Sunday, 12 October 2008

What do we want from the banking system?

A few desiderata, to assist in the reform process.

Safety, at least for retail deposits. People want to know that their money is safe and available at short notice.

Availability of credit at a fair price. It should be possible for all, individuals and corporates, to borrow at a spread that reflects the risk (in both directions - not too high nor too low). Financial institutions can make profit in this process, but that profit should not be unreasonably high. Therefore we need some measure of competition in lending.

Return requires risk, and that risk should sit with the risk taker alone. If you want a higher return than government bonds, it should be perfectly clear that you are taking a risk to get that return, and hence if things turn sour, you and you alone should bear the consequences of that decision*. Risk takers should not be allowed to take risk in ways that endanger more than themselves - low altitude parachute jumps over uninhabited desert are OK; driving at 100 mph in built up areas is not.

Ummm, I am sure there is more, but aren't those the most important things? Right now I am a bit like the financial system -- suffering and not working very well -- thanks to a nasty coldy flu thing. I hope my recovery will be easier and faster than finance's. And certainly I hope less radical surgery will be required.

* That extra 1% return on an Icelandic bank account came with a risk. Live with it.

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