William Leiss:\u00c2\u00a0 RiskBlog 1 March 2012<\/p>\n
Once More, discount<\/a> Understanding Systemic Financial Risk<\/p>\n Satyajit Das and Systemic Risk<\/a>\u00c2\u00a0[PDF]<\/p>\n <\/p>\n Andrew Palmer\u00e2\u20ac\u2122s recent essay on financial innovation in The Economist, <\/em>\u00e2\u20ac\u0153Playing with fire\u00e2\u20ac\u009d [25.02.12: http:\/\/www.economist.com\/node\/21547999<\/a>] has received a lot of attention.\u00c2\u00a0 Read it, but also read the trenchant critique by Satyajit Das, one of the most perceptive observers on the subject.\u00c2\u00a0 (Read his frequent blogs; his books, listed below, tend to be rather long-winded and egoistic, a compilation of scattered thoughts.)<\/p>\n The global financial crisis which began in 2008 is a slow-moving massive train wreck that may take an entire decade to bring under control.\u00c2\u00a0 The catastrophic events of 2008 \u00e2\u20ac\u201c still reverberating today, more than three years later, in the European sovereign debt crisis \u00e2\u20ac\u201c have caused losses of many trillions of dollars.\u00c2\u00a0 The scope of the losses is almost uncountable [http:\/\/bettermarkets.com\/blogs\/financial-reform-will-keep-wall-streets-hands-out-taxpayer-pockets<\/a>, from \u00e2\u20ac\u0153Better Markets,\u00e2\u20ac\u009d a website I recommend].\u00c2\u00a0 This is why it is the best illustration of what I have called a \u00e2\u20ac\u0153black hole of risk\u00e2\u20ac\u009d in my book, The Doom Loop in the Financial Sector<\/em> [www.blackholesofrisk.ca\/<\/a>].<\/p>\n Regulatory reform of the financial sector is designed to help us avoid a repeat of these events.\u00c2\u00a0 But the struggle for regulatory reform is far from won, because of intensive lobbying by big banks and financial sector interests.\u00c2\u00a0 The current battle is over the so-called \u00e2\u20ac\u0153Volcker rule,\u00e2\u20ac\u009d designed to reduce risks from investment banks trading on their own accounts:\u00c2\u00a0 to understand this one, and others like it, follow \u00e2\u20ac\u0153Baseline Scenario,\u00e2\u20ac\u009d written by Simon Johnson and James Kwak [http:\/\/baselinescenario.com\/<\/a>]. \u00c2\u00a0If the bankers win this one, and others, they\u00e2\u20ac\u2122ll do it again to the rest of us:\u00c2\u00a0 Take obscene amounts of money for themselves during the good times, and saddle the taxpayers with the costs of bailouts when they bring on the bad times again.<\/p>\n Part of the reason for this extended train wreck is that at least one solution adopted by governments to respond to it is itself the cause of future problems.\u00c2\u00a0 I refer to the central banks\u00e2\u20ac\u2122 policy of mandating near-zero interests rates over long terms.\u00c2\u00a0 It is already clear that this policy solution is devastating the financial health of insurance companies and pension plans, failing to rewards savers, and encouraging imprudent borrowing.\u00c2\u00a0 Even the Bank of Canada, which joins other central banks in this flawed policy, acknowledges its downside risks, calling attention in its December 2011 review report to \u00e2\u20ac\u0153a prolonged period of low interest rates, which may encourage imprudent risk-taking and\/or erode the long-term soundness of some financial institutions\u00e2\u20ac\u009d (preface, page 1), available at: [http:\/\/www.bankofcanada.ca\/wp-content\/uploads\/2011\/12\/fsr_1211.pdf<\/a>] \u00c2\u00a0Of course, it uses the typical wishy-washy bureaucratic language of \u00e2\u20ac\u0153may<\/em>\u00e2\u20ac\u009d encourage or erode, which is irresponsible:\u00c2\u00a0 The serious damage being done to the insurance industry and pension funds from the extremely low interest-rate policy of central banks has already been widely reported, and it poses a serious risk to the security of the future retirement plans of millions of Canadians.<\/p>\n In his recent blog, below, Satyajit Das explains that Palmer\u00e2\u20ac\u2122s essay overlooks the most crucial truths about the nature of risk in recent financial innovations, among them:\u00c2\u00a0 (1) a lack of transparency in the transactions; (2) a slow-growing \u00e2\u20ac\u0153concentration\u00e2\u20ac\u009d of risks that remains in the shadows until it\u00e2\u20ac\u2122s too late to stop the collapse.\u00c2\u00a0 This is what we now call \u00e2\u20ac\u0153systemic risk\u00e2\u20ac\u009d in the financial sector.\u00c2\u00a0 A broad public understanding of systemic risk \u00e2\u20ac\u201c which takes a bit of effort for citizens, I admit \u00e2\u20ac\u201c is essential to build public support against the bankers for effective regulatory reform.\u00c2\u00a0 The security of your retirement assets depends on your making this effort.<\/p>\n Satyajit Das:\u00c2\u00a0Pravda\u00c2\u00a0<\/span>The Economist\u00e2\u20ac\u2122s Take on Financial Innovation<\/a><\/p>\n <\/p>\n","protected":false},"excerpt":{"rendered":" William Leiss:\u00c2\u00a0 RiskBlog 1 March 2012 Once More, discount Understanding Systemic Financial Risk Satyajit Das and Systemic Risk\u00c2\u00a0[PDF] Andrew Palmer\u00e2\u20ac\u2122s recent essay on financial innovation in The Economist, \u00e2\u20ac\u0153Playing with fire\u00e2\u20ac\u009d [25.02.12: http:\/\/www.economist.com\/node\/21547999] has received a lot of attention.\u00c2\u00a0 … Continue reading