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Can Banks Live Without Maturity Transformation?
I’ve been following a floury of recent conversations that has taken place in the last months in regard to the presidential working group’s report on money market funds and the subsequent responses to the report including the IDC’s and BlackRock’s. The report outlined a few options that address the vulnerabilities of the money market funds that contributed to the financial crisis and proposes alternatives to increase MMF’s resilience to severe market stresses. The bottom line however, as many individuals have pointed out, is that banks need to remove the concept of maturity transformation due to asset-liability mismatch.
Maturity Transformation (MT) enables all firms, not just banks to borrow short-term money to invest in long-term projects. Of course, banks are the most effective maturity transformers, enabled by deposit insurance/TBTF protection which discourages their creditors from demanding their money back all at the same time and a liquidity backstop from a fiat currency-issuing central bank if panic sets in despite the guarantee.
Banks have become to essentially be in the business of borrowing short and lending long and that activity heavily caused the crisis.
The fundamental mismatch in debts that finance assets is that the ultimate assets being financed are longer-dated than the financing. We fund land, houses, buildings, plant & equipment, and do it off of deposits, savings accounts and CDs. Some financial companies finance off of short-dated repo funding. The reason that this mismatch is hard to avoid is that average individuals who save want short-dated assets that can be used for transactions. That doesn’t fit well against the need to fund long-term assets.
‘Hard to avoid’ has or is well on its way to indeed become one of those technical terms in regulation that may in the future be on par with ‘too big to fail’. Historically, I can understand the need of a such technical control in terms of banks businesses. It has grown however to be a principle within the industry, as articulated here by the New York Fed President William Dudley.
In contrast, the Japanese has traditionally relied on a strict silo-ing of finance. Where, under Matsukata Masayoshi’s many reforms, banks had evolved into three categories – commercial, industrial and savings. These banks were in essence allowed to operate within their designated industries and proved to be specialized towards the needs of the industries’ clients. Industrial banks, for example, met the long term needs of firms by specifically acquiring capital from lenders who willingly extend capital for a long period of time. As time passes, these banking segments became even more specialized and designated to meet particular maturity needs of their respective sectors.
The options are limited but in light of the given historical account, the possibility does exist to mitigate or even remove the concept of maturity transformation from the industry. And no this will not lead to catastrophic increase in long-end interest rates as many has set forth for counterargument. It is a form of magic from the banks that inadvertently contributed to the crisis. Some may ague for the complete ban of the idea from the system, however, I do believe that firms can engage in the practice and should only do so after explicitly considering the risks involved which should include an acknowledgement of such transactions as being unprotected by tax payers' dollars.
Some Facts about European banks
“A large part of the Greek debt is hidden on the balance sheets of the Greek banks,” said Theodore Pelagidis, an economist at the University of Piraeus and the co-author of “Understanding the Crisis in Greece,” a scathing account of Greece’s economic implosion. “So you cannot just say ‘Let’s restructure.’ It is not so easy.”
Goldman estimates that requiring a lender to give up 40 percent on holdings of Greek sovereign debt would result in a loss of 5.3 billion euros for the National Bank of Greece, the country’s largest bank. While that bank, which is in the process of raising fresh cash, probably has the capital to survive such a loss, Greece’s other banks may not be so lucky.
As for Portugal, its domestic debt burden is divided more proportionally among foreign and domestic banks, compared with Greece. Still, two out of the three largest holders of its debt are Portuguese, Caixa Geral de Depósitos and Banco BPI, with 11 billion euros combined.
The No. 2 holder, behind Caixa Geral de Depósitos, is the Spanish giant, Santander, according to Goldman, with 4.9 billion euros.
The article is here. The problem, of course, is this: if the government stops payment on some of the debt, they then will have to bail out their domestic banks.
Solving Wikileaks' Problems
I can't find a better example than Wikileaks as to what Libertarian Socialists have in mind when they describe states of non-bureaucratic and non-hierarchical organizations that hold no private property. The fact that the identity of the original founders of Wikileaks are still unclear and inconclusive not only support this notion but demonstrate the original libertarians' theories' real world applicability.
The supposed acquired role of Assange is remarkably made up and was assumed so uninhibitedly by him. We have witnessed and will continue to observe how an institution which claims to belong to no one and yet serves everyone intelligently self organizes within a realm of 'anarch-digitalism' to survive and maintain its long term goal.
It is also ironic in nature that this is the organization which aims to disrupt authoritarian institutions and transfer control out of the controlling class as it pertains to informational guardianship and secrecy. Wikileaks and its supporters see fit to call those who are in possession of guarded information as illegitimate authority in every aspect.
It, until recently, was merely a back log within the depths of the intranetworks that is the internet, their progressive actions have in recent however propelled them onto the forefront of the world media. They have now found themselves within a circle of isolation and shunning with the likes of Amazon, PayPal, MasterCard and Visa having discontinued to provide anymore services.
Without getting into the legality or the ethics of it all, the proposed solution may be of help in the future for organizations who find themselves in similar situations: The whole affair drives home how dependent we are on a few corporations to make e-commerce function, and how little those corporations guarantee us anything in the way of rights.
Even worst, it is ironic to the fact that the founder of PayPal, Peter Thiel's, aim and vision was to free people 'from all government control'. There may seem not much one could do currently but in the long term, quantum money could be of help in solving the problem by providing a secure currency that can be used without resort to a broker.
Physicist Steve Wiesner first proposed the concept of quantum money in 1969. He realized that since quantum states can’t be copied, their existence opens the door to unforgeable money. Here’s how MIT computer scientist Scott Aaronson explained the principles:
Heisenberg’s famous Uncertainty Principle says you can either measure the position of a particle or its momentum, but not both to unlimited accuracy. One consequence of the Uncertainty Principle is the so-called No-Cloning Theorem: there can be no “subatomic Xerox machine” that takes an unknown particle, and spits out two particles with exactly the same ...
A Bank with Goats on the Balance Sheet
Women in remote Korawan, 70 km from Allahabad, have come up with a novel bank which exclusively deals with goats - accepting the animal as savings and lending it out as loans.
"Prema and her friends hailing from Afrozi village have establish a bank which deals exclusively in goats," development block coordinator Subedar Singh told PTI.
In tough terrains of Mirzapur district, most of the people are engaged in crushing stone to earn a living.
"Wives of these people help them in crushing stones and breed two-three goats for additional income," Singh said.
"Though the area is best suited for goat breeding, no effort was made to establish it as a full fledged business activity," he said.
"We provide goats to women having interest in taking up breeding as a full-time activity as loan. When a goat gives birth to kids, generally two to three in numbers, one of them is deposited with the bank again," Prema explained.
Goats in the bank are medically examined every week.
"In case a goat dies, then it is either replaced from the market or from the bank depending upon the availability," Prema said.
The Bank to Beat: PayPal?
If you take a look here at this Wired article where the announcement of PayPal was made, one may have just brushed over it and think nothing of substance but another eventual dintless foray of an internet startup's attempt at pitching their next idea during the last internet craze. Fast forward to more than a decade later, PayPal is looking much more like a bank, which is making quite a few people angry.
LAS VEGAS-Credit unions must unite against PayPal by offering alternative payment services that members are willing to pay for-before the online giant makes off with all the profits. That was among the sentiments share at the recent CUNA Technology Council Summit here. The TMG CUSO "is working with some credit unions to explore alternative payments and to compete against PayPal," Russell added. "Payments are the key to your future with your members," and will most likely migrate to the mobile channel. With non-sufficient funds and interchange fees dropping, credit unions need to make money by charging for services, he continued. "Free checking is over. How do we create a bundle of services that our members are willing to pay for?"
Nonetheless, PayPal had always posed itself to be a challenger of the dormant banking institutions and even governments, as Peter Thiel puts it: "The founding vision of PayPal centered the creation of a new world currency, free from all government control and dilution — the end of monetary sovereignty, as it were."
Jim over at NetBanking says that PayPal's may just become the dial tone of internet and mobile banking. True, but that's only if Facebook does not partake in the action. With an estimation of a billion dollar in potential revenue with just Facebook Credits, if executed right, Facebook can in due time take PayPal for its money (pun intended).
Facebook Credits are poised to be this generation’s American Express: an “affordable luxury” lifestyle brand and credit card with reward programs, frequent flier miles, and other incentives built right in so that the more you use it, the more you earn. ”Facebook Platinum”, anyone?
In any case, last week the "PayPal dial-tone" got even louder with the announcements at their second annual PayPal X convention for developers of a few initiatives:
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PayPal Mobile enhancements: PayPal Digital Goods: Two-click checkout for low-value digital goods eliminates the hassle of logging in
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PayPal Embedded Payments: Pay without leaving the merchant's app PayPal Business Payments: Electronic payments (non-credit card) of any size for just $0.50 per transaction
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PayPal Apps: Allows companies to embed applications into the PayPal website: where Expensify, and Bill.com are participating.
Including a partnership with Discover that provides Discover cardholders with the ability to send money to family and friends directly from their Discover online account or mobile device. The Credit Unions seem to be already in disarray and looking for innovative ideas to hold on to their diminishing shares of the payment market. In all likelihood, I'll hold my bets on a device, most likely the iPhone, which relies on the Facebook platform or iTunes credits which is funded by PayPal - the online financial transaction company.
The Fed in plain English
The Fed released last month its usual economic forecast which coincidentally describes a bleak outlook. Over at NPR, they have an amusing gadget which gratifyingly translates the Fed's press release into plain English:
The Committee will continue to monitor the economic outlook and financial developments and is prepared to provide additional accommodation if needed to support the economic recovery and to return inflation, over time, to levels consistent with its mandate.
Translated:
We'll keep an eye on things, and if we need to create trillions more dollars out of thin air to bring down unemployment and pump up inflation, that's what we'll do. Boom.
More.
What is Basel III's Aim?
Felix Salmon has one good summary, here a bit on community banks, overall emerging markets get off lightly, and Germany is unhappy (in this case probably a good thing). A few points:
1. This agreement is probably good news.
2. It is difficult to divine the net future effects of such changes upon announcement. There is also the question of how binding this ends up being and whether the implementation lags will matter.
3. One key question is how much current systems prevent regulatory arbitrage, namely driving more intermediation into less regulated, less reliable and less easily monitored institutions.
Debt as a Drug
Planet Money interviews Nassim Taleb, who recently participated in a Freakonomics quorum on financial reform, for its Deep Read series. Taleb compares the developed world’s dependence on debt to drug addiction: “What’s worse, the period in which he has to suffer withdrawal pains, or giving him more cocaine, or heroin or whatever he’s addicted to?” he says. His suggestion? Lose the debt, no matter how painful the adjustment is: “The governments should know that what matters for us is cure the problem, not postpone it. We’ve postponed the problem for two years.”
HT Freakonomics
Austrians lead debate on bank taxation
Ex post analysis and the verdict is in: more sophomoric regulations. Austria is full steam ahead with a proposed taxation of financial transactions on banks. Christoph Leitl, the head of Austria's Federal Economy Chamber (WKÖ), is the man behind the endeavor which is raising a few eyebrows.
I can tell you exactly what will happen. Any results that may eventually come out of this session from last week's European Business Summit will irrefutably be passed on to the consumer and the investor. Any burden that comes to the bank is registered as a cost and all transaction based costs are marginally based and when margins are planned, all costs are considered and they are passed on to the client. Where will this thus take the economy? Nowhere.The indented plans of Mr. Leitl et al. are to create some sort of fund for future bank bailouts. Despite the fact that the awareness of a system that is bound to fail again is apparent, they seek to further deteriorate the system even more with taxation. We have to rid of this idea that we can somehow engineer the perfect system, a utopia. Only fools can claim such an idea.
I will not go on to point the hypocrisy in Mr. Leitl's interview but will leave you with this passage from Taleb:The idea is simply to let human mistakes and miscalculations remain confined, and to prevent their spreading through the system, as Mother Nature does. Reducing volatility and ordinary randomness increases exposure to Black Swans-it creates
My dream is to have a true Epistemocracy-that is, a society robust to expert errors, forecasting errors, and hubris, one that can be resistant to the incompetence of politicians, regulators, economists, central bankers, bankers, policy wonks, and epidemiologists. We cannot make economists more scientific; we cannot make humans more rational (whatever that means); we cannot make fads disappear.
an artificial quiet.
