Monthly Archives: January 2013

Those Imperial dudes

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I couldn’t resist another description of one of the first British parties to explore Everest in 1922, from the brilliant [amazon_link id=”0099563835″ target=”_blank” ]Into The Silence[/amazon_link] by Wade Davis. This time it’s Lieutenant F.M.Bailey:

“A brilliant naturalist, he discovered scores of new species, including the legendary Himalayan blue poppy that bears his name. He once saved his own life by using a butterfly net to self-arrest and thus escape a snow slide as it grew into an avalanche. Seriously wounded three times during the war, in France and at Gallipoli, he became a British spy, a master of a dozen disguises, traveling as a Buddhist priest, an Austrian soldier, and an Armenian prisoner of war, and causing the Bolsheviks in Tashkent and Samarkand such grief that he would live with a Soviet bounty on his head for the rest of his days.”

The intrepid explorer and spy later wrote some books himself including [amazon_link id=”0192803875″ target=”_blank” ]Mission to Tashkent[/amazon_link]. All of the characters on the early Everest missions are extraordinary.

[amazon_image id=”0099563835″ link=”true” target=”_blank” size=”medium” ]Into The Silence: The Great War, Mallory and the Conquest of Everest[/amazon_image]

[amazon_image id=”0192803875″ link=”true” target=”_blank” size=”medium” ]Mission to Tashkent[/amazon_image]

Davos reading

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Once, I went to Davos. Like Lewis Lapham, I didn’t have to pay as I was then a “prospective supplier of supportive adjectives” ie. a journalist. For those who haven’t read it, whether Davos attendees, wannabees, or refusniks, Lapham’s 1998 book [amazon_link id=”1859847102″ target=”_blank” ]The Agony Of Mammon: The Imperial Global Economy Explains itself to the Membership in Davos[/amazon_link] is an instructive perspective on the phenomenon. I like the Walter Bagehot quotation he opens with: “Poverty is an anomaly to rich people. It is very difficult to make out why people who want dinner do not ring the bell.”

[amazon_image id=”1859847102″ link=”true” target=”_blank” size=”medium” ]The Agony of Mammon: The Imperial Global Economy Explains Itself to the Membership in Davos, Switzerland[/amazon_image]

I’d certainly never pay to go back to the WEF-fest up the mountain, and have never since been offered the zero-price option. Perhaps I’d be vain enough to accept such an offer, but I hope not. There is something highly corrupting about it – more so, despite the interesting comparison John Gapper draws in today’s FT (Davos: Infotainment, Not A Conspiracy) – than is the case with other elite ‘clubs’ such as TED. I think it’s simply the sheer amount of money required to get there and concentrated there. Enough money to reflect real power.

Best sentence in a book ever?

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Wade Davis has an enviable job title, although one that is a bit of a contradiction in terms – an Explorer in Residence at the National Geographical Society. He has written a wonderful book: [amazon_link id=”0099563835″ target=”_blank” ]Into the Silence: The Great War, Mallory, and the Conquest of Everest[/amazon_link].

[amazon_image id=”0099563835″ link=”true” target=”_blank” size=”medium” ]Into The Silence: The Great War, Mallory and the Conquest of Everest[/amazon_image]

I’m half way through it. But already I’ve come across a sentence that is a candidate to be one of the best ever. It is in a paragraph about Eddie Marsh, the private secretary to Winston Churchill, who became friends with the pioneering mountaineer George Mallory. It captures both the man and the times, the confident heyday of the British Empire on the eve of World War I, run by perfect Edwardian gentlemen:

“Fourteen years older than Mallory, Marsh had traveled on foot to the source of the Nile and had once stood down a charging rhinoceros by intrepidly opening a pink umbrella in its face. But he was better known as a patron of poetry.”

This is one to read in preparation for the 1914 anniversary, along with Paul Fussell’s classic [amazon_link id=”0195133323″ target=”_blank” ]The Great War and Modern Memory[/amazon_link]. Davis writes with brilliance about the horrors of war.

[amazon_image id=”0195133323″ link=”true” target=”_blank” size=”medium” ]The Great War and Modern Memory[/amazon_image]

Bankers, exposed

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I’ve thoroughly enjoyed reading [amazon_link id=”0691156840″ target=”_blank” ]The Bankers’ New Clothes: What’s Wrong with Banking and What to do About It[/amazon_link] by Anat Admati and Martin Hellwig. The title refers to the fairy tale about the naked emperor whom his citizens believe to be clothed in splendid robes until one child, immune from the groupthink, points out his nudity. This book’s aim, decisively achieved, is to de-mistify the public conversation about banking so we can all understand how threadbare the industry is.

The first part of the book gives a careful explanation of leverage and the role of bank equity. While the examples seem simplistic to start with, it is a useful stepping stone to evaluating the current regulatory debate about banks’ equity ratios. The logic is straightforward: the higher banks’ equity, the less destabilising is the effect of leverage, and the less the scope for contagion between banks in a crisis. The authors explain why in 2008 contagion spread so quickly around the financial system, with the arrival of money market funds and increased globalisation also playing a role. They also argue that bankers became complacent because they believed their own quantitative risk models, foolishly.

Importantly, the book also convincingly debunks the banks’ argument that there is no need for them to increase the amount of equity they hold. As Admati and Hellwig note, we suffer from a lack of clarity of thought about this subject. They describe statements made by the industry – with examples – as “nonsensical and false”. Bankers misuse the word ‘capital’ or ‘equity’ to confuse us, the book says. Bank lobbyists say equity is expensive, and increasing the amount they need to hold will therefore reduce the amount they can lend, or raise the cost of lending. They obfuscate the fact that higher equity requirements are equivalent to a limit on the proportion of a bank’s funding that can come from borrowing or leverage. Excess leverage was precisely the reason for the gravity of the financial crisis.

“The confusion about the term bank capital is pervasive… This confusion is insidious because it biases the debate, suggesting costs and trade-offs that do not actually exist….Viable banks can increase their reliance on unborrowed funds without any reduction in lending.”

It is only non-viable banks that would be constrained in their activity.

Their return on equity in fact depends on the risks the banks are taking – as we have seen, low equity ratios pre-crisis did not result in high returns on equity. The return on equity isn’t fixed, and doesn’t have a simple inverse relationship with the amount of equity held. The ROE will depend on the debt-equity mix, among other things.

Suppose, anyway, that the cost of making loans, and therefore interest rates paid by borrowers, were to increase if banks had to hold more equity. That would be a good thing if the rates paid reflected the risks incurred more accurately. It is pretty clear that risk was under-priced before the crisis, and people borrowed too much compared to the likelihood they could repay the loan. A number of very senior bankers acknowledged as much in a conference I attended at the end of last week.

What’s more, why should banks be different from other businesses? Apple has no debt, but its 100% equity ratio does not appear to have harmed its returns. When one would consider, say, 30% equity low for another kind of business, why on earth do we accept that 3% is the ballpark for banks? Should banks not hold higher levels of equity than the rest of the business sector, to reflect the socialisation of the risks they take, and the subsidies they receive via deposit guarantees?

The middle section of the book walks through the arguments for significantly higher bank equity ratios. The final section then turns to the politics of bank regulation. As the authors note, there is a chasm between talk and action, in every country. One reason bank lobbying succeeds is that politicians believe they need to back their own nation’s banks – or at least not disadvantage them – in global competition. Thus, although French politicians talk tough about banking and financial markets, they have been least supportive of moves to tighten bank regulation including equity ratios. Yet when banks succeed in the race for global market share, it is because they are being subsidised by their taxpayers and imposing large risks on them. This is the tyranny of the idea of a ‘level playing field’.

Some regulators understand this. The Bank of England’s Andrew Haldane has argued for higher equity ratios, among other requirements – albeit in the context of a discussion of 4% rather than 3% of the total balance sheet, so still pitifully low in the eyes of The Bankers’ New Clothes. He also persuasively argues that banks should focus on return on their assets (ie. how good a job do they do of lending money for productive activities that pay a good return?) rather than the current industry obsession with return on equity. David Miles of the Monetary Policy Committee has been stronger still. In a recent column on the case for higher equity he said:

“What are the people that run banks really saying if they argue that it is very costly – even unfeasible – to use more equity funding? One interpretation is that this argument is an admission that they cannot run a private enterprise in a way which makes people willing to provide finance whose returns share in the downside and the upside. In other words, they are not able to convince people who will face the full consequences of their commercial decisions to provide funding. It is as if banks cannot play by the same rules as other enterprises in a capitalist economy – after all, capitalists are supposed to use capital. You might expect that if this is the assessment of many people who currently run banks, then they would not wish to proclaim it so loudly.”

So at least some regulators recognise the issue. The problem is translating the conclusion into the arena of political negotiations in international fora, and the obsession with not disadvantaging ‘our’ banks. Politicians have not grasped that such support for ‘our’ banks comes at the cost of the welfare of ‘our’ citizens. I’d make The Bankers’ New Clothes required reading so that policy makers and regulators really appreciate why it is so perverse that the riskiest enterprises in modern capitalist economies are the ones with the least capital. The debate needs to be reset, away from the terms in which bankers talk about regulation, mystifying the rest of us.

As the authors conclude:

“We can have a financial system that works much better for the economy than the current system – without sacrificing anything. But achieving this requires that politicians and regulators focus on the public interest and carry out the necessary steps. The critical ingredient – still missing – is political will.”

[amazon_image id=”0691156840″ link=”true” target=”_blank” size=”medium” ]The Bankers’ New Clothes: What’s Wrong with Banking and What to Do about It[/amazon_image]

The curious case of second hand markets

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When I was growing up in a Lancashire mill town in the 1960s and 70s, every Friday evening we went to the fish and chip shop to buy our meal. The particular delicacy was an upside-down pea mixture: mushy peas on top of the chips, which were then soaked through and green. But this post isn’t about British culinary delicacies, but rather about what the transaction included. Because it was the practice to take your plates and dishes to the shop, where the food was placed on them and wrapped in newspaper. You were buying fish, chips, peas and some paper. This is a contrast to today’s practice of buying in addition a polystyrene tray, and a contrast to buying a meal in a restaurant, or beer in a pub, where you are buying the food and renting the plate or glass.

These reflections about the nature of the property being exchanged in a market transaction came about because I read an article in the Financial Times about a plan for a second hand market for digital goods in Europe, to be launched by ReDigi, which is running one in the US already. It sells for 60 cents songs already bought online for 99 cents. Needless to say, the company has been taken to court in the US) by Capitol Records), for breaching ‘intellectual property’ rights.This is entirely in line with the instinct of the “content owning” industry – witness the way games companies have tried to restrict the second hand market in physical games by adding one-time only codes, and requiring purchasers of pre-owned games to also buy a new code to unlock the game.

The outcome of the ReDigi case will be fascinating: the question is whether something that is ‘property’ in the initial transaction ceases to be property for the purposes of a secondary transaction. Ultimately, it might be the case that digital purchases of books and music become more explicitly a rental model, as the capacity and claimed willingness of vendors such as Amazon to delete purchased e-books or enforce restrictive DRM already hints. Digital goods are a special case because there is no degradation of the second-hand compared to the new item. There are none of the information asymmetry ‘market for lemons’ problems arising from the unknown quality of a physical good such as a car (although not a physical book or garment, which can be inspected in the charity store).

Browsing around about this subject, I’m surprised to find how little research on second hand markets is available. The few journal articles I found – mostly dating back to the 1990s or early 2000s – suggest that second hand markets can increase rather than decrease the size of new goods markets, because consumers will upgrade more often if they can recoup some of their earlier purchase from selling them second hand. What’s more, it would be incorrect to assume anyway that used goods cannibalise new sales, because at least some consumers would never buy them at the higher, new prices. (Cory Doctorow picked up this point in the context of e-books in a 2005 piece.) And of course, we apply different standards, and different concepts of property, in different markets. There is the digital/physical divide, but also the divide between, for example, books, first edition or antiquarian books, and art – rarity determines not only whether second hand cheaper or more expensive, but also our cultural attitudes to buying in the used-goods market.

In the real world, second hand is huge. It’s huge in developed markets – see, for example, this Guardian article about the post-Christmas surge for charity shops – especially during a recession. It’s bigger still in developing country markets, where clothes and other goods such as mobile phones from the richer countries are sold on a large scale in the markets. This may be one of the all-too-frequent examples of a subject not being studied by economists because there’s no readily-available online data set on the OECD or World Bank websites. The one book I managed to find on contemporary society on Amazon is a 2003 anthropological study of [amazon_link id=”1859736726″ target=”_blank” ]Second Hand Cultures[/amazon_link]. (There is also [amazon_link id=”0230229468″ target=”_blank” ]Modernity and Second Hand Trade: European Consumption Cultures and Practices 1700-1900[/amazon_link].)

[amazon_image id=”1859736726″ link=”true” target=”_blank” size=”medium” ]Second-hand Cultures (Materializing Culture)[/amazon_image]

If anybody knows of relevant books in any social science discipline, I’d love to know.  This subject is a dog that hasn’t barked, but maybe that will change.