Hitler may not have come to power if Ger­many had used he­li­copter money

Mint Asia ST - - News - BMY ONIKA H ALAN

Busi­ness­man, reg­u­la­tor and au­thor Adair Turner is well known for the role he played as chair­man of the UK’S Fi­nan­cial Ser­vices Author­ity dur­ing the fi­nan­cial cri­sis of 2008. He took over the reg­u­la­tor’s job five days af­ter Lehman Broth­ers Hold­ings Ltd went bank­rupt on 15 Septem­ber 2008. He is also chair­man of the In­sti­tute for New Eco­nomic Think­ing (INET), New York.

In an in­ter­view in New Delhi dur­ing a re­cent visit, Turner spoke about ap­ply­ing some of the so­lu­tions he sug­gests in his book Between Debt and the Devil: Money, Credit and Fix­ing Global Fi­nance to an emerg­ing mar­ket like In­dia. Edited ex­cerpts: If in the West it is the power of Wall Street that is able to push the bound­aries in bank­ing, in In­dia it is crony cap­i­tal­ism that has con­trib­uted to the twin bal­ance sheet prob­lem. In the frame­work of your book, what would be your ad­vice to solve it? In­dia’s bad debt prob­lem is a bit dif­fer­ent from the prob­lem I ad­dress in the book. My the­ory is that the fun­da­men­tal rea­son for the 2008 cri­sis and the dif­fi­culty of re­cov­ery from that, it was not just the fi­nan­cial sec­tor, but the whole level of debt of the whole real econ­omy—cor­po­rate and house­holds—over 60 years. The debt-to-gdp ra­tio in the ad­vanced economies went up from 50% to 100% for a set of rea­sons. If that oc­curs, and given that most of that growth of credit is against real es­tate, ei­ther res­i­den­tial, in­di­vid­ual or com­mer­cial real es­tate, there is a process whereby that is ac­cel­er­ated re­in­forc­ing process, of more debt and higher as­set prices, which then pro­duces a cri­sis that is very dif­fi­cult to es­cape from. We saw that cy­cle in Ja­pan in 1980s, in Scan­di­navia in early 1990s and then with cat­a­strophic ef­fect in the US and many other coun­tries in the run-up to 2008.

The In­dian bad debt prob­lem is not fun­da­men­tally the same as that be­cause the big­gest prob­lem in In­dia is lend­ing for in­vest­ment. One of the problems that the ad­vanced economies have got is that most bank lend­ing is not much to do with plant and ma­chin­ery any longer, it is ba­si­cally the pur­chase of real es­tate that al­ready ex­ists. But in In­dia, bad debts are con­cen­trated in large cor­po­rate en­ti­ties which in the years where peo­ple thought the econ­omy might grow 8-10%, in­vested in par­tic­u­lar power sta­tions and those are un­der­uti­lized, low plant load fac­tors be­cause elec­tric­ity de­mand has not grown as fast as they an­tic­i­pated, be­cause the econ­omy has been slightly slow.

Also be­cause there has been a ma­jor op­por­tu­nity to im­prove en­ergy ef­fi­ciency which peo­ple had not an­tic­i­pated. So, this is a very par­tic­u­lar prob­lem, the In­dian bad debt prob­lem, con­cen­trated in heavy in­dus­try and of course, with a large role of the pub­lic sec­tor banks rather than the pri­vate sec­tor banks. So, it is a ma­jor prob­lem, but it is slightly dif­fer­ent from the one ad­vanced coun­tries have. How­ever, In­dia may get the more classic prob­lem in the fu­ture if it al­lows the growth of lend­ing against real es­tate to grow and grow. I would watch the dan­ger of that, while still think­ing about this par­tic­u­lar prob­lem that In­dia cur­rently has. Three ques­tions here. One, is In­dia’s prob­lem a bet­ter prob­lem to have? Two, what would be the red flags we need to look out for? When do you think the prob­lem is get­ting out of hand? Three, are you say­ing that house­hold lever­ag­ing is a bad idea whereas a coun­try lever­ag­ing it­self, be­cause you speak about the abil­ity of gov­ern­ments to print money to get out of a bad place, is bet­ter? It is very, very im­por­tant in think­ing about debt to think about three dif­fer­ent func­tions that it can per­form in the econ­omy. One is the func­tion that is de­scribed in our eco­nomics text­books. If you read an eco­nomics text book, you would imag­ine that what banks do is that they lend money to busi­nesses to buy plant and ma­chin­ery to in­vest, that’s what the text books as­sume, and we need to un­der­stand this as­sump­tion and we need to un­der­stand that some­times that can run out of con­trol with too much in­vest­ment, and that is what hap­pened in the power in­dus­try in In­dia.

There is a sep­a­rate func­tion that lend­ing can per­form and it is the pre­dom­i­nant ac­tiv­ity of banks in ad­vanced economies to­day, which is to lend money to peo­ple to buy as­sets that al­ready ex­ist. And th­ese as­sets are real es­tate. There is a role of debt in an econ­omy, but its eco­nomic func­tion is not the same as lend­ing for in­vest­ment. There is a third cat­e­gory which is lend­ing to con­sumers so that they can spend money be­fore they have the in­come.

One of the cru­cial ar­gu­ments of my book is that there has not been a dis­tinc­tion in the eco­nomics lit­er­a­ture, between those three dif­fer­ent func­tions of debt, but they have very dif­fer­ent dy­nam­ics, dif­fer­ent im­pli­ca­tions. Do we need to think of good debt and bad debt? I think I would be a lit­tle bit care­ful about call­ing it good or bad. But let me an­swer your other ques­tion first. Is lend­ing to in­di­vid­u­als bad? I think there is a role in an econ­omy for in­di­vid­ual loans, for in­stance mort­gage debt, it can en­able peo­ple to buy houses which they would not oth­er­wise be able to. But you can have too much mort­gage debt, and if mort- gage debt is too eas­ily avail­able, fun­nily enough, it can be bad for the per­cent­age of peo­ple who are in their own houses.

In the UK, up to about 1990 easy mort­gage debt was help­ing drive an in­crease in owner oc­cu­pa­tion. But then mort­gage debt got so easy to get that peo­ple were sim­ply buy­ing to in­vest, to rent out to oth­ers, and be­cause they were al­ready wealthy, had slightly bet­ter ac­cess to credit than oth­ers; they were able to bor­row more money and drive the prices of houses up, so that many peo­ple could not even af­ford the de­posit for the mort­gage debt.

With mort­gage debt, it is a com­pli­cated func­tion where up to a cer­tain point as a per­cent­age of GDP, it helps drive greater own­er­ship of houses and then when it is too easy it drives back down again.

There isn’t good debt or bad debt in a very, very sim­ple fash­ion...most debts can be good up to a cer­tain level but we can have too much of it. This is one of the im­por­tant parts of eco­nomic the­ory that my book is about. This has been un­der­ex­plored in the past. Is there a way for reg­u­la­tors to solve this prob­lem with­out be­ing pa­ter­nal­is­tic? Any met­rics that pre­vent lend­ing beyond a cer­tain point if a per­son is over­lever­aged? There is a vi­tal role for good reg­u­la­tion in con­trol­ling the bank­ing sys­tem. In the past we’ve tended to de­fine what good reg­u­la­tion is sim­ply in terms of pre­vent­ing banks go­ing bank­rupt. But my ar­gu­ment is: that is an in­suf­fi­ciently wide def­i­ni­tion of a prob­lem.

We can have a prob­lem even if banks don’t go bank­rupt. Be­cause even banks that don’t go bank­rupt can lend so much money that the level of lever­age in the econ­omy goes up, it gets so high that ev­ery­body be­gins to worry about it and then they cut their in­vest­ment if they are a com­pany and they cut con­sump­tion if they are an in­di­vid­ual and that drives an econ­omy into re­ces­sion. We need to guard against that. How? We need suf­fi­ciently high cap­i­tal ra­tios for banks so it can con­trol the to­tal amount of credit they can cre­ate.

There is an enor­mous nat­u­ral bias, cer­tainly when economies get beyond a cer­tain in­come level, nat­u­rally a ris­ing bias for the bank­ing sys­tem to grav­i­tate to­wards lend­ing against real es­tate. Even from a banker’s point of view, it is the eas­i­est thing to do.

As long as there is an as­set, you can claim the prop­erty and sell it off. Through­out the ad­vanced economies, there is a ten­dency for the bank­ing sys­tem to get more and more fo­cused on real es­tate lend­ing. I am not ar­gu­ing that you ban real es­tate lend­ing. But we need to rec­og­nize that this is the nat­u­rally ris­ing ten­dency to some­what overdo it. Reg­u­la­tors should set slightly higher cap­i­tal re­quire­ment for real es­tate, you do it through the risk weights, set it slightly higher than banks would nat­u­rally do for them­selves. Banks can only be ex­pected to fo­cus on ‘am I go­ing to be paid back,’ but they are paid back by an over­lever­aged bor­rower, who to pay back has cut con­sump­tion.

And if there are si­mul­ta­ne­ously mil­lions of such peo­ple, even good lend­ing, seen from a banker’s point of view, can have a bad macroe­co­nomic ef­fect. We need to lean against that in reg­u­la­tion. This is not a broadly ac­cepted point of view. The pre­dom­i­nant at­ti­tude to reg­u­la­tion across the world is still that the fo­cus is on mak­ing sure that the fi­nan­cial sys­tem it­self is sta­ble and does not go into crises. What I add to that ar­gu­ment is that we need to look at the in­debt­ed­ness of the real econ­omy. Your so­lu­tion seems to be that you only lend what you have. There has been a huge mis­take in the global ap­proach to bank­ing reg­u­la­tion go­ing back decades to al­low banks to op­er­ate as very highly lever­aged en­ti­ties. Have you rec­om­mended a sit­u­a­tion where banks can only lend what they have as de­posits? No, there are some peo­ple who take my ar­gu­ment to a very strong ex­treme. There were a group of econ­o­mists in early 1930s in Amer­ica who cor­rectly un­der­stood that the (rea­son the) Amer­i­can econ­omy was in a cat­a­strophic mess by 1931 was the over-ex­pan­sion of credit in 1920s. Econ­o­mists like Irv­ing Fisher and Henry Si­mons, although in most ar­eas of the econ­omy they were ex­treme free mar­keters, they thought the banks were so dan­ger­ous that in the up­swing would run so far out of con­trol that, es­sen­tially, they wanted to abol­ish banks.

They wanted banks only to be able to lend long-term eq­uity and debt, which es­sen­tially is to abol­ish banks. They talk about 100% re­serve banks. Lend­ing would not oc­cur in bank­ing sys­tem, banks would sim­ply be hold­ers of cash. In my book, I ex­plore, should we go that far? And I think it is im­por­tant that th­ese are not crazy ideas, th­ese are ideas of peo­ple who had ob­served the chaos cre­ated by an over­ac­tive ex­pan­sion of credit. But I do think that we don’t need to go that far, and there is an im­prac­ti­cal­ity of go­ing that far. But once you re­al­ize that it is not mad to sug­gest that, you can pick a point on the spec­trum which is a much higher level of cap­i­tal or re­serves than we cur­rently al­low the bank­ing sys­tem to run on. In­dia has a con­cept called pay­ment banks, where no lend­ing is al­lowed. Do you think they would work? What we have to see is that how will a pay­ment bank com­pete with a classic bank that un­der­prices its pay­ment ser­vices. Banks have

PRADEEP GAUR/MINT

In­vest­ment strat­egy: For­mer chair­man of the UK’S Fi­nan­cial Ser­vices Author­ity Adair Turner says In­dia has this spe­cific sit­u­a­tion of in­vest­ing in gold, it isn’t there any­where (else) in the world.

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