From Mr Jon Hay.
Sir, John Kay and Martin Wolf have proved themselves once again the clearest-sighted commentators on the present financial calamity (“We must press on with breaking up banks” and “Basel: the mouse that did not roar”, September 15).
Yet the divergence between their views also shows why supporters of radical reform are being defeated by the banks’ and politicians’ inertia. Mr Wolf advocates much higher capital ratios; Mr Kay calls for splitting up the bank conglomerates. Both are good ideas, and the opposition to the status quo has been divided between them. Banks have been able to play the two camps off against each other.
Unifying the campaign for reform is one reason why it would help if Mr Wolf and others would embrace the idea of a new Glass-Steagall Act.
Another is that more capital on its own cannot prevent a crisis. This meltdown did not occur because of a factual discovery that banks’ bad assets exceeded their capital. It occurred emotionally, when debt investors, especially other banks, shunned the banks perceived as most risky. Relative, not absolute, strength was what counted.
As soon as one bank in a particular market became shadowed, the next fear was that investors would desert other similar banks. Governments therefore had to step in to prevent runs on their entire national banking systems.
In a gathering crisis, higher absolute capital ratios would do nothing to stop debt investors spurning the runt of the litter. It is therefore essential that the systemic banking functions must become smaller, duller and ring-fenced, as they were in the past.
Let hedge funds and investment banks flourish outside the pale, where their collapses may lose investors money, but will not threaten deposits or basic consumer and corporate lending.
London W12, UK