Monday, 24 November 2014

A mistake by Larry Elliot.

Larry Elliot in The Guardian today questions the idea that decent capital buffers would prevent another crisis. That’s his passage: “In those circumstances it is irrelevant whether a bank’s capital buffer is 2% or 20% of risk-weighted assets. It won’t be enough when the crisis comes.”
Well never mind 2% or 20%. What about where lending entities are funded JUST BY CAPITAL, as per Laurence Kotlikoff’s version of full reserve banking. That’s a ratio of 100%. How exactly does a bank go insolvent in that scenario? It’s plain impossible. As George Selgin put it in his book “The Theory of Free Banking”, “For a balance sheet without debt liabilities, insolvency is ruled out”. (Not that Selgin advocates full reserve banking, incidentally).
Even if the ratio is 50% (as was common in the 1800s), the chance of a bank going insolvent is vanishingly small. But the moral is that the larger capital buffers are, the less likely is bank insolvency.
At 50%, the chance of insolvency is very small.
At 75% it’s verging on the impossible.
At 100%, it’s impossible to all intents and purposes.

But that's not to say that given the discovery that a significant proportion of bank loans are of the Spanish or Irish property type, there wouldn't be a bit of a recession. Given that discovery, aggregate demand would certainly fall unless government stepped in smartish with more deficit. But the important point is that BANK INSOLVENCY is ruled out, and hence threats of a collapse of the entire world economy are also ruled out. Plus there's no need for taxpayer funded subsidies or bail outs for banks. That is, given decent capital ratios, and given the above "discovery", government's attitude to banks can be, "f*ck you lot - you've c*cked it up and you can stew in your own juice. As to the decline in demand we can deal with that via GENERAL stimulus, not stimulus specifically targeted at Wall Street bankster/criminals."

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