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Editor’s letter: Someday this war’s gonna end

Gordon Brown, the only Labour prime minister in history to have his
reputation enhanced by a financial crisis, is capitalising on his new-found
status as a financial markets colossus (and, to be fair, a major shareholder in
several banks) to proclaim that the time is ripe for a new world order. The
words ‘Bretton Woods’ have been used often in the last couple of weeks to hint
at the sort of international regulatory coalition he is said to be thinking of,
evoking not only the post-war reconstruction of the global economy, but the
warm, cosy feeling that resulted from almost three decades of Keynes-inspired

There are compelling grounds for new regulations – and, indeed, there is
already a mechanism for some of them. A framework of contra-cyclical capital
adequacy looks like a candidate for a Basel III accord, stuffing banks’ balance
sheets with reserves during sunny days so they can be drawn upon on rainy days.
So yes, “something must be done” and no doubt clever people are falling over
themselves with ideas. Off-balance sheet vehicles fall foul of any honest
accountant’s heart-felt understanding of the “true and fair” principle, and more
steps need to be taken to prevent these things being used as carpets under which
to sweep unwanted junk.

But there are also a number of things that must not be done. It would be
worrying if governments were to use their influence as owners of banks to direct
them to do things banks shouldn’t do – and perhaps not even governments
themselves should do. There is already the very real concern that banks will be
leaned on to extend credit where market forces say that they shouldn’t – for
example, to people who can simply no longer afford their homes (if indeed they
ever could), or to small businesses that can’t make a strong enough case for
funding (large businesses are presumed to be able to look after themselves in
this regard). This has all the hallmarks of at least one aspect of the crisis
we’re in at the moment: the politically-motivated funding of sub-prime

Nor should the new world order result in a regulatory blizzard. Lord Turner,
the new chairman of the
Services Authority
, has no baggage and so can consider that
regulator’s position afresh. But the strides the FSA has been making towards
principles-based regulation ought not to be reversed – and should probably be
emulated, the world over.

The Bretton Woods framework was a success during the fast-growth years of
reconstruction; it fell apart under the weight of the inflationary money created
by over-zealous, big-spending governments who thought that managing economies
was suddenly easy. Not unlike the banking system, then, which imploded under the
weight of toxic assets created by bankers who thought that making money was

Similarly, an over-tight, rules-laden regulatory regime will work in an
environment when bankers feel too chastened and too embarrassed to do anything
but meekly comply. But sooner or later, the room will have new, younger, clever
people in it who will feel unfairly constrained and they will look for ways to
beat the system. Keynes himself warned in the Economic Consequences of the Peace
about the dangers inherent in the excessively punitive regime imposed on Germany
after the Great War. It’s beyond even my aptitude for tenuous analogy to suggest
that bankers will turn into petulant little Hitlers if the regulatory regime is
too nasty for them in a few years, but I do think that regulations that have
their roots in punishment won’t help anyone – least of all those who will suffer
in an environment where the banks’ appetite for risk asymptotically approaches

So no, it’s not regulation that is the problem. Supervision, however, is the
problem. The cops need to be as smart as the culprits, and they need to work
together at an international level. The banks themselves do; so must the

One other thing that governments must not do is to believe that failure is
not an option. In business, risk-taking is as natural and necessary as
breathing, and banks themselves should not be exempt from that. Corporate
failure is part of the system that directs capital where it can best be
deployed. What is not acceptable is the taking of risks that endanger the whole
system, as we’ve been witnessing. Regulating remuneration won’t work; using
remuneration schemes as evidence that bankers are being reckless will.

As Colonel Kilgore, he who loved the smell of napalm, put it, “Some day this
war is gonna end.” And when it does, the system will have to offer the promise
that it can be trusted again.

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