Transcript Slide 1

21-Jul-15 | 1
The Current Banking Crisis:
What’s New and What’s Next?
Harry Garretsen
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Outline
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The current mess: quick recap (see also Sterken’s lecture!)
Will this banking crisis turn into a financial crisis?
Basic economic insights (micro, macro)
What’s new with this crisis?
Costs for the “taxpayer” and the real economy
Prediction (2 scenarios)
(Questions/discussion)
-I will talk for 30-35 minutes........
[Crisis is still fast moving: spot the new bank in the 1st slide!]
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The “Trigger”: Housing prices US
PHOUSE
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How did we get here?
• Trigger: Slowdown and fall in US housing prices
(2006) and subsequent sub-prime mortgage crisis
• Loss of Confidence within banking sector, Aug. 2007
• Inter-bank market shuts down: “just” a liquidity
crisis?
• Bank run (I) on shadow banking system (Spring 08)
• Balance sheets “banks”: toxic assets, shares fall, more
funding problems→ solvency crisis?
• Bank run (II): financial system collapse, governments
step in (after 18/9)
• Increased fears of (deep) recession…………
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Banking Crisis=Financial Crisis?
• Not all crises or financial disruptions are a financial
crisis:
Take the stock market crash of 1987 or the deflation of
the “dotcom” bubble in 2000/01………
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Financial crisis: financial system cannot perform
its main functions anymore and this has “real” costs
-Functions: S→I; risk spreading; liquidity provision
-Real costs: considerable output loss (+fiscal costs)
-Do banking crises qualify (85%)? Does this banking
crisis qualify? (…….? Yes)
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Economics is useful to get a grip on these crises
• Micro:
1)
pt  aE pt 1 ; I t   adt
2) efficiency of markets; rationality of agents
(take “ super agent” Alan Greenspan in 2005, the
quote is a bit long but very revealing……….)
• Macro (Bernanke, smarter than Greenspan??):
1) with imperfect financial markets: credit crunch
2) financial crisis as negative aggregate supply shock
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“With
these advances in technology, lenders have taken
advantage of credit-scoring models and other techniques
for efficiently extending credit to a broader spectrum of
consumers. The widespread adoption of these models has
reduced the costs of evaluating the creditworthiness of borrowers,
and in competitive markets, cost reductions tend to be passed
through to borrowers. Where once more-marginal applicants
would simply have been denied credit, lenders are now able to
quite efficiently judge the risk posed by individual
applicants and to price that risk appropriately. These
improvements have led to rapid growth in subprime
mortgage lending; indeed, today subprime mortgages account
for roughly 10 percent of the number of all mortgages outstanding,
up from just 1 or 2 percent in the early 1990s.”
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It has happened before………….
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A non exhaustive list: Great Depression 1930s; S&L
crisis in USA in 1980s; Japan after 1991; Sweden 1992;
South Asian crisis of 1997/8 etc………..
Laeven & Valencia (2008): 124 banking crisis 19702007!!
Two Questions:
1) How to explain the frequent occurrence of banking and
financial crises?
2) Is the 2008 crisis different? (And if so, how?)
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14
12
10
8
6
Banking crises
4
Currency crises
Twin crises
2
All crises
0
1880-1913
1919-1939
1945-1971
1973-1997
1973-1997
21 countries 56 countries
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1st Question: are we all just plain stupid?
Research on banking and financial crises:
1) All crises are crises of success
2) Crises are integral part of working financial markets
3) Crises are caused by collective overconfidence driven
by economic boom, “new” developments (old laws no
longer apply) and lack of regulation/supervision
Crises happen but is financial sector stable enough to
cope?......................
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Minsky’s financial instability theory
Too much risky investment at the peak:
GDP
Growing gap between asset prices and
fundamentals
Time: 1930s US; 1990s
Japan; etc..
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Minsky: financial sector is never “stable”:
boom and bust cycles unless…………
Too much risky investment at the peak:
GDP
Growing gap between asset prices and
fundamentals
→ Time: 2001-20052008-?
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2nd question: what’s new about this crisis?
• So far, mainly 2 things (apart from the fact that “we”
(=OECD block) are now hit):
-contagion within banking sector or financial sector at
large (Paul Krugman)
-transformation of banking sector from 1990s
onwards (securitization trend)
goodbye to the days of boring banking…..
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Recall from 1st lecture: banks’ balance sheets
Liabilities
Assets
Uncertain
Loans
Deposits
Opaqu
e
Securities
Non-deposits
Money/Capital
market
sensitive
Risky
Equity
Stock
market
sensitive
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What are the costs of banking crises?
• Fiscal costs (associated with bailing out banks,
rescuing deposit holders etc.)
• Output loss (how much gdp loss compared to trend?)
• Laeven&Valencia (2008), Brown,Bos etc. take note!!:
-avg. fiscal costs amount to 13% gdp
-output loss on avg. 20% (in 4 years after the crisis)
-trade off between fiscal costs and output loss
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What’s Next?
• We’re heading for sharp growth slowdown (recession)
Some countries are already in recession (-1 or -2%)
and others will be lucky to get away with 0% growth
• Banking crisis will make this slowdown worse:
(confidence, wealth effects; credit crunch)
• But a mild recession is not the same thing as a full
blown financial crisis or a depression (are we heading
for a lost decade (Japan) or the US in the 1930s?)
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Can policy make a difference? (1)
• Short run:
-government should step in with liquidity support,
capital and restore confidence (so yes, hurrah for
Gordon Brown)
-macro: fiscal policy is back (monetary policy does not
really bite now)
• But these are just policies to “bring the fire under
control”
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Can policy make a difference? (2)
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Long run (sometimes economists do agree!):
“Future supervision should be improved: (1) start of a
European/maybe worldwide bank supervisor, (2) end
of universal banking, (3) cope with moral hazard
issues, (4) end of market-based (fair value!)
accounting, (5) limit the use of derivatives”
But crises will happen again (but good policies reduce
the probability of a future crisis in the financial sector)
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Can policy make a difference? (3)
• Medium run (3-5 years):
-Backlash against private banking/international
capital flows/globalisation in general
-But benefits (international) private capital flows still
outweigh the costs
-Where’s plan B? When to de-nationalize banks
again?
-The Big Challenge for policy: balance between
private and public risk (concern: too little private risk;
moral hazard)
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My own prediction
• Two scenarios:
-Sweden (sharp but not very long recession, clean up
of the banking sector)
-Japan (muddling through, zero growth for a decade
or so, no real restructuring banking sector)
Ask again after November 4th! (I think and hope the
Sweden option is possible)
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More (daily) information……..
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See for instance these 3 economists and their daily views
on the unfolding crisis:
-Nouriel Roubini (Dr. Doom:
http://www.rgemonitor.com)
-Paul Krugman (his blog at www.nytimes.com)
-Willem Buiter at FT (http://blogs.ft.com/maverecon)
Latest growth predictions and link to data set on
crises:
-IMF, World Economic Outlook, October 2008 (ch. 1 +4)
-Luc Laeven and Fabian Valencia, “Systemic Banking
Crises: A New Database” IMF WP, 08/224, Oct. 2008.
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This lecture series continues……..
• Next lectures: Jaap van Manen, Robert
Lensink