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Martin Wolf’s ‘unavoidably controversial’ proposals

September 15, 2014

In 2012, Wolf – former World Bank economist – stated in remarks for the Financial Times that public goods are building blocks of civilization: security and safety, knowledge and science, a sustainable environment, trust, the Rechtsstaat, and economic and financial stability. (De Standaard)

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Before he shared a platform with Ben Dyson of Positive Money at the recent ICAEW conference, Martin Wolf wrote yet another interesting article in the Financial Times.

He appears to be deploring efforts to preserve the system that existed before the crisis which, “will still be global; it will continue to rely on the interaction of vast financial institutions with freewheeling capital markets; it will continue to be highly leveraged; and it will continue to rely for profitability on successfully managing huge maturity and risk mismatches”.

Among the most important issues for the future, he continues, concern the financial sector and the economic role of debt: “It is essential here, I argue, to go well beyond the new orthodoxy . . . it is merely a chastened version of the old”.

The business model of contemporary banking – wonderful for banks, for everybody else, it was a disaster:

  • employ as much implicitly or explicitly guaranteed debt as possible;
  • employ as little equity as one can; promise a high return on equity;
  • link bonuses to the achievement of this return target in the short term;
  • ensure that as few as possible of those rewards are clawed back in the event of catastrophe;
  • and become rich.

“Since people view money as the one safe asset, this has to be a fundamentally crisis-prone system. It could be replaced, at least in theory, by returning the ability to create money to the state . . .

“Such proposals are unavoidably controversial. The transitions would certainly be demanding. But the advantages could be large, provided it was possible to police the borderline between the new narrow forms of banking and the rest of the financial system at least reasonably effectively”.

Wolf adds that there could be a compromise; it would be possible to raise reserve requirements to today’s higher levels right now, so moving to permanently higher proportions of government-backed money:

“It would also be possible to use the ability to create money not just to manipulate asset prices, as in QE today, but to fund government directly

“The direct monetary funding of public spending, particularly higher investment, or tax cuts would be a debt-free and highly effective way to generate additional demand. This idea, which the late Milton Friedman called “helicopter money”, remains relevant.

“Such radical proposals carry risks. But, provided the decision on how much money to create was left to central banks, those could be managed. Not least, the distributional consequences would be more desirable than using the central bank’s capacity to create money merely to raise the prices of assets owned by the rich”.

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