July 11, 2015

Extremely long roots

Comment Lars Syll on ‘Schäuble goes Matrix’


You quote Mark Blyth’s article ‘A Pain in the Athens. Why Greece Isn't to Blame for the Crisis’ approvingly. Blyth explains: “The roots of the crisis lie far away from Greece; they lie in the architecture of European banking.”

This is accurate only insofar as the European banking system has adopted the negative institutional features of the US banking system.

Remember that the investment banks literally invented sub-prime lending. Not one competent mortgage banker, neither in Germany nor in France, would have taken up this type of business.#1 Investment banking has nothing to do with classical European banking which consists essentially of lend-and-hold, long-term customer relationship, and risk-absorbing equity.

Investment banking depends basically on extreme leveraging, minimizing risk-bearing equity, maximizing quarterly return on equity, shifting credit risk to non-banks via securitization, and shifting the risks from derivatives betting ultimately to the public via too-big-to-fail. It is not so long ago when first Deutsche Bank and then the rest of the rather conservative German banking industry turned to investment banking.

This casino banking failed in 2008 in the US and now in Greece.

A very good piece of advice for the Greek people would be to look at the German cooperative banking group. In effect, people can own their local bank, the lender-creditor relationship is face-to-face, risks are strictly limited, and if it actually happens that one bank fails it is bailed out by a fond, that is, by all cooperative banks together. Seen as an institution, this self-organizing group of diverse firms provides all banking/insurance services at zero risks for society at large. No tax-payer ever paid a cent for a failed cooperative bank. This is exactly the opposite of too-big-to-fail which is the de facto life insurance of the free-riding US banking system.

This system, not the German three-column institutional setup, has been exported around the world under the flag of deregulation.

In 2008 the US banking system had been rescued by the Fed. Only if the toxic assets were valued to market today, one could see whether the big American banks are actually bankrupt or not. Note that the suspension of the mark-to-market accounting principle FAS157 was one of the first rescue actions in March 2009.

The Greek crisis is ultimately due to a switchover from originally safe and sound European banking institutions to US-style Ponzi-banking. The self-destructive feature of this system is extreme leveraging, as Minsky already pointed out.

It is true, indeed, that it was not alone Greece which had the whole thing messed up, but Blyth’s analysis remains on the surface. Yes, the roots of the crisis lie far away from Greece — approximately the width of the Atlantic.

Egmont Kakarot-Handtke

#1 See also on the RWER blog It's about institution-building, stupid.