Tag Archives: Martin Wolf

10 x Hopelessly Lax = ?

The economist Sir John Vickers, himself an ex Bank of England Chief Economist, recently had a pop at the current Bank of England’s governor and chair of the Financial Stability Board, Mark Carney.  He countered Carney’s assertion that “the largest banks are required to have as much as ten times more of the highest quality capital than before the crisis” with the quip that “ten times better than hopelessly lax is not a useful measure”. I particularly liked Vickers observation that equity capital is “a residual, the difference between two typically big numbers, of which the asset side is hard to measure given the nature of banking, and dependent on accounting rules”.

In a recent article in the FT, Martin Wolf joined in the Carney bashing by saying the ten times metric “is true only if one relies on the alchemy of risk-weighting” and that banking regulatory requirements have merely “gone from the insane to the merely ridiculous” since the crisis. Wolf acknowledges that “banks are in better shape, on many fronts, than they were a decade ago” but concludes that “their balance sheets are still not built to survive a big storm”.

I looked through a few of the bigger banks’ reports (randomly selected) across Europe and the US to see what their current risk weighted assets (RWA) as a percentage of total assets and their tier 1 common equity (CET1) ratios looked like, as below. The wide range of RWAs to total assets, indicative of the differing business focus for each bank, contrasts against the relatively similar level of core “equity” buffers.

click to enlarge

Wolf and Vickers both argue that higher capital levels, such as those cited by Anat Admati and Martin Hellwig in The Bankers’ New Clothes, or more radical structural reform, such as that proposed by Mervyn King (see this post), should remain a goal for current policymakers like Carney.

The latest IMF Stability Report, published yesterday, has an interesting exhibit showing an adjusted capital ratio (which includes reserves against expected losses) for the global systemically important banks (GSIBs), as below.

click to enlarge

This exhibit confirms an increased capital resilience for the big banks. Hardly the multiple increases in safety that Mr Carney’s statements imply however.

Stuff Happens

Mervyn King is not remembered (by this blogger at least) as a particularly radical or reforming governor of the Bank of England. It is therefore surprising that he has written an acclaimed book, called “The End of Alchemy”, with perhaps some of the most thoughtful ideas on possible reforms we could make to get the global economy out of its current hiatus. One of the central themes in the book is the inability of existing Western economic orthodoxy to adequately consider the impact of radical uncertainty. He quips that “current policies based upon the model of the economics of stuff rather than the economics of stuff happens”.

King defines radical uncertainty as “uncertainty so profound that it is impossible to represent the future in terms of probabilistic outcomes”. A current example could be the Brexit vote this coming Thursday, with commentators struggling to articulate the medium term knock-on impacts of this tightly forecasted vote. This post is not about Brexit as this blogger for one is struggling to understand the reasons and the impacts of the closeness of the vote. I do think the comments from Germany’s finance minister, Frank-Walter Steinmeier, this week that a leave vote would mean “the EU will find itself in a deep crisis” are pertinent and amongst the many issues we will likely face in the medium term if the UK actually disengages from the EU. The current mood of voters in Western economies, such as the UK and the US, does underline the urgent need for radical thinking to be adopted into the way we are addressing global economic and social issues in my view.

King’s book is not only full of interesting ideas but he also has a cutting turn of phrase. Amongst my favourites are:  “economists mistrust trust”, “liquidity is an illusion”, and “any central bank that allows itself to be described as the only game in town would be well advised to get out of town”. Before I go over some of King’s ideas, I think it would be useful to recap on the conclusions from other recent books from UK authors on policy measures needed to address the current stagnation, in particular “The Shifts and the Shocks” by the highly regarded Financial Times commentator Martin Wolf and (to a lesser extent) “Between Debt and the Devil” by the former UK financial regulator Adair Turner. Wolf’s book was previously reviewed in this post and Turner’s book was referenced in this post.

Wolf articulated the causes of the financial crisis as “a savings glut and associated global imbalances, an expansionary monetary policy that ignored asset prices and credit, an unstable financial system, and naive if not captured regulation”.  Wolf argues for practical policy measures such as much higher and more resilient capital requirements in banking (he rejects the 100% reserve banking envisaged by proponents of the so-called Chicago Plan as too radical), resolution plans for global systemic financial institutions, more bail-inable debt in banking capital structures and similar alignment changes to the terms of other financial contracts, proper funding of regulatory bodies and investigators of criminal misbehaviour, tax reform with a bias towards equity and away from leverage, tax on generational transfers of land, measures to address income inequality (due to the resulting dilution of demand stimulus measures as a result of the rich’s higher propensity to save) and measures to encourage business and infrastructure investment, education and R&D.

Wolf also highlights the need for new thinking at global institutions, such as IMF and those (unelected) bodies governing the Eurozone, particularly the urgent need (although he is pessimistic on the possibility) for global co-operation and radical action to address the imbalances in the global economy. The need for deeper co-ordination, irrespective of narrow short term nationalistic interests, is nowhere more obvious than in the Eurozone with the alternative being financial disintegration. The Brexit vote is an illustration of the UK electorate’s preference for disintegration (as is the popularity of Trump in the US), presented by shady politicians as a return to the good ole days (!??!), and is perhaps a precursor to a more general disintegration preference by voters across the globe. Wolf observes that “financial integration has proved highly destabilizing” and that “the world maybe no more than one to at most two crises away from such a radical deconstruction of globalized finance”.

Turner’s book is more focused on the failure of free markets to “ensure a socially optimal quantity of private credit creation or its efficient allocation” and the need for policy makers to constrain private credit growth, particularly excessive debt backed by real estate, and the creation of less credit intensive economies. Turner argues that “the pre-crisis orthodoxy that we could set one objective (low and stable inflation) and deploy one policy tool (interest rate) produced an economic disaster”. In common with Wolf, Turner also advocates structural changes to tax and financial contracts to incentivize credit away from land and towards productive investment and policies to address income inequality. Turner also rejects 100% reserve banking as too radical in today’s world and favours much higher capital requirements and restrictions on the shadow banking sector. On the need for China and Germany to take responsibility for the impact of their policies on global imbalances, he repeats the pious lecturing of current elites (without the negativity of Wolf on the reality of such policies actually happening). Similarly he repeats the (now) consensus view on the need for the Eurozone to either federalise or dissolve.

As to real solutions, Turner states that “our challenge is to find a policy mix that gets us out of the debt overhang created by past excessive credit creation without relying on new credit growth” and favours the uses of further monetary measures such as Bernanke’s helicopter money, once-off debt write off and radical bank recapitalisation. Although he highlights the danger of opening the genie of money finance, his arguments on containing such dangers in the guise of once-off special measures are not convincing.

King highlights many of the same issues as Wolf and Turner as to how we got to where we are. The difference is in his reasoning of the causes. He points to significant deficiencies in the academic thinking behind the policies that govern Western economies. As such, his suggestions for solutions are more fundamental and require a change in consensus thinking as well as changes in policy responses. As King puts it – “I came to believe that fundamental changes are needed in the way we think about macroeconomics as well as in the way central banks manage their economics”.  According to King, theories upon which policies are based need to accommodate the reality of radical uncertainty, a model based upon the economics of stuff happens rather than the current purest (and unrealistic) models of the economics of stuff. King states that “we need an alternative to both optimising behaviour and behavioural economics”.

One of King’s most interesting and radical ideas is for a compromise between the current fractional banking model and the 100% reserve narrow bank model proposed under the so-called Chicago Plan. As King observes “to leave the production of money solely to the private sector is to create a hostage to fortune” and “for a society to base its financial system on alchemy is a poor advertisement for its rationality”. The alchemy King refers to here (and in the title of his book) is the trust required in the current “borrow short-lend long” model we employ in our fractional banking system. Such trust is inherently variable due to radical uncertainty and the changes in the level of trust as events unfold are at the heart of the reason for financial crises in King’s view.

Perhaps surprising for an ex-governor of the Bank of England, King highlights the dangers of overtly complex regulations (the UK PRA rule-book runs to 10,000 pages for banks) with the statement that “by encouraging a culture in which compliance with detailed regulations is a defence against a charge of wrong-doing, bankers and regulators have colluded in a self-defeating spiral of complexity”.  He warns that “such complexity feeds on itself and brings the system into disrepute” and that “arbitrary regulatory judgements impose what is effectively a high tax on all investments and savings”. This is a sentiment that I strongly agree with based upon recent experiences. All of the authors mentioned in this post are disparaging on the current attempts to fix banking capital requirements, particularly the discredited practise of applying capital ratios to risk weighted assets (RWA). A recent report from the Bank of International Settlements (BIS) illustrates the dark art behind bank’s RWA calculations, as per the graph below.

click to enlargeAverage Risk Weighted Assets

King’s idea is to replace the lender of last resort (LOLR) role of Central Banks in the current system to that of a pawnbroker for all seasons (PFAS). In non-stress times, Central Banks would assess haircuts against bank assets, equivalent to an insurance premium for access to liquidity, which reflect the ability of the Central Bank to hold collateral through a crisis and dispose of the assets in normal times (much as they currently do under QE). These assets would serve as pre-positioned collateral which could be submitted to the Central Bank in exchange for liquidity, net of the haircut, in times of stress who would act as a pawnbroker does. The current regulatory rules would then (over a transition period of 10-20 years) be replaced by two simply rules. The first would be a simple limit on leverage ratio (equity to total nominal assets). The second rule would be that effective liquid assets or ELA (pre-positioned collateral plus existing Central Bank reserves) would be at least equal to effective liquid liabilities or ELL (total deposits plus short term unsecured debt). The graphic below represents King’s proposal compared to the existing structure.

click to enlargeFractional Banking Pawnbroker Seasons Banking

King states that “the idea of the PFAS is a coping strategy in the face of radical uncertainty” and that it is “akin to a requirement on private institutions to take out compulsory insurance”. He highlights its simplicity as a workable solution to the current moral hazard of the LOLR which recognises that in a crisis the only real source of liquidity is the Central Bank and it structurally provides for such liquidity on a pre-determined basis. Although it is not a full narrow bank proposal, it does go some way towards one. As such, and as the graphic illustrates, it will require a significant increase in equity for private banks (similar to that espoused by Wolf and Turner, amongst others) which will have an impact upon overall levels of credit. Turner in particular argues strongly that it is the type of credit, and its social usefulness, that is important for long term sustainable economic growth rather than the overall level of credit growth. Notwithstanding these arguments, the PFAS is an elegant if indeed radical proposal from King.

Another gap in modern economic theory and thinking, according to King, is the failure to follow policies which address the problem of the prisoner’s dilemma, defined as the difficulty of achieving the best outcome when there are obstacles to co-operation. King gives the pre-crisis failure to recognise that each private bank faced a prisoner’s dilemma in running down its holdings of liquid assets, and financing itself as cheaply as possible by short-term debt, as the only means of competing with its peers on the profit expectations of the free market. The global economy currently faces a prisoner’s dilemma as the current (tired) orthodoxy of trying to stimulate demand is failing across developed economies as people are reluctant to consume due to fears about the future. In his own acerbic way, King quips that we cannot expect the US “to continue as the consumer of last resort”.

Current policy measures of providing short-term stimulus through low interest rates are diametrically opposite to those needed in the long run in King’s view. People, in effect, do not believe the con that Central Bank’s artificial reduction in risk premia is trying to sell, resulting in a paradox of policy. King believes that “further monetary stimulus is likely to achieve little more than taking us further down the dead-end road of the paradox of policy“. This means that Central Banks are currently in a prisoner’s dilemma – if any of them were to unilaterally raise interest rates, they would risk a slowing of growth and possibly another downturn in their jurisdiction. A co-ordinated move to a new equilibrium is what is needed and institutions like the IMF, who’s role is to “speak truth to power”, can hypnotise all they like about what is needed but the prisoner’s dilemma restricts real action. Unfortunately, King does not have any real solution to this issue besides those hopeful courses of action offered by others such as Wolf and Turner.

The unfortunate reality is that we seem to be on a road towards more disintegration rather than greater co-operation in the world economy. King does highlight the similarities of such a multi-polar world with the unstable position prior to the First World War, which is a cheery thought. Any future move towards disintegration across developed economies doesn’t bode well for the future, particularly when the scary issue of climate change is viewed in such a context. I hope we wouldn’t get more illustrations of the impact of radical uncertainty on our existing systems in the near future, nor indeed of our policymaker’s inability to address such uncertainty in a coherent and timely way.

I do however strongly recommend King’s book as a thought provoking read, for those who are so inclined.

Pimping the Peers (Part 1)

Fintech is a much hyped term currently that covers an array of new financial technologies. It includes technology providers of financial services, new payment technologies, mobile money and currencies like bitcoin, robo-advisers, crowd funding and peer to peer (P2P) lending. Blockchain is another technology that is being hyped with multiple potential uses. I posted briefly on the growth in P2P lending and crowd-funding before (here and here) and it’s the former that is primarily the focus of this post.

Citigroup recently released an interesting report on the digital disruption impact of fintech on banking which covers many of the topics above. The report claims that $19 billion has been invested in fintech firms in 2015, with the majority focussed in the payments area. In terms of the new entrants into the provision of credit space, the report highlights that over 70% of fintech investments to date have being in the personal and SME business segments.

In the US, Lending Club and Prosper are two of the oldest and more established firms in the marketplace lending sector with a focus on consumer lending. Although each are growing rapidly and have originated loans in the multiple of billions in 2015, the firms have been having a rough time of late with rates being increased to counter poor credit trends. Public firms have suffered from the overall negative sentiment on banks in this low/negative interest rate environment. Lending Club, which went public in late 2014, is down about 70% since then whilst Prosper went for institutional investment instead of an IPO last year. In fact, the P2P element of the model has been usurped as most of the investors are now institutional yield seekers such as hedge funds, insurers and increasingly traditional banks. JP Morgan invested heavily in another US firm called OnDeck, an online lending platform for small businesses, late in 2015. As a result, marketplace lending is now the preferred term for the P2P lenders as the “peer” element has faded.

Just like other disruptive models in the technology age, eBay and Airbnb are examples, initially these models promised a future different from the past, the so called democratization of technology impact, but have now started to resemble new technology enabled distribution platforms with capital provided by already established players in their sectors. Time and time again, digital disruption has eroded distribution costs across many industries. The graphic from the Citi report below on digital disruption impact of different industries is interesting.

click to enlargeDigital Disruption

Marketplace lending is still small relative to traditional banking and only accounts for less than 1% of loans outstanding in the UK and the US (and even in China where its growth has been the most impressive at approx 3% of retail loans). Despite its tiny size, as with any new financial innovation, concerns are ever-present about the consequences of change for traditional markets.

Prosper had to radically change its underwriting process after a shaky start. One of their executives is recently quoted as saying that they “will soon be on our sixth risk model”. Marrying new technology with quality credit underwriting expertise (ignoring the differing cultures of each discipline) is a key challenge for these fledging upstarts. An executive in Kreditech, a German start-up, claimed that they are “a tech company who happens to be doing lending”. Critics point to the development of the sector in a benign default environment with low interest rates where borrowers can easily refinance and the churning of loans is prevalent. Adair Turner, the ex FSA regulator, recently stirred up the new industry with the widely reported comment that “the losses which will emerge from peer-to-peer lending over the next five to 10 years will make the bankers look like lending geniuses”. A split of the 2014 loan portfolio of Lending Club in the Citi report as below illustrates the concern.

click to enlargeLending Club Loan By Type

Another executive from the US firm SoFi, focused on student loans, claims that the industry is well aware of the limitations that credit underwriting solely driven by technology imbues with the comment that “my daughter could come up with an underwriting model based upon which band you like and it would work fine right now”.  Some of the newer technology firms make grand claims involving superior analytics which, combined with technologies like behavioural economics and machine learning, they contend will be able to sniff out superior credit risks.

The real disruptive impact that may occur is that these newer technology driven firms will, as Antony Jenkins the former CEO of Barclays commented, “compel banks to significantly automate their business”. The Citigroup report has interesting statistics on the traditional banking model, as per the graphs below. 60% to 70% of employees in retail banking, the largest profit segment for European and US banks, are supposedly doing manual processing which can be replaced by automation.

click to enlargeBanking Sector Forecasts Citi GPS

Another factor driving the need to automate the banks is the cyber security weaknesses in patching multiple legacy systems together. According to the Citigroup report, “the US banks on average appear to be about 5 years behind Europe who are in turn about a decade behind Nordic banks”. Within Europe, it is interesting to look at the trends in bank employee figures in the largest markets, as per the graph below. France in particular looks to be out of step with other countries.

click to enlargeEuropean Bank Employees

Regulators are also starting to pay attention. Just this week, after a number of scams involving online lenders, the Chinese central bank has instigated a crack down and constituted a multi-agency task force. In the US, there could be a case heard by the Supreme Court which may create significant issues for many online lenders. The Office of the Comptroller of the Currency recently issued a white paper to solicit industry views on how such new business models should be regulated. John Williams of the San Francisco Federal Reserve recently gave a speech at a recent marketplace lending conference which included the lucid point that “as a matter of principle, if it walks like a duck and quacks like a duck, it should be regulated like a duck”.

In the UK, regulators have taken a gentler approach whereby the new lending business models apply for Financial Conduct Authority authorisation under the 36H regulations, which are less stringent than the regimes which apply to more established activities, such as collective investment schemes. The FCA also launched “Project Innovate” last year where new businesses work together with the FCA on their products in a sandbox environment.

Back in 2013, I asked the question whether financial innovation always ended in lower risk premia in this post. In the reinsurance sector, the answer to that question is yes in relation to insurance linked securities (ILS) as this recent post on current pricing shows. It has occurred to me that the new collateralised ILS structures are not dissimilar in methodology to the 100% reserve banks, under the so-called Chicago plan, which economists such as Irving Fisher, Henry Simons and Milton Friedman proposed in the 1930s and 1940s. I have previously posted on my difficulty in understanding how the fully collaterised insurance model can possibly accept lower risk premia than the traditional “fractional” business models of traditional insurers (as per this post). The reduced costs of the ILS model or the uncorrelated diversification for investors cannot fully compensate for the higher capital required, in my view. I suspect that the reason is hiding behind a dilution of underwriting standards and/or leverage being used by investors to juice their returns. ILS capital is now estimated to make up 12% of overall reinsurance capital and its influence on pricing across the sector has been considerable. In Part 2 of this post, I will look into some of the newer marketplace insurance models being developed (it also needs a slick acronym – InsurTech).

Marketplace lending is based upon the same fully capitalized idea as ILS and 100% reserve banks. As can be seen by the Citigroup exhibits, there is plenty of room to compete with the existing banks on costs although nobody, not yet anyway, is claiming that such models have a lower cost of capital than the fractional reserve banks. It is important not to over exaggerate the impact of new models like marketplace lending on the banking sector given its current immaterial size. The impact of technology on distribution channels and on credit underwriting is likely to be of greater significance.

The indirect impact of financial innovation on underwriting standards prior to the crisis is a lesson that we must learn. To paraphrase an old underwriting adage, we should not let the sweet smell of shiny new technology distract us from the stink of risk, particularly where such risk involves irrational human behaviour. The now infamous IMF report in 2006 which stated that financial innovation had “increased the resilience of the financial system” cannot be forgotten.

I am currently reading a book called “Between Debt and the Devil” by the aforementioned Adair Turner where he argues that private credit creation, if left solely to the free market under our existing frameworks, will overfund secured lending on existing real estate (which my its nature is finite), creating unproductive volatility and financial instability as oversupply meets physical constraints. Turner’s book covers many of the same topics and themes as Martin Wolf’s book (see this post). Turner concludes that we need to embrace policies which actively encourage a less credit intensive economy.

It is interesting to see that the contribution of the financial sector has not reduced significantly since the crisis, as the graph on US GDP mix below illustrates. The financialization of modern society does not seem to have abated much since the crisis. Indeed, the contribution to the value of the S&P500 from the financials has not decreased materially since the crisis either (as can be seen in the graph in this post).

click to enlargeUS GDP Breakdown 1947 to 2014

Innovation which makes business more efficient is a feature of the creative destruction capitalist system which has increased productivity and wealth across generations. However, financial innovation which results in changes to the structure of markets, particularly concerning banking and credit creation, has to be carefully considered and monitored. John Kay in a recent FT piece articulated the dangers of our interconnected financial world elegantly, as follow:

Vertical chains of intermediation, which channel funds directly from savers to the uses of capital, can break without inflicting much collateral damage. When intermediation is predominantly horizontal, with intermediaries mostly trading with each other, any failure cascades through the system.

When trying to understand the potential impacts of innovations like new technology driven underwriting, I like to go back to an exhibit I created a few years ago trying to illustrate how  financial systems have been impacted at times of supposed innovation in the past.

click to enlargeQuote Money Train

Change is inevitable and advances in technology cannot, nor should they, be restrained. Human behaviour, unfortunately, doesn’t change all that much and therefore how technological advances in the financial sector could impact stability needs to be ever present in our thoughts. That is particularly important today where global economies face such transformational questions over the future of the credit creation and money.

Piddling Productivity

Walk around any office today and you will likely see staff on the internet or playing with their smartphones, the extent of which will depend upon the office etiquette. The rise of the networked society would intuitively imply increased productivity. Data analytics, the cloud, the ease with which items can be researched and purchased all imply a rise in efficiency and productivity. Or does it?

Productivity is about “working smarter” rather than “working harder” and it reflects our ability to produce more output by better combining inputs, owing to new ideas, technological innovations and business models. Productivity is critical to future growth. Has the rise of social media, knowing what your friends favourite type of guacamole is, made any difference to productivity? The statistics from recent years indicate the answer is no with the slowdown in productivity vexing economists with a multitude of recent opinion and papers on the topic. Stanley Fisher from the Fed stating in an interesting speech for earlier this month that “we simply do not know what will happen to productivity growth” and included the graph below in his presentation.

click to enlargeUS Average Productivity Growth 1952 to 2015

Martin Wolf in a piece in the FT on recent projections by the Office for Budget Responsibility (OBR) calls the prospects for productivity “the most important uncertainty affecting economic prospects of the British people”.

Some think the productivity statistics have misestimated growth and the impact of technology (e.g. the amount of free online services). A recent paper from earlier this month by Fed and IMF employees Byrne, Fernald and Reinsdorf concluded that “we find little evidence that the slowdown arises from growing mismeasurement of the gains from innovation in IT-related goods and services”.

The good news seems to be that productivity slumps are far from unprecedented according to a paper in September last year from Eichengreen, Park and Shin. The bad news is that the authors conclude the current slump is widespread and evident in advanced countries like the U.S. and UK as well as in emerging markets in Latin America, Southeast Europe and Central Asia including China.

A fascinating paper from December 2015 by staff at the Bank of England called “Secular drivers of the global real interest rate” covers a wide range of issues which are impacting growth, including productivity growth. I am still trying to digest much of the paper but it does highlight many of the economists’ arguments on productivity.

One of those is Robert Gordon, who has a new bestseller out called “The Rise and Fall of American Growth”. Gordon has long championed the view of a stagnation in technology advances due to structural headwinds such as an educational plateau, income inequality and public indebtedness.

click to enlargeAverage Annual Total Facor Productivity

Others argue that productivity comes in waves and new technology often takes time to be fully integrated into the production process (e.g. electricity took 20 years before the benefits showed in labour productivity).

Clearly this is an important issue and one which deserves the current level of debate. Time will tell whether we are in a slump and will remain there or whether we are at the dawn of a golden era of innovation led productivity growth…..

The bowels of the system and helicopters

The market volatility in 2016 did seem odd in certain respects. Valuations were too high and a correction was needed. No doubt. It’s more the way the selling seemed to be indiscriminate at certain points with oil and equity prices locked in step. Some argue that China selling reserves to support their currency or oil producing countries selling assets to make up for short falls in oil revenue may be behind some of the erratic behaviour. Buttonwood had an interesting piece over the past weeks on how consequences from new bank regulations are impacting market liquidity with unusual activity in derivative pricing such as negative swap rates and relative CDS rates.

Gilian Tett, in a FT article in January, pointed to the example of capital outflows from China. Whether repaying US debt (or as Tett succinctly calls it, a quasi carry trade in reverse) in face of likely further yuan weakness or withdrawals from overzealous M&A (about a quarter of China outbound deals are said to be in trouble) or other reasons behind the veil of the Chinese economy, the outflows are having impacts. Tett said:

“Capital flows, fuelled by politics and policy change, are where the important action is taking place. Deep in the bowels of the system all manner of financial flows are switching course, creating unexpected knock-on effects for many asset prices. Capital flight from China is one example. The energy sector is another.”

The strangle lockstep between oil and the S&P500 can be seen below.

click to enlargeoil and sp500

Energy has only a small impact on the S&P500 makeup, as can be seen below, and on the operating profit profile.

click to enlargeS&P Sector Weightings 1980 to 2015

The OECD interim economic outlook by Catherine Mann on 18th February recommended “maintaining accommodative monetary policy, supportive fiscal policies on investment led spending and more ambition on structural policies which raise global growth and reduce financial risks”. Ah, yes the old structural reform answer to all of our ills. The OECD gave some graphic reminders of where we are, as below.

click to enlargeUS & Euro Household & Nonfinancial Corporate Debt 2015

click to enlargeCentral Bank Balance Sheets 2015

Central Bank policies remain stuck to QE and increasingly exotic forms of monetary policy despite the obvious failure so far for QE to kick-start either inflation or growth. The latest experiment is on negative interest rate which has had funny impacts on banks and the lending rates they need to charge. Japan in particular has shown how their brand of negative rates was countered by a currency whiplash. Mark Carney, the Governor of the Bank of England, offered the view that “for monetary easing to work at a global level if cannot rely on simply moving scarce demand from one country to another.

A recent BIS article on negative interest rates in Switzerland, Europe and Japan stated that “there is great uncertainty about the behaviour of individuals and institutions if rates were to decline further into negative territory or remain negative for a prolonged period. It is unknown whether the transmission mechanisms will continue to operate as in the past and not be subject to tipping points“.

This week Mario Draghi came up with a new twist on negative interest rates, relying on targeted long-term refinancing operations (TLTROs) to give banks effectively free money. The currency impact will be interesting, particularly to see if the Japanese whiplash will repeat. One of the results of all this QE is that central banks are a much larger player in the system and have basically taken over the government bond markets in Europe, Japan, and America. The ECB even buys low-rated bonds, not just the AA and AAA positions taken by the Fed, and makes billions of euros in low-interest-rate loans to banks.

No less that Adair Turner, Martin Wolf and Ray Dalio have all made favourable comments about another evolution in QE, so called helicopter money (named after Milton Friedman).  Wolf argues that central banks should enter the arena of public investment in the face of inaction by fiscal authorities (by which I assume he means elected politicians). He passionately says “policymakers must prepare for a new “new normal” in which policy becomes more uncomfortable, more unconventional, or both.” Turner believes that targeted stimulus of nominal demand poses “less risk to future financial stability than the unconventional monetary policies currently being deployed“.

The recent anxiety by electorates across the developed world in expressing a desire for the certainty of the past, whether it be the popularity of Donald Trump, anti-immigrant rhetoric in Europe or the arguments in the UK to leave the EC, show that ordinary people are worried about the future and no end of short term monetary stimulus is likely to change that. Helicopter money sounds like a medicated solution to the symptoms of low growth rather than any real answer to the problem of slowing growth, Chinese and Japanese unsustainable debt loads and global productivity challenges due to aging populations.

Maybe it’s just me, and I do respect the views of Wolf, Turner and Dalio, but it looks to me a measure that is open to so much moral hazard as bordering on the surreal. It gives Central Banks more power in the markets and that could be dangerous without more thought on the unintended consequences. If we are moving piecemeal towards a Chicago Plan or some other alternate economic model, then somebody should get the public on board. I think they are desperately looking for new answers to the way we run our economies.