A lack of guts let the spivs roam free

A lack of guts let the spivs roam free

Simon Jenkins , The Sunday Times, 21 September 2008

You don't understand it either, do you? How could a clutch of dud mortgages somewhere in the American Midwest bring the mightiest financial centres on earth close to collapse? How could the esoteric practices of risk exchange sabotage what were, just six months ago, two smoothly performing capitalist economies?

Come to think of it, how could the most potent capitalist regimes in the world, which had defeated the might of communism, be felled in a week by the tuxedo Talibans of Wall Street? We understand war and peace. We grasp global warming and the rules of cricket. But economics is still a mystery wrapped in an enigma.

One thing I learnt at my mother's knee was that the great crash of 1929 was the result of human error. Understanding it was, as JK Galbraith wrote, "the best safeguard against its recurrence". Yet it recurred, and by last Thursday the motto on the American dollar, In God We Trust, had been rewritten. Since the Almighty had carelessly omitted toxic derivatives from the Ten Commandments, trust should now be placed in the Federal Reserve.

Never again let it be said that something "can't be done" by government. I was assured two weeks ago that there was no question of outlawing the short-selling of bank shares, the isolating of mortgage debt from the banking system or the nationalisation of US banks or insurance companies. Now the greatest nationaliser in the free world is a right-wing Republican president, George Bush. He is the biggest spender of taxpayers' money in peace-time. The weak no longer go to the wall but to the US (and UK) Treasury. Nemesis must be laughing herself sick.

The crash of 2008 has not spelt the end of capitalism but has proved, as did the shock of 1929, that capitalism, like any system of human behaviour, needs policing. Money does not answer to the mathematical models that obsessed, and ultimately blinded, the old economists. It answers to the crooked timber of mankind and therefore needs rules, and rule-makers, clever enough to work with its grain.

Just as there are things diplomacy cannot do without calling on armies, so there are things markets cannot do without government. The market in credit, the lubricant of capitalist growth, depends on trust that debts will be repaid, which in turn depends on an economy continuing to grow. If it has grown too fast and collapses, trust evaporates.

The market cannot ultimately cover this position. That is why a prime duty of government is to do so. Guaranteeing bank deposits in a credit crisis is a proper function of a central bank, just as defending the nation's borders is a proper function of an army. When a failing bank comes rumbling down the high street, people turn to government for rescue since it wields the one sure defence against loss of trust. It can underpin trust with the future flow of taxes. There is nothing shaming or ignoble in this. Like war, it is the result of failure, but sometimes war, too, is necessary.

In the late 1980s, governments in Britain and America gambled on "modernising" the credit market by breaking down firewalls in the banking system. They left too few in place to stop a collapse in one sector, so-called toxic housing credit, polluting the rest. This was exacerbated by the failure of regulators, even after the Nick Leeson affair at Barings, to see how reckless traders, puffed up by lunatic incentive schemes, could gamble billions in pursuit of turnover-related bonuses. Coupled with the lax regulation of insider trading, risk-reward ratios and short-term market movements, this ensured the boom-bust conditions now seen. Needless to say, what was declared impossible to regulate in good times is suddenly regulatable in bad ones.

In such circumstances I cannot understand the idea of moral hazard, used to justify the initial inertia of the US Treasury and the Bank of England. The regulators decided to "punish" depositors and shareholders in some banks as a way of somehow purging capitalism of its sins. This was arbitrary and achieved the opposite of what was intended. It destabilised when stability should have been all.

This was not a moment for teaching lessons in the obligations of capitalism. Shareholders in Lehman Brothers, HBOS and, for that matter, Northern Rock were not market speculators risking their shirts on a quick buck. Most were pension-holders and hardly different from depositors. They assumed that the credit system underpinned their savings.

The authorities undermined markets at the moment when the duty of government was to calm them. Millions have lost money, and millions more will see a chunk of their incomes disappear in higher taxes as a result. Tens, possibly hundreds, of thousands of people will have lost their jobs. And for what? For the pleasure of seeing a few spivs in tears at the Canary Wharf Starbucks while the guilty ones at the Bank of England and the Financial Services Authority slink back to safe jobs?

Public comment last week greeted the downfall of the "masters of the universe" with undisguised glee, while the press descended to gloat over the poor little rich things and their wives stripped of nannies and skiing holidays. But what of the authorities? They deal in foreign exchange to stabilise market confidence, yet refused to do so in the mortgage or banking markets until forced to change their minds. A prime minister who has presided over the breakneck deregulation of the City for a decade now suddenly discovers a need to "clean up the City".

The casual ease with which ministers moved against share-shorting on Thursday too late to save HBOS must leave the nation gasping at why this was not done earlier. And when will they decide after all that they should have regulated the bonus culture? If a man is going to gamble away my savings, I would like to think my bank has not given him a financial incentive to do so, that he is a professional working on a salary.

It is by no means clear what really happened over the past two weeks or who was to blame. For all the schadenfreude that surrounds the collapse of a speculative bubble, it remains a mistake to let a bank fail.

Banks are the rocks on which capitalist enterprise is built. There must be a hundred ways of holding boards accountable for their decisions short of stripping the public of its savings. You could ban the directors for life. As for moral hazard, when a bank fails it means, by definition, that the concept has lost all deterrence. The horse has bolted.

Were this a military catastrophe or an intelligence failure or even a train crash, there would be a public inquiry. There would be one even if everyone knew what had happened and whom to blame. Neither is the case today. The crash of 2008 has been, for most people, an utter confusion leaving a nasty sense that those in power knew what was going on and were too spineless to control it.

I hate public inquiries, so often media kangaroo courts that merely enrich lawyers. But there cannot have been a fiasco more in need of illumination than the past two weeks in the City of London. Its decisions cry out for analysis; its lessons cry out for learning, and those in charge should render a public account. They have given the nation the most almighty shock and cost taxpayers a fortune.