of the People’s Bank of China.
Members of the National People’s Congress parliament voted 94% in favour of Zhou remaining at the helm of the People’s Bank.
Rumours abounded late last year that Zhou was to step down in 2008 due to Beijing’s disapproval of the governor’s support for policies such as foreign share ownership by Chinese investors and the International Monetary Fund’s currency surveillance mechanism, which would lead to a faster appreciation of the renminbi.
But the persistence of global turbulence is likely to have weighed in Zhou’s favour, with senior bureaucrats placing more emphasis on stability at the People’s Bank than they may have done otherwise. Zhou was first appointed governor in 2003.
Did you miss Central Banking’s SOVEREIGN wealth conference?
Two hundred delegates crowded into the packed conference rooms at the Waldorf Hotel, London, for this event, widely acclaimed as the conference of the year. As speakers jostled for room on the platform, Knut Kjaer, formerly of the Norwegian pension fund, started the ball rolling with a magisterial outline of the issues facing the sovereign wealth funds. While regulation was not the way forward, the sheer size of these public entities and the speed they were growing were issues for debate. He didn’t have kind words to say for the international investment industry, saying as a whole it destroyed value for investors. So he had a negative view of outsourcing.
Herve Ferhani from the IMF gave a clear presentation of the Fund’s view, arguing that while the SWFs had many benefits, they could also be a source of instability, so that the code of best practice being developed by the Fund would promote the public good. Robert Kaproth from the US Treasury said the SWFs were systemically important and in generally beneficial, but raised national security concerns: “we have to remain vigilant”. Dino Kos, formerly of the New York Fed and now with Morgan Stanley, pointed out that ironically it was the core, regulated part of the financial system that was now causing instability. However, this time, central banks will want to avoid being blamed for keeping interest rates too low for too long, so have less room for manoeuvre in dealing with the crisis.
In his keynote address, Sir John Gieve, deputy governor at the Bank of England, took the opportunity to put the whole subject into a broader economic perspective. Like other speakers, he pointed to the benefits of SWFs but added some warnings:
“…that positive story should not conceal that the growth of SWFs is also a result of persistent global imbalances in trade. These imbalances have helped create vulnerabilities in financial markets and in the wider economy. Our current experience is one more illustration of how painful the unwinding of such imbalances can be”.
Central banks balance sheets under water
There was a somewhat heated discussion of the distinction between central banks with their responsibility for reserve management and SWFs. Terry Keeley from UBS congratulated Central Banking Publications on its ability to bring people from all segments of the financial system, and the leading international institutions, together. The event was taking place when many central banks were in an uncomfortable position, with their assets mainly in US dollars, liabilities in local currency, and an appreciating exchange rates – he estimated over 40% of them had negative capital. They were bearing huge risks. The answer for sovereigns was to segment portfolios – at present SWFs on average invested only 20% of their funds in equities, which Terry called “incredibly conservative”.
Several subsequent speakers took up the challenge: how to achieve effective diversification in today’s markets? Others pointed out that central banks are completely different animals from SWFs – it is the function of central banks to bear risks, in the process of carrying out their primary public policy functions, whereas it is the aim of SWFs to make money. Jennifer Johnson-Calari of the World Bank said that equities globally are increasingly correlated and so it was necessary to look at alternative assets, such as agricultural land, and securitised music: “anything is good which is not correlated with equities”.
Sorry for those of you who missed it. Never mind, there will be another one soon…
In keeping with their inflation-fighting mandate, senior staff at the ECB got a 2% pay rise last year. The basic salary of Jean-Claude Trichet, the president of the central bank, rose to €345,252 ($530,752). The salary of Lucas Papademos, the vice-president, went up to €295,920. The six members of the central bank’s executive board, which includes Trichet and Papademos, were paid a total of €1,627,524 last year with the other four board members receiving €246,588 each. For a fuller breakdown of the central bank’s wage bill, turn to page 34 of the latest annual accounts report. To view the report, click here
“If there is an overdose of any medicine there is a danger of killing the patient…..It is not the nicest time to be a central bank governor.”
Tito Mboweni, governor of the South African Reserve Bank.
“We hear much about the problems of being a central bank governor today. After 11 years in the job, I tell you it is not all that bad either.”
Nout Wellink, president of the Netherlands Bank, at a recent Banque de France conference.
Peter Sinclair, professor of economics at the University of Birmingham, has sent Newsmakers his neat summation of “old and new wisdom” …Follow this link to take a look: www.centralbanking.co.uk/downloads/before_and_after_for_newsmakers.pdf
Previous issues of Newsmakers can be found at
http://www.centralbanking.co.uk/newsmakers/index.htm
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