When it comes to the question of how best to avoid a banking collapse & multi-billion dollar bailout that can drag a nation into depression, the best solution, according to Chicago economist, John Cochrane, is to require banks to set aside a fraction of their own funds as reserves to cover losses they make on lending. How much does he recommend?
The More Bank Capital The Safer the Bank, Mr Cochrane wrote in the Wall Street Journal. However, he notes, "The banking lobby is furious, as evidenced by recent House testimony & an open letter to federal regulators .. They claim lending will decline .. and growth will suffer. These claims are nonsense .. Even substantially higher capital requirements would have essentially no social cost but would greatly reduce the chances of another crisis. Better capitalized banks mean a safer, more stable banking system." Cochrane is a hugely respected authority on such matters. His view is that banks must be regulated because of the systemic risks they pose, which not infrequently lead to financial crises and vast tax-payer-funded bailouts.
However, Mr. Cochrane disagrees with governments micro-managing banks' assets - telling them what they can invest in and what they cannot. Such interference is a road to chaos and chokes capital markets. The simplest form of regulation is to make banks set aside funds (or 'reserves') in case they get in trouble. Other than that, let them invest in whatever they want. Cochrane argues that when it comes to banking, "Free-market nirvana is a long way away. As long as our government subsidizes debt & will bail out the creditors of any large financial institution, we need large capital buffers to protect the taxpayer & financial system. Even the Fed's 10% is timid. We should demand much more."
So what has our Reserve Bank done? Followed Mr. Cochrane's advice. However last week, NZ Initiative Chair, Roger Partridge, criticized the Reserve Bank's capital requirements in the Herald: "The RBNZ’s 2019 decision requires .. ANZ, ASB, BNZ & Westpac - progressively to raise the capital they hold from 10.5% of their loans to 18% .. The consequences of the high capital ratios deterring lending are of concern enough .. [they will also lead] to higher interest rates for borrowers .. It is not just bank customers who suffer. So, too, does the economy as a whole". So the NZ Initiative flat-out contradicts Cochrane who referred to such claims as "nonsense" & says capital requirements would have "no social cost". To blame the RBNZ for high mortgage rates because of capital requirements that keep our financial system safe is outrageous. Here's the best part - the Initiative (which calls itself "strictly non-partisan") is a ginormous fan of Mr. Cochrane, being the pro-market economist that he is. They invited him to do a Webinar event with their members in 2021, called, "What central banks should and shouldn't do", hosted by superb Kiwi economist, Eric Crampton.
Let's be clear, high mortgage costs & bank charges in NZ have a lot to do with the Big Bank Oligarchy - to shift blame onto the Governor is a bit rich. Yet Mr. Orr's reaction, according to Partridge, was "inexplicably defensive". Why say so? It can be explained by the views of Mr Partridge's own invited famous guest. The Initiative sent a letter to Finance Minister Willis complaining that Orr had criticized it. However, for once, Orr got it right. Beware Big Banks and their Lobbying. No wonder RBNZ Governor Mr. Orr blew up. This time we're on his side.
Sources:
https://static1.squarespace.com/static/5e6033a4ea02d801f37e15bb/t/5ee91d551d0b88211650295b/1592335701187/John_H._Cochrane_Bank_Capital_WSJ.pdf
https://www.hoover.org/sites/default/files/research/docs/crisis_10y_cochrane.pdf
https://www.rbnz.govt.nz/regulation-and-supervision/oversight-of-banks/standards-and-requirements-for-banks/capital-requirements-for-banks-in-new-zealand
Professor Robert MacCulloch holds the Matthew S. Abel Chair of Macroeconomics at Auckland University. He has previously worked at the Reserve Bank, Oxford University, and the London School of Economics. He runs the blog Down to Earth Kiwi from where this article was sourced.
However, Mr. Cochrane disagrees with governments micro-managing banks' assets - telling them what they can invest in and what they cannot. Such interference is a road to chaos and chokes capital markets. The simplest form of regulation is to make banks set aside funds (or 'reserves') in case they get in trouble. Other than that, let them invest in whatever they want. Cochrane argues that when it comes to banking, "Free-market nirvana is a long way away. As long as our government subsidizes debt & will bail out the creditors of any large financial institution, we need large capital buffers to protect the taxpayer & financial system. Even the Fed's 10% is timid. We should demand much more."
So what has our Reserve Bank done? Followed Mr. Cochrane's advice. However last week, NZ Initiative Chair, Roger Partridge, criticized the Reserve Bank's capital requirements in the Herald: "The RBNZ’s 2019 decision requires .. ANZ, ASB, BNZ & Westpac - progressively to raise the capital they hold from 10.5% of their loans to 18% .. The consequences of the high capital ratios deterring lending are of concern enough .. [they will also lead] to higher interest rates for borrowers .. It is not just bank customers who suffer. So, too, does the economy as a whole". So the NZ Initiative flat-out contradicts Cochrane who referred to such claims as "nonsense" & says capital requirements would have "no social cost". To blame the RBNZ for high mortgage rates because of capital requirements that keep our financial system safe is outrageous. Here's the best part - the Initiative (which calls itself "strictly non-partisan") is a ginormous fan of Mr. Cochrane, being the pro-market economist that he is. They invited him to do a Webinar event with their members in 2021, called, "What central banks should and shouldn't do", hosted by superb Kiwi economist, Eric Crampton.
Let's be clear, high mortgage costs & bank charges in NZ have a lot to do with the Big Bank Oligarchy - to shift blame onto the Governor is a bit rich. Yet Mr. Orr's reaction, according to Partridge, was "inexplicably defensive". Why say so? It can be explained by the views of Mr Partridge's own invited famous guest. The Initiative sent a letter to Finance Minister Willis complaining that Orr had criticized it. However, for once, Orr got it right. Beware Big Banks and their Lobbying. No wonder RBNZ Governor Mr. Orr blew up. This time we're on his side.
Sources:
https://static1.squarespace.com/static/5e6033a4ea02d801f37e15bb/t/5ee91d551d0b88211650295b/1592335701187/John_H._Cochrane_Bank_Capital_WSJ.pdf
https://www.hoover.org/sites/default/files/research/docs/crisis_10y_cochrane.pdf
https://www.rbnz.govt.nz/regulation-and-supervision/oversight-of-banks/standards-and-requirements-for-banks/capital-requirements-for-banks-in-new-zealand
Professor Robert MacCulloch holds the Matthew S. Abel Chair of Macroeconomics at Auckland University. He has previously worked at the Reserve Bank, Oxford University, and the London School of Economics. He runs the blog Down to Earth Kiwi from where this article was sourced.
1 comment:
Mr Orr is feeling the heat based on his reaction....GOOD! He might try harder.
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