Andrew Haldane, Chief Economist at the Bank of England, gave a speech last week at the Maxwell Fry Annual Global Finance Lecture, Birmingham University, entitled “Managing global finance as a system”. Mr. Haldane has been a proponent of greater simplicity and sanity in the Basel III process. We take a systems-wide approach to most things too, including cross-product analysis and looking at economic frameworks from a supply and demand standpoint rather than by silos. We look at where Mr. Haldane’s good words meet practical solutions for systematic regulatory improvement.
Here’s Mr. Haldane’s set up: “In focussing on individual banks, policymakers had been, to coin another English aphorism, ‘penny-wise but pound-foolish’… That is why systemic risk entered the public lexicon. And that is why financial regulation has, in the period since, been fundamentally re-oriented towards the monitoring and management of systemic risk.”
The argument then is that looking at individual banks and products doesn’t mean much – it is much more important to look at the global system to ensure stability. Mr. Haldane then lays out his case on how shocks can be mitigated or transmitted across systems. It’s an easy conclusion that in financial markets, shocks tend to be transmitted and amplified more often than muted out.
The speech then turns to what can be done to strengthen the global financial regulatory environment. Mr. Haldane’s suggestions are:
a) Improving global financial surveillance, by tilting IMF surveillance away from monitoring individual country risk and towards multilateral surveillance and having more real-time tracking of the global flow of funds.
We’re choking on our morning croissants here – really, asking for real-time monitoring of most anything seems almost impossible. IOSCO worries about multiple trade repositories. The US Office of Financial Research is five to infinity years away from a trade repository let alone the means to analyze it. We agree with the principal but would like to see some concrete action steps for how this “real-time tracking” could occur. Maybe that’s the next speech for Mr. Haldane. Heck, maybe we’ll propose some.
b) Improving country debt structures, for example by encouraging countries to issue GDP linked bonds, or Contingent Convertible (CoCo) bonds.
Now this gets interesting. He’s talking about new debt structures that are tied to specific economic outcomes and reduce procyclicality. For GDP-linked bonds, “Their repayment profile adjusts with a country’s ability to pay, thereby acting counter-cyclically and quasi-automatically to defuse repayment risk.” Mr. Haldane did not come up with this idea but its great that he is advocating it.
c) Enhancing macro-prudential and capital flow management policies.
According to the speech, “A great many analytical and operational issues remain open. What are appropriate states of the world for introducing and releasing capital flow management measures – a first or last resort? Which policy measures are likely to be most effective – outflow versus inflow, price versus quantity controls? And how do these policies operate alongside other arms of policy – monetary, macro-prudential and micro-prudential?” There are no good answers here.
This recommendation seems a bit like regulator-speak, which is a close linguistic cousin to Basel-esque and IMF-ish. Not quite sure where this is going in practice.
d) Improving international liquidity assistance, for example by increasing the resources available to the IMF.
Oh right, its all about money. The idea here is that the IMF should be the lender of last resort and have enough capital to match cross-border capital flows. Ouch. I think a lead balloon just hit our collective feet from a realpolitik view. But Mr. Haldane is right; in a globally interconnected world, there must be a globally interconnected manager in case the system gets misaligned.
Many thanks to Mr. Haldane for another engaging conversation.
The “Managing global finance as a system” speech is available here.
We wrote up another smart piece of work from Mr. Haldane on reducing complexity in financial regulation here.