The Economist surprised me this week. In a good way.
Over the past few years, the newspaper’s main rhetoric has been that the financial system needed to be more regulated. From time to time, the ancient roots of the venerable newspaper seemed to make a comeback to denounce the increasing red tape that financial businesses were now subject to. But overall, The Economist seemed to have been partly taken over by statist fever and the general editorial line was: regulation and inflation will be the saviours of our capitalist system. Unsurprisingly, I tended to disagree (euphemism spotted).
When this week The Economist decided to publish two articles under the umbrella title of A History of Finance in Five Crises, and How the Next One Could be Prevented (see here and here), I was very sceptical. I was indeed expecting the usual arguments that bankers try to abuse the system, that regulation is necessary to prevent those abuses, that more central bank control of the financial system is a good thing, that financial innovations should be regulated out of existence.
I was plain, delightfully, wrong.
This is The Economist:
Whatever was wrong with the American housing market, it was not lack of government: far from a free market, it was one of the most regulated industries in the world, funded by taxpayer subsidies and with lending decisions taken by the state.
In a very timely and remarkable echo to my very recent post on the obsession of financial stability, the newspaper also pointed out the risk of too much protection:
The more the state protected the system, the more likely it was that people in it would take risks with impunity.
[…] In many cases the rationale for the rules and the rescues has been to protect ordinary investors from the evils of finance. Yet the overall effect is to add ever more layers of state padding and distort risk-taking.
This fits an historical pattern. As our essay this week shows, regulation has responded to each crisis by protecting ever more of finance. Five disasters, from 1792 to 1929, explain the origins of the modern financial system. This includes hugely successful innovations, from joint-stock banks to the Federal Reserve and the New York Stock Exchange. But it has also meant a corrosive trend: a gradual increase in state involvement.
The newspaper even attacked… deposit insurance! Blasphemy! To tell you the truth, I still find it hard to believe:
The numbers would amaze Bagehot. In America a citizen can now deposit up to $250,000 in any bank blindly, because that sum is insured by a government scheme: what incentive is there to check that the bank is any good?
[…] Today America is an extreme case, but insurance of over $100,000 is common in the West. This protects wealth, and income, and means investors ignore creditworthiness, worrying only about the interest-rate offer, sending deposits flocking to flimsy Icelandic banks and others with pitiful equity buffers.
[…] How can the zombie-like shuffle of the state into finance be stopped? Deposit insurance should be gradually trimmed until it protects no more than a year’s pay, around $50,000 in America. That is plenty to keep the payments system intact. Bank bosses might start advertising their capital ratios, as happened before deposit insurance was introduced.
Those are two brilliant articles. Personally, I find that very encouraging. It means that my blog, as well as the work of the very few people who think like me, aren’t pointless.
Dear Economist, welcome back.
(and please stay with us this time)