By some margin this is the best book I have read on the current crisis. As you’d expect of a Nobel prize winning economist, it is rigorous, consistent and comprehensive. It is also hopelessly flawed.
To be fair, the author largely acknowledges this himself. Over the course of the book he outlines a collection of policy measures to either prevent or mitigate future financial crises. But he believes the chances of these being implemented are limited. Although a principled author, he does not come across as dogmatic and I suspect would support suitable alternatives, but they look just as unlikely. As a political lobby the banks are too strong and the necessary measures are too disruptive implemented without significant pain to those running them (though not shareholders in the long run.)
The flaw the author does not discuss is the US focus of both his discussion and suggestions. To some extent this is justified – the crisis has ‘Made in America’ stamped all over it and the problems are deeper there than everywhere else. But to read that the UK has done a much better job of dealing with problem banks (mainly because it fired management) misses that the issues here run just as deep, but in a different way and may require a different solution. As the country with the world’s reserve currency (for now at least) the US has access to the financial resources to tide itself over any problems in the short run. The Greeces & Irelands of the world do not.
If we focus on the UK as a good example, there is a banking commission that is looking into these issues, yet it has run into a possibly insurmountable issue – the international nature of banking. This manifests itself in two ways. The first is that the large UK banks are not really UK banks. The recent furore over Barclays UK corporate tax is partly explained by the simple fact that it earns a lot of money outside the UK. HSBC has never really been a UK bank. RBS is shrinking its overseas assets, but they are hardly small. Lloyds is the most UK focussed, but is still suffering significantly from the HBOS Irish operations. And Santander has no delusions about being British. Whatever rules the UK authorities enact, they have to be to some extent compatible with overseas regulations. If they solely apply to the UK operations it would do nothing to remove the enterprise wide risks.
The second is competitiveness issues. The UK is stuck between a rock and a hard place – in the City it hosts a huge overseas banking presence. The value of this in jobs, tax revenues and sheer prestige is immense and it would be a brave government that damaged that unnecessarily. Financial capital is hugely mobile, so bankers protect themselves by highlighting that any restrictions will see business flee overseas. And there are many countries that would welcome it, despite the inherent risks that we have seen. So we have a race to the bottom – as John Gray puts it, ‘bad capitalism’ drives out ‘good capitalism’. Even if eventually the new hosts may see the same problems the UK has.
All this means is that most unilateral action by the UK is ineffective. It may drive banking business away, but do little to protect the UK if contagion means it just comes bouncing back. Yet the desire for international consensus is weak – most countries would be happy to see the UK drive business away and see business return to them. The need for change is immense, but alas, as Stiglitz acknowledges, the window of opportunity may have closed. I fear the best we can do is prepare the solutions now and wait for the next crisis to implement them, even if again its closing stable doors too late.