Archive for the ‘Financial Markets/ Finance’ Category

Financiers of Victorian England would marvel at our nativity about markets and economics

January 19, 2017

An old post written in Oct 2016 but really fascinating.

Andrew Odlyzko, Professor of Mathematics (?!) and an interdisciplinary researcher writes about Victorian Finance:


What I learned from Warren Buffett and Charlie Munger?

January 19, 2017

Shane Parrish tries to answer the question.

We make a big deal of skills of investors and financiers but deep down it boils down to basic human qualities.


How culture shapes conversations about money, financial abuses and respectful relationships…

January 17, 2017

This is a part of economics/finance which is least studied but is important. Who controls financial purses (the male or female) in a household and why? Most of the time why is related to the cultural practices.

Prof Supriya Singh (Sociology in RMIT University) shares her recent research with a colleague on the topic. She looks at two cultures in Australia – Anglo Celtic and Indians:


Will Brexit change history of financial centres?

January 5, 2017

There is just so much of financial history here.

Earlier talks of financial centre moving from London were dismissed. But now talks seem to be picking up pace and steam.

Paris is meeting London based bankers to shift base to French capital:


British bank branch network decimated with move to mobile…

December 15, 2016

Chris Skinner points to a report which shows nearly 1000 bank branches (10% of total branch network) have closed down in 2 years. Reason? People have moved to mobile banking:

Building on yesterday’s news, the consumer research organisation Which? just released a report with a whole bunch of stats on UK bank branch closures.  Over 1,000 branches have closed in the last two years, with HSBC being most aggressive, shutting over 27% of their network.

A total of 1,046 branches – equivalent to 11%  of the total UK bank branch network – closed between January 2015 and January 2017, with rural areas affected the worst.  As the map below shows, it’s particularly bad if you’re in Scotland, Wales, Devon and Cornwall.

HSBC claim they can be this aggressive because footfall has reduced by 40% in their branch network as more and more people are online.  However, 20 million people don’t use online services and many of these people are in the areas where the most aggressive closures are taking place, as in rural villages with limited access to broadband services.

Tut, tut.  The British Bankers Association are updating their guidelines about how banks close branches.  Meanwhile, as can be seen, most rural users are moving towards mobile banking.

This is interesting. 1000 branches in 2 years is a big number (needs to be verified). One would also be interested in the job losses due to closure of so many branches.

I hope Indian authorities are looking/aware of this aspect as well while making rapid strides against everything digital.

The Swiss private bankers should be a model for bankers everywhere (and the lost Indian ones)…

November 30, 2016

Mention Swiss banking and we either have the image of them as hiding wealth of uber rich across the world or the UBses of the world. But the region also has a much lower profile and glamorous set of bankers called Swiss Private bankers.  They are these century old bankers which have held the principles of banking for a long time.

Marcia Christoff-Kurapovna writes about these bankers:

The strong showing in banking stocks may show some optimism following the presidential election victory of Donald Trump. But, a healthy future for US banking will only take root if that industry comes to terms with the original purpose for which banking was intended — wealth management. As such, the great American bank in generations to come will not be of the calamitous Wells Fargo or Bank of America type — or even Facebook’s Electronic Money Institution license or Google’s Mobile Wallet. The most solid banks will be remakes of that timeless classic, the Swiss private banker. It is this “back to the future” philosophy of banking, already prevalent in some of the past decade’s best performing and least known banks in the US, that must become predominant if that sector is to remain resilient……

The focus instead must be on the cultivation of localized, community-centered but nationally ambitious banks that one rarely reads about amid the stories of pointless bail-outs, fake-account scandals, ZIRP, and robo-trading. Superbly managed and often family-owned, these banks profited throughout the post-crisis period, enduring regulatory mayhem, Fed mission-creep, and the rise of ‘alternative banking” fintech and mobile-app technologies. They did it by sticking to sound fiscal fundamentals and never underestimating the “psychological” preference on the part of the public for sturdy institutions whose owners or managers are members or descendants of that founding banking family itself. Though PriceWaterhouseCoopers gloomily predicted that traditional banking would not survive beyond 2025, it is precisely highly successful banks like Beal Bank of Dallas, Texas, or the 100 year-old Bank of Fayette County in Tennessee, that will be the only banks to survive the next decades and beyond.

These Private Bankers are not Private banks:

To understand the real next-generation banking, let us look to the forefather role model that embodies the very best of ultra-traditional banking principles: Switzerland’s national legend, the unlimited liability banquier.No American bank, including the two examples mentioned above, follow this ‘severe’ Swiss model. Still, such Geneva, Zürich, and Basel-based aristocratic workhorses in the art of wealth management and no-frills (not even on-line) banking are the kinds of institutions where money still means gold and Ms. Yellen’s machinations an amusing, yet comfortably distant, American curiosity.

First off, a nuance of definition. The expression is “Swiss private banker,” and not “private bank,” or “private banking.” This first refers to a very specific institution, defined by 1934 Swiss law and, as an expression (“Swiss private banker”), is a registered trademark. These are not UBS- or Credit Suisse-type banks (which are, for all intents and purposes, American banks), nor simply lesser-known tax-evasion vehicles shrouded in glamorous secrecy. Instead, the term refers to a narrowly defined privileged few “houses,” often centuries old and almost always still family owned, that, by law, must adhere to unheard-of (on these shores) personal liability among their partners and high reserve requirements, among other standards. Indeed, in the last three years alone, the number of these banks has dwindled from twelve to six, as pressures from the global economic crisis forced several of them into limited liability companies. 

They are in a class of their own, synonymous with unbounded responsibility. The six remaining are: Baumann et Cie.; Bordier et Cie.; E. Gutzwiller et Cie; Mouge d’Algue et Cie; Rahn & Bodner; and Reichmuth & Co. “Private bankers” as these are: (1) exclusively organized in the legal form of a partnership or limited partnership; (2) run by partners who are usually family descendants of the banks’ founders; (3) invest their own capital in their banks and maintain high cash reserve ratios; (4) defined by a special private-banker status that is dependent upon the presence within management of one or several partners with unlimited liability for investment obligations. This last is their greatest distinction. Other Swiss banks offer wealth management services but their maximum liability is confined to equity capital. With private bankers, liability is not solely limited to the company equity, but partners are additionally liable with their private assets.

Thus, their primary duty is to their clients, to their own families, and to their own vested responsibilities — a quaint notion these days, to be sure. They are run by a flat management structure; decision-making chains are short; they do not develop their own products and are therefore not subject to any conflicts of interest in investment advice. Investments must be tradable and liquid at all times; bankers can’t act as brokers and they are not on-line banks. They are not allowed to sell their own instruments, tend not to invest in global real estate, and, as mentioned before, have strict rules on reserves.

India too had these bankers which were called as indigenous bankers. They were called as Shroffs, Multanis, Marwaris, Chettiars and so on. But they have all disappeared from the mainstream banking scene. They were mostly given bad names by the media and experts alike failing to look at how some of them actually excelled in banking for many years and even centuries. Some of them like Chettiars in Madras even used their banking skills  to form joint stock banks like Indian Bank, Indian Overseas Bank, Karur Vysya Bank and Laxmi Vilas Bank and so on.

There was this tiff between the Government/RBI and Indian Private Bankers. The former wanted them to be regulated as per banking regulations which latter refused as they found the regulations highly restrictive and so on. Till the 1970s there were efforts between the two but now we hardly hear about them.

Many mistrust banks, but why you mistrust banks says a lot

November 15, 2016

Erica Vause, Assistant Professor of history at Florida Southern College writes on this dilemma on banking. Banks run on trust but remain on of the mistrusted organisations. Why is this so?

Since the early 19th century, banks have thrived, and are foundational to modern economic life. Yet the ambivalence surrounding them has not dissipated. Over the course of the 19th century, the ideal of the independent property-owner, upheld by the classical republicans, gradually faded. Instead, factory labour became the ideal form of ‘real’ value, beside which finance seemed dubious and fictional. The heroes of many 19th-century novels, such as Elizabeth Gaskell’s North and South (1855) and Anthony Trollope’s The Way We Live Now (1875), preferred the ‘real’ work done in factories to the ‘fictional’ and often dangerous fortunes to be reaped from financial speculation.

Viewed in light of this long history, present-day distrust of banks, so salient since 2008, appear less as novel reactions to our changing times than as the latest chapter in the long-running paradox of trust and credit. On a day-to-day basis, most of us trust banks well enough. We’d prefer to deposit our money in a bank account than, say, stuff it in a mattress. Yet no single capitalist institution compares with the bank in terms of the sheer amount of unease and antipathy it engenders. Polls show that a mere 18 per cent of Americans trusted banks in 2010. The 2015 Edelman Trust Barometer, a yearly survey of attitudes across 27 industrialised nations, indicated that, among major industries, only the media is less trusted than banking and finance.

Suspicion of banks today traverses the political spectrum. Different political viewpoints tend to linger on different aspects of the original critiques of the banks. The Left sees finance as integrally connected with a parasitic elite of largely idle profiteers. Much like the classical republicans of yesterday, they see banks as guilty of fabricating fictitious value and avoiding ‘real’ work. The Right portrays banking as a threat to personal or national sovereignty. They evoke the classical republicans’ anxiety about banking and despotism. In the United States, for example, conservative commentators such as Glenn Beck and Ron Paul have not only charged the Federal Reserve with causing inflations and depressions, but denounced it as an instrument of tyranny. Outside mainstream discourse, conspiracy theories about the banks are often tinged with anti-Semitism. Try searching for ‘banking’ on YouTube. In these conspiracy theories, rumours such as the one about the Rothschilds and Waterloo thrive.

No institution more clearly relies on trust than the bank. That is precisely what makes banks a lightning rod for suspicion. From the time modern banking emerged, it has been the subject of intense misgivings. Many of these suspicions are with us still. How and why one mistrusts banks, however, tells us a lot about the way one sees the world politically.

This is all very interesting aspects of banking and finance.

Given what is going on in India at the moment, it is not difficult to see rise in mistrust in banks.  Earlier they impacted lives of the big and mighty, now they impact life of one and all.

As we move from branch banking to digital banking, worries move from branch looting to account hacking…

November 10, 2016

Banking and its security breakers have a Tom and Jerry relationship. The banks keep looking for new ways to increase security and the breakers keep looking for new ways to break the same.

This article argues how one third of accounts of a British small bank have been hacked recently. It also highlights how the issues are not limited to small banks but for larger entities as well:

We’ve seen some pretty strong attacks on banks cyberdefences in the past year. Three major incidents in the SWIFT network; 50 at the Federal Reserve; problems at the Bank of England and many other central banks; a major incident at the Danish payment processorNETS; and big banks like HSBC and JPMorgan have all been affected.

Admittedly, most of these are DDoS – Distributed Denial of Service – attacks, which bring down websites but not banks, yet that’s just the tip of the iceberg.  After all, it used to be that thieves would rob bank branches as that’s where the money was; now, they rob bank servers because that’s where the money is.

These incidents of cybercrime are often unnoticed however, as banks are loathe to go publish and say they were hacked … but one did just that this week.  Tesco Bank.  A hacker got into the bank and compromised 40,000 of their 136,000 accounts.   That’s a third.  Of those compromised, the bank originally thought that 20,000 had been hacked with money taken, bvut it turns out it is 9,000 who lost £2.5 million ($3.2 million).   Even so, the bank had to shut down their internet banking service to all customers for several days, whilst they sorted out the mess, and suspended all online debit card and contactless card transactions.

That is seriously worrying for a bank’s reputation.  They’ve promised to reimburse all customers who were impacted, but to openly say they were hacked is not good for the image.

He says one solution is for the banking industry to cooperate and evolve more robust cybersecurity standards.

But the jerrys will soon figure whatever Tom (or Toms) does and rob the cheese.  This hacking will be a huge concern going ahead across banking. Basically it is the age old relation which is not changing. The medium is changing from robbing branches to hacking accounts on a digital platform.

The history of student loans goes back to the Middle Ages

November 10, 2016

Superb piece by Jenny Adams, Associate Professor of English at University of Massachusetts Amherst.

He points how people could take student loans bu givings books as collateral:

Prompted by my own anxiety about educational debt, an anxiety that intensified several years ago with the birth of my own prospective college students, I have been researching the long history of educational loans in order to get a better context for the current student debt crisis. With student loan growth rates spiraling out of control, it behooves us to think through the ways other time periods and cultures have monetized, funded or not funded student labor. 

The history of student loans starts with the establishment of institutions of higher learning in medieval Europe from the late 11th century.

The University of Bologna, considered the first official university, was quickly followed by the University of Paris, Oxford University and Cambridge University. All of these places offered degrees to young men, training them for positions in the Catholic Church and, later, in government.

At first, scholars who needed money did not differ from other borrowers: everyone took loans from the same lenders. But in 1240, Robert Grosseteste, the bishop of Lincoln, used Oxford University money to launch the first documented student loan system. He named it St. Frideswide’s Chest.

St. Frideswide’s Chest was literally a chest. Bound by two different locks, with each key held by a different college magister, or faculty member, it resided at St. Frideswide’s Priory, a religious house in central Oxford, amid the city’s colleges, academic halls and student apartments.

To get a loan from St. Frideswide’s, a borrower had to be a scholar of modest means – and likely took an oath for proving so. He also had to have something of value to deposit in the chest as collateral. From the pledge notes I’ve seen in roughly 100 manuscripts and descriptions of manuscripts, it’s clear that scholars hocked everything from silver spoons to gold plates.

But the most commonly collateralized items were books. Not fancy, illuminated books. Just textbooks. In the late Middle Ages, this included works by Aristotle, the Bible, law codes and medical tracts. Here’s a link to a manuscript at Balliol College that was used as collateral. The lines on the final page record two loans taken out by a scholar, Thomas Chace, in 1423 and 1424. The Merton College manuscript (pictured) contains eight pledge notes from the same century.

Then advent of printing machine made books cheaper and books no more worked as collateral.

Overtime loans were given on future incomes and not collaterals:

Yet even before this, the loan system had started to decline. Although the arrival of the printing press in the late 15th century didn’t have an immediate effect on manuscript production, it would eventually make books cheap and thus no longer worth collateralizing. Even in the chests’ final century of use, the use of gold plate and jewelry was increasing and by 1500 had surpassed the use of books.

Around the same time, bankers began to make loans on the premise of future returns rather than in exchange for real property. The shift toward anticipated future earnings soon came with the England’s 1624 legalization of interest-bearing loans, which pushed even more people into this model of lending.

With their loan chests gone, students again became just like other borrowers. And just like other borrowers, they, too, could end up the notorious debtors’ prisons that began to swell with inmates as early as the 17th century.

Student loans arrived in the United States in the mid-19th century. Like the medieval loan chests at Oxford, these loans started through a singular university, in this case Harvard, which administered them.  This localized system changed in the mid-20th century with the creation by the Department of Education in 1965 of federally guaranteed student loans made by private lenders and available to students across the country.

Students were once again put into a special category. But in this case, this meant they could now collateralize their estimated future incomes (without even knowing what those incomes might be) in order to obtain a degree.

No one is suggesting to go back to middle ages. But we should think why educ has become so expensive? Moreover educ is jeopardizing the very future it is expected to brighten:

I would never advocate a return to the Middle Ages. Yet as we consider the current morass of educational debt, we need to think harder about historical precedent.

True, medieval universities excluded many groups – religious minorities, feudal villeins (a commoner legally tied to a feudal lord in the Middle Ages) and women were barred from entry. Yet poor young men with talent had a chance. Fees were not high. Patrons helped out. And if one needed money, one might be able to pledge a book – not a future.


India was once the hub of education for not just scholars in India but outside as well. How were students financed back then? I am sure some form of student loan existed even back then. It could be pretty thriving one as well..

How Yale runs its endowment fund?

November 9, 2016

There are two things to  endowment fund run by US universities. One is their huge size which is more than size of GDP of several countries. Two, most of the business schools in these univs would be teaching the utility of passive or indexing fund management. So ideally all these funds should be just invested in some index fund as their own Profs would say. But the univ does the opposite by appointing an active fund manager to do the job!

Here is a profile of David Swensen, fund manager of Yale endowment fund.

Mr. Swensen’s route to the endowment world was circuitous, though. “My father and my grandfather were both chemistry professors,” he said. After earning a doctorate in economics from Yale in 1980, he considered teaching that subject. But while he was researching bond prices at Salomon Brothers for his Ph.D. dissertation, “they offered me a job,” he said.

Salomon was, of course, a Wall Street bond titan at the time and would eventually help define the go-go 1980s “Barbarians at the Gate” era of leveraged buyouts. All of that was still a few years in the future, though, and anyway, Mr. Swensen said, “I missed Yale so much that I went back to teach one class every semester.”

In 1985, the Yale provost, William C. Brainard, plucked him from Wall Street and asked him to take over the school’s $1 billion endowment.

His acceptance meant an 80 percent pay cut. But Mr. Swensen says he never regretted returning to work for an academic mission. “I am in the fortunate position of making very good money,” he said, for something he loves doing. He made $5.1 million in 2014, the latest numbers available.

From the beginning, he brought in analysts and interns to work on the portfolio. Part of that process soon included the weekly meeting to debate investment ideas. “Seeing that there was a debate, even at the most senior level, taught everyone to have their own view,” Mr. Golden said.

There is something about writing these profiles of a fund manager. They read so pristine and make the person appear as some god or something. They are so similar that they all appear too good to be true. All this lasts till the fund does well. As it makes losses all these adjectives turn into something else…

Mutual Fund SIPs are about psychology and not math (the idea is so similar to a chit fund…)

November 8, 2016

Dhirendra Kumar of Valueresearch usually has great pieces on personal finance and mutual fund matters. The best bit is he always sticks to basics and questions all the jazz which keep coming as hype only to disappear eventually.

In a recent piece, he questions all the noise around Systematic Investment Plans. There are lot of ads showing all the math around SIP:

There are now some six-seven types of SIP available from Indian mutual funds. You can have ‘value-based’ SIPs; SIPs with different periodicities, which claim better returns; SIPs that split monthly instalments into weekly ones; SIPs which claim different dates give better returns; and SIPs that vary your monthly investments according to even more complex formulae.

That’s a lot of choice, and consumer choice is always supposed to be good, right? Well, not quite. I’ll put it bluntly. Having lots of choices in SIPs is an unequivocally bad thing. These choices misguide people as to what the real purpose of SIPs is and how they can succeed at SIP investing.

Worse, they promote the idea that the way to get better returns lies in some newly discovered trick or feature that is available in some SIPs and not in others. This is a bogus idea. The value of an SIP lies in its simplicity.


An SIP is all about investing a fixed sum regularly in an equity fund, regardless of market conditions. Over the long term, you end up buying more units when the markets are down and fewer when the markets are up. Thus, your average purchase price is much likelier to be lower than what it would have been otherwise. Therefore, when the time comes to redeem your investments, they are very likely to be worth more than what they would have been. That’s all there is. There are no guarantees, and there are certainly no fixed formulae of expected returns. ….

However, there is a bigger reason to invest through an SIP. The real value of an SIP is not in maths but in psychology. SIPs are the simplest way of investing regularly and getting good returns from equity, without having to worry about when to invest and when not to invest and thus often missing out on the best opportunities. When the markets turn discouraging, the general instinct of many investors is to stop investing, either because they are scared or because they are trying to catch the bottom. However, SIP investors – not all but most – tend to continue their SIPs. Soon, when the markets go up, this teaches them the value of not stopping their SIPs in bad markets. Thus begins a virtuous cycle, creating a larger new generation of investors who understand the value of regular investing.

This is so true. It is more about psychology than anything else. Much of finance is around psychology as it moves based on so many expectations driven by behavior of so many people. Math is just an effort to add some sanity to the picture but makes it endlessly complicated.

I was thinking about something else. It is interesting how things in finance are interconnected and keep going in circles. What is the history of these SIPs? How did they start and where did the idea come from?

I ask this as the idea for a SIP is hardly new. The chit funds which are a thousand year old financial mechanism, the idea was same. Contribute small amounts regularly just to develop that saving habit. Just that in a MF the proceeds are invested in some securities and one is given units showing the ownership of the stocks. Overtime, the amount invested grows which one can use later for consumption or other things.

In chit funds, one instead bid for the pool to use it for consumption purposes. The securities markets had not developed back then and people needed money higher than their savings. So, this system was devised. It also avoided problem of collateral.

Just like in a MF the fund manager matters, similarly in a chit fund the foreman mattered (there was no case of women running the funds despite their origination in Malabar which had a matrlineal system). The foreman is responsible to collect the funds periodically and investors have to ensure that he does not run away.

So there are these similarities and there are these differences as well. But the idea of using human psychology and save regularly  is the crux behind both. SIP may look and sound modern but similar thoughts started much earlier.

There are a few of these core ideas which keep coming and going back and given new names. One could impart such ideas while teaching finance than the usual math way.

How Americans learnt about farm credit from Europeans and modified to suit their politics…

November 8, 2016

As most economics and finance professors are at sea with financial history and institutions, scholars from other disciplines are helping us learn.

Sarah Quinn who is a Prof of Sociology at University of Washington has an interesting piece on evolution of American farm credit system. Not surprisingly, much was borrowed from Europe where these developments had started much earlier:

Hoping to learn from other countries’ experiences in organizing finance for agriculture, more than 150 Americans were sent abroad in the summer of 1913 to investigate the minutiae of farm-credit systems in and around Europe.

They were sent as far north as Norway and as far south as Egypt, with Ireland and Russia marking the western and eastern boundaries of the study. They learned of microcredit-like experiments to support small-plot tenant farming in Italy. In France they were told how farm credit embodied democratic ideals. In the Netherlands and Spain, commission members found counterparts who, like the Americans were doing, had looked to other European nations for ways to improve the management of farm credit. Perhaps the most anticipated stop of this trip would be in Germany, whose system of long-term farm credit distribution had achieved world renown.

The key ideas brought home from Europe by commission members more than a century ago still shape today’s U.S. credit policy. The organizing principle of these ideas was the proposition that providing farm credit could be a low-cost and politically palatable form of economic policy through which government could help people help themselves. This paved the way for the Federal Farm Loan Act of 1916, which redesigned the U.S. system from the ground up by creating a new network of government-supported farm credit cooperatives.

This idea of federal credit for agriculture was used for other purposes as well:

The Act was arguably a watershed in the use of credit as a federal policy tool whose impact was felt far beyond the agricultural sector. Before 1916, the national government used credit allocation more sparingly, as a temporary means to support expensive internal developments such as railways. After the Act, there was a continual expansion of programs that bought, sold, issued, guaranteed, or otherwise promoted the flow of credit to specific sectors or groups. In the United States today, one third of privately issued debt is backed by the government, not only through the Fed but also through the $3.4 trillion in loans guaranteed or held through a vast network of federal credit programs (if you include implicit guarantees of financial debt, the amounts are much, much higher). As Marianna Mazzucato and L. Randall Wray have noted, these forms of credit support are a central part of how the federal government participates in the U.S. economy. This proliferation of government credit allocation seems remarkable in light of longstanding political attitudes on government involvement in the economy.

The German system trusted its bureaucrats to deliver. But there was no such system in US. Moreover, it was felt that any such fedeal program if not carefully worded would be met with deep suspicion. This led to another 12 regional Feds to disburse farm credit.

To overcome these objections, proponents of a European-inspired farm credit policy spun it as government helping people help themselves, providing credit support could through farmers’ cooperatives.

The divisive nineteenth century credit politics gave way to a vision of credit as an inoffensive means of economic development, of low cost to the state. Proponents argued that “wise legislation” to lower credit risk could unlock the value of the nation’s land, then estimated by one commentator at $40 billion. It was a huge potential payoff. Later scholars of credit programs would frequently note the same thing about the federal credit programs: compared to direct forms of welfare or other expenditures, credit support is cheap, since it can be implemented by government guarantees, tax expenditures, risk management techniques, and disbursements paid back over time, sometimes with interest.

This logic was built into the structure of the Federal Farm Loan Act of 1916. The centerpiece of the Act was a proposed local version of the German system. The Treasury was authorized to fund 12 reserve banks in order to funnel credit to a network of new farmers’ lending cooperatives. The Department of Agriculture encouraged the formation of these lending cooperatives through a massive education effort. In a nod to American independence, the German system of risk sharing — in which members of the Landschaften were liable up to the full value of their property — was watered down. If the bank itself ran into trouble, American farmers would be liable for only 10% of their loan amount, rather than for the full value of their property. Since, over time, farmers could pay into the system and repay the state, the long-term costs of the program were expected to be low. Tax-exempt bonds would encourage a flow of funds into the reserve banks at the cost of some state revenue, but this was far less expensive than, say, directly subsidizing farmers.

For all that the 12-bank structure mimicked the Federal Reserve Act, the creation of lending cooperatives meant that the FFLA was a far more complicated, experimental, and entrepreneurial design.

Till date, Americans carefully present or word these programs:

In the “Analytical Perspectives” section of the President’s budget, the chapter detailing the $3.4 trillion in loans held or guaranteed by the federal government reveals the diverse political uses of credit. Federal credit has military functions, including Defense Department loans for the purchase, stockpiling, and manufacturing of military materiel, and the Atomic Energy Commission’s use of guarantees to encourage nuclear science. Credit is also a tool of foreign policy: the United States exports food to other nations through USAID. Loans can serve as disaster relief, as both FEMA and the SBA include credit support to assist with natural disasters, and the federal government also provides loans directly to states for this purpose. Credit is also extensively used as part of energy and environmental policy, with geothermal and renewable energy, biorefineries, and synthetic fuels having all benefited from credit support. Tracing its use in housing, David Freund notes that the appeal of credit programs is that they seem like small market corrections rather than consequential state policies. And they have been used to support every major sector of the American economy.

The Analytical Perspectives of the budget wraps the complexities of these programs in the dry academic language of market corrections. “Credit and insurance markets sometimes fail to function smoothly due to market imperfections  … ” The implication is that this massive mobilization of debt and risk absorption by the federal government is best thought of as a technical adjustment to market imperfections, rather than, say, the American version of a developmental state. 

That language, I believe, is the moderate way of thinking about credit articulated during the progressive era, and now tailored for the neoliberal age. Like a nervous wizard, it asks us not to pay attention to the man behind the curtain, and for the most part, Americans comply. And why wouldn’t they? After all, the idea that credit support does not ask us to think hard about the social and political conditions of possibility for market success has been part of the appeal of credit support all along.

Fascinating bit.

Most countries have had a government funding program to help agriculture. One can always argue whether it is efficient or inefficient. But when you are told that Indian govt has no business to be in agri credit and should do as they did in west, one should just laugh off the idea. Agriculture has been politicized worldwide and has enjoyed either direct or indirect/hidden support from govt.

It is just that we are not aware of their histories. As Ha Joon Chang says, the developed world is kicking the ladder for the developing world.

The Deutsche Bank Downfall: How a Pillar of German Banking Lost Its Way

November 7, 2016

The plot of the story is so so familiar to those who have followed banking history. It is ironic that a bank as old as Deutsche Bank (146 years) which should know history became its own victim.

Ullrich Fichtner, Hauke Goos and Martin Hesse of Spiegel in a long article explain what went wrong with the institution. In one word it was just “greed” which eventually took over all the culture and trust created by the bank:

Greed, provincialism, cowardice, unfocused aggression, mania, egoism, immaturity, mendacity, incompetence, weakness, pride, blundering, decadence, arrogance, a need for admiration, naiveté: If you are looking for words that explain the fall of Deutsche Bank, you can choose freely and justifiably from among the above list.

The bank, 146 years after its founding, has become the target for all manner of pejoratives, and not just from outside observers. All of the above terms were used in interviews held during months of reporting into the causes of the downfall of Germany’s largest financial institution. They popped up over the course of several hours of interviews with four Deutsche Bank CEOs, three former and one current. And they were uttered in interviews with eight additional senior bank managers and board members conducted over the course of several years, from the 1990s until today, and in meetings with captains of industry who know the bank well and during encounters with major stakeholders. More than anything, the disparaging words come up frequently in interviews with those who have worked or still work at the bank as customer service advisors, as branch managers or in positions lower down on the food chain.

What we have found in the course of these myriad interviews — combined with the hours spent analyzing bank balance sheets, thousands of pages of files, committee meeting minutes and archive material — is that the collapse of Deutsche Bank is the result of years, decades, of failed leadership, culminating in the complete loss of control of the company by top managers during the period between 1994 and 2012.

It is a story about how Hilmar Kopper, Rolf E. Breuer and Josef Ackermann, the leaders of Deutsche Bank during those fateful years, essentially turned over the bank to a hastily assembled group of Anglo-American investment bankers before Anshu Jain, the prince of these traders, rose to the top and spent three more years sailing the bank full-speed-ahead into the shoals.

It is also a story of how these bank heads, along with numerous other members of the management and supervisory boards, stood aside as Jain and the many other new investment banking heroes modified the staid German financial institution to serve their own purposes — essentially looting it and robbing it of its very soul — without leaving behind a better, stronger bank.

The subject is vast and convoluted, given the many aspects and paradoxes that come with the decline of such a large financial institution. One of those is the fact that, even as Deutsche Bank is rapidly losing value, it is still seen today as the largest systemic risk for the global finance world. Every detail in the sequence of its decline is controversial, partially because the financial world still considers it normal that nobody take responsibility for anything but themselves. All of them are most concerned with painting their own role in the best light possible and presenting the decisions they made as the only ones possible at the time.

But their claims must be examined critically. When looking back at past decisions, one can easily seem like a know-it-all, but it’s just as inappropriate to fall prey to historical relativism. When a bank like Deutsche, once an icon of respectability and solidity, transforms into a caricature of “The Wolf of Wall Street,” something must have gone wrong and someone must have been responsible.

And there are people who deserve blame: management board spokesmen (the bank’s equivalent to a CEO before a true CEO leadership model was introduced in the 2000s), members of senior management and advisory board members over the course of several years. Their leadership failures were not primarily the result of professional incompetence, since the people involved were and are extremely well educated, often proven professionals with significant amounts of experience. The source of their mistakes lies elsewhere, in cultural factors and psychological disposition.

Well, even if it is inappropriate to fall to historical relativism for answers, it provides most of the answers..

Bank of England member joins HSBC…

November 4, 2016

There are several classes in the world. But I guess the highest class is that of top echelons in world of banking and money. It is just shocking to see how one on reaching this class continues to move from one organisation to the other with aplomb. It is as if the entire class takes care of you.

The crisis has exposed the ill-effects of this arrangement but it just does not end. One keeps moving from private bank to central bank/finance ministry and then back to the private world with amazing ease. Countries like Nepal are trying to put an end to the exercise but there is no such thing in the developed part of the world.

Infact, the whole thing is getting bolder. There seems to no cooling period whatsoever. How else does one explain this recent Bank of England revolving door? In this case, one Financial Policy Committee Member quits the central bank and the decision to appoint her at HSBC came in quick succession. Even worse is that newswires knew of the moves much in advance.

Just keeps getting worse..

How culture (or lack of it) is becoming the major issue in finance….

October 28, 2016

Not too long ago, mention of culture in finance space was scoffed. It was seen as this soft issue which does not bring much value. Finance  was this hard subject all about numbers and jazz. This hard bit has taken a huge hit and has become really a soft target now. As a result, again people are going back to talking about the once soft things like culture, ethics etc in finance.

NY Fed has been organising conferences trying to figure the culture bit. The first was in 2014 and second in 2015.

In the 2016 edition, NY Fed chief William Dudley talks about things which central banks never thought they would – norms, ethics etc:

The evidence is pervasive that deep-seated cultural and ethical problems have plagued the financial services industry in recent years.  Bad conduct has occurred in both investment banking and securities market activities as well as in retail banking.2  This has eroded the industry’s trustworthiness.

This erosion impedes the ability of the financial services industry to do its job.  That job is financial intermediation—to facilitate the efficient transfer of resources from savers to borrowers, and to help customers manage the financial risks they face.  Verification—whether through regulation or internal controls—is an expensive substitute for trustworthiness.  Fines for bad behavior drain resources that could be better used to expand access and improve services, but billions of dollars in avoidable penalties are just the start.  The time spent handling a legal crisis is time not spent on more productive pursuits.  Moreover, I worry that, in the long term, an industry that develops a reputation for dubious ethics will not attract the best talent.3 

In contrast, a trustworthy financial services sector will be more productive and better able to support the economy.  Reliable financial intermediaries can help increase the flow of credit, promote economic growth and make the financial system more stable.  This is why restoring trustworthiness must be the ultimate goal of reforming culture. 

The industry’s shared norms—its culture—will not change by mere exhortation to the good, whether from me or from the industry’s CEOs.  In my experience, people respond far more to incentives and clear accountability than to statements of virtues and values.  The latter are worthy and necessary, but remain aspirational or even illusory unless they are tied to real consequences.4  What does it mean for a firm to profess to putting the customer first, if employees are compensated and promoted regardless of what’s good for customers?  Or, worse, if they are not held to account for activities that can harm customers?  If we focus on nothing else in today’s conference, let’s explore how best to structure incentives and reinforce accountability to align with core purposes and first principles.

To put it very simply, incentives drive behavior, and behavior establishes the social norms that drive culture.  If the incentives are wrong and accountability is weak, we will get bad behavior and cultures.  This implies a role for both firms and supervisors.  Firms need to continually assess their incentive regimes so that they are consistent with good conduct and culture.  When they are not consistent, the incentives need to be changed.

He says private sector should play the main role. But even the govt can help:

The primary responsibility for reforming culture—and changing incentives—belongs to the industry.  However, the industry does not act alone.  The public sector can play an important role as well.  I’ll discuss that issue this morning with my colleagues Norman Chan, chief executive of the Hong Kong Monetary Authority, and Minouche Shafik, deputy governor of the Bank of England.  Later this morning another panel will discuss the ways in which supervision can further contribute to improving bank culture.

Let’s also consider ways in which new laws or regulations might help—especially to overcome perennial collective action and first-mover problems that are common across the industry.  Two years ago I proposed solutions to two such obstacles to reforming culture.  First, there should be a database of banker misconduct to combat the problem of “rolling bad apples.”5  Second, a baseline assessment of culture is needed in order to measure progress.  I proposed an industry-wide survey, but there may be other good alternatives.  Once again, I invite the industry to take the initiative on these issues, and to look to the public sector for support.

I also hope that we will attend to issues that we may have overlooked in our earlier discussions.  Gillian Tett of the Financial Times argues in her new book, The Silo Effect, that the key to understanding any culture is identifying and explaining “social silences”—the issues that are not being discussed.

Database of banker misconduct…

There was a time when these databases only reported high salaries and bonuses of the sector. Now it is about misconduct..

Is higher finance education beyond bachelor’s degree merely a sideshow?

October 25, 2016

The more you read financial history the more you would agree to the above question. How is it that people managed to do much of finance without any of today’s fancy degrees? Much of finance then was bouts of common-sense backed by some intuition which builds from work experience. Much of finance today is reduced to less common sense and more degrees. But what to do? You do not get a job based on common sense alone.

Lilia Mukhlynina and Kjell G. Nyborg show much of the above is true. People at work hardly care for the valuation exercises taught in finance:

It is really interesting how much one has to unlearn at the finance workplace. The degrees just get you in and after that begins the game of learning how finance really works…

250 years of the bond-equity correlation in UK – from positive to negative

October 20, 2016

The word correlation seems to have magical powers till you enter a statistics class. The class rubbishes the claim “correlation implies causation” and with it dies all the magic associated with the word. So whenever you read the word correlation, your reactions are mixed.

This post by Matt Roberts Sklar of BoE Blog Bank Underground shows 250 years of correlation between bonds and equities.  Interestingly, the correlation was positive till 1990s and has been negative ever since:

For most of the 18th-20th centuries, government bonds usually behaved like a risky asset. When equity prices fell, bond yields rose, i.e.  bond and equity returns were positively correlated (bond prices move inversely to yields). But since the mid-2000s, bond and equity returns have been negatively correlated, i.e. bonds became a hedge for risk. Before this, the last time this correlation was near zero for a prolonged period was the long depression in the late 19th century.

Bond-equity correlation

Source: Thomas and Dimsdale (2016) and author calculations.
Line shows ten year trailing correlation of monthly returns.

The change in the bond-equity correlation since the mid-2000s partly reflects investors being less worried about inflation risks. As well as demand-type shocks being more prevalent than supply-type shocks, the introduction of credible inflation targeting has helped anchor inflation expectations and reduced the likelihood of high inflation risks. Investors may also have become more focussed on bad states of the world.

At the same time, there has been a structural increase in demand for ‘safe assets’, with more investors demanding safe government bonds for reasons unrelated to their expected cashflows. This has been exacerbated during and since the financial crisis, with deterioration in risk sentiment leading to episodic ‘flight to safety’.  And the addition of QE and forward guidance to the monetary policy toolbox may mean long-term bonds react differently to previously.

The long historical perspective is interesting.

We usually think of stock and bond prices correlations like this. Say inflation goes up. Markets then expect central bank to increase rates and as a result bond yields go up and prices fall. In equity markets, the expectation is that valuation of firms will be lower in future down due to higher interest rates. So, the equity prices also decline. Thus, we see a positive correlation in the two assets.

But this monetary policy thing is recent development in 250 year history even if central banks are not. After all BoE came up in 1694, much before this data which is from 1750s. So to see this positive correlation even back in 1750s is interesting. Even more as during those times inflation was relatively stable due to commodity/gold standard. Prices hardly changed and inflation was hardly a risk. The shocks then mist be more around due to crop failures, sudden  rise in price of gold/silver , banking panics etc.

So say there is a banking panic this would have led both bond and stock investors shunning both and prices declining.

I would imagine this correlation has changed mainly due to increased central bank adventurism. In case of a shock people know central banks will infuse liquidity mainly via buying more bonds. Thus bonds are never really out of favor and only equities suffer.

There is a lot of interesting stuff in this one graph..


Learning basic finance from Norway’s Wealth Fund

October 20, 2016

Espen Henriksen and Knut Anton Mork write about a committee report (headed by Prof Mork himself) to look at portfolio of Norway’s Sovereign Wealth Fund. It has some useful finance lessons to offer:

 Index funds whether explicitly or implicitly seem to get better of the active ones..

Mauritius’s long history of banking..

October 4, 2016

Nice speech by Mr. Rameswurlall Basant Roi of Central Bank of Mauritius. It is on occasion of Bank of China opening a branch in the island country.

He says Mauritius was a regional finance hub in 17th century:


How did white become the main color for bridal outfits? (historical tale of economics and marketing)

September 30, 2016

Victoria Finkle has a nice piece on history of bridal outfits: