By Simon Johnson
Adair Turner, head of the UK’s Financial Supervisory Authority, has developed a flair for pushing the official conversation on banking forward.
He spoke in favor of a tax on financial services, long before that was fashionable. This idea has been picked by both the UK and US governments – and in some amended form is likely to emerge from the G20 intergovernmental summit process later this year.
Turner also pointed out that much of financial innovation is not actually socially useful – and may, in some instances, be profoundly dangerous. For a while, it seemed that his voice on this point might be lost in the wilderness. But then President Obama launched the Volcker Rules, which essentially attempt to rein in certain forms of risk-taking (and arguably innovation) by very big banks.
Now Adair Turner is at it again, this time in the 14th Chintaman Deshmukh Memorial Lecture, delivered at the Reserve Bank of India in Mumbai earlier this week.
Turner lays out a more integrated – and skeptical – view of modern finance than we have heard from him before. He also delves into new issues, of obvious interest to his hosts and – if we are thinking straight – to the rest of us: What do our recent financial crises imply for emerging markets?
He points out that the so-called Asian financial crisis of 1997-98 and the more global crisis of 2008-09 had much in common.
“… both were rooted in, or at least followed after, sustained increases in the relative importance of financial activity relative to real non-financial economic activity, an increasing “financialisation” of the economy.”
The big point here is that the standard thinking about finance is wrong. More financial development (e.g., an increase in the size of bank deposits or credit relative to GDP) is not necessarily a good thing. To be sure, “financial repression” in the traditional poorer country fashion – with interest rates held low, often below inflation – was never appealing as it discourages savings, and should not now be a goal.
But allowing finance to become as big as it wants, from usual market processes, is asking for trouble. The corollary is that “financial liberalization” – just get out of the way, as Alan Greenspan used to argue, and let markets do their thing – can become very dangerous.
This is true for the United States – at one level the last 30 years have been a series of misguided and excessive financial liberalizations. But it is also true for other countries, presumably at all income levels.
Much of what Turner is arguing on these issues is not new – as he acknowledges, the general points have been made eloquently before, in various fashion, by scholars such as Jagdish Bhagwati (in broad terms) and Arvind Subramanian (in specific form, with numerous co-authors).
But Turner has a knack for bringing officials with him. He is ahead of the intellectual curve, but not so far divorced as to seem out of touch or irrelevant. And where exactly is he going, on this occasion?
Turner’s language is nuanced but the thrust of his argument is clear. We should reevaluate the usual prescription that developing countries (and anyone else) should necessarily open themselves to freer capital flows.
“… the case that short term capital liberalization is beneficial is … based more on ideology and argument by axiom than on any empirical evidence.”
“For what we saw in respect to capital flow liberalization in the 1990s (as in respect to domestic financial liberalization in developed countries) was the assertion of a self-confidence ideology which also happened to be in the direct commercial interest of major financial services firms with powerful political influence in the major and developed economies and in particular in the US.”
Turner stops short of taking the complete Bhagwati-Subramanian position. Even the most courageous financial regulator on the planet is apparently not yet ready to endorse restrictions on capital flows between countries – presumably, the lobbying pressure on this point is still too intense.
But this is definitely the direction in which Turner is moving – and has already moved – the debate. Restricting capital flows will imply changes in many other aspects of how we organize our economy, including our fiscal deficit (as a great deal of the short-term capital flows around the world is into and out of US government securities) and what we rely on to sustain growth (as the US has been a big net importer of foreign capital in recent decades).
And it will have significant implications for our financial system which, in recent years, has made a great deal of easy money by moving money around the world – and, as Adair Turner continues to emphasize, has thus created serious global risks.
An edited version of this post appeared on the NYT’s Economix this morning; it is used here with permission. If you would like to reproduce in full, please contact the New York Times.