THE BEAR'S
LAIR Wanted: A patriot
governor By Martin Hutchinson
Henry St John, Viscount Bolingbroke
(1678-1751), was a leading minister in the Tory
government of 1710-14, prime minister for four
days at its end, then after the Hanoverian
succession spent the rest of his life mostly under
attainder and moving between opposition,
journalism and exile.
At the end of his
life, disgusted with political developments since
1714, he wrote a best seller, "On the Idea of a
Patriot King", which after his death became the
principal inspiration for George III and many of
its policies were put into practice by the great
Tory governments of 1783-1830.
In a
similar position to Bolingbroke's vis-a-vis the
British financial system, essentially closed to me
since the Financial Services
Act of 1986 destroyed
the merchant banks (though entirely without
Bolingbroke's previous distinction), I will take
the opportunity presented by this month's
advertisement for a new Bank of England governor
to discuss what an ideal Patriot Governor might
do.
Now that the Bank of England has
regained responsibility for financial regulation,
its governorship is a very important job, arguably
more important to the British economy than most
prime ministers or indeed than the constitutional
monarchs of Bolingbroke's later years.
After all Rowland, Lord Cromer, governor
in 1961-66 restored the City from a backwater to a
central place in international finance through
sponsoring the eurobond market even though he was
hampered by two economically inept prime ministers
in Harold Macmillan and Harold Wilson.
Conversely Gordon Richardson (1973-83) and
Robin Leigh-Pemberton (1983-93), two feeble
governors, presided over the destruction of the
traditional City of London even though they
coincided with an economically able prime minister
in Margaret Thatcher.
Further back, the
great Montagu Norman (1920-44) was largely
responsible for the fall of the 1929-31 Labour
government and its replacement by the economically
outstanding 1931-40 National Coalition.
To
Bolingbroke, the first essential of a Patriot King
was that he govern in the interests of Britain and
not subordinate those interests to the
Mitteleuropan petty politics of Hanover.
Similarly, a Patriot Governor will run the British
financial system and monetary policy in the
interests of Britain, and not subordinate those
interests to the bureaucratic power-grabbing of
Brussels, nor to the greed barons of Wall Street.
In terms of regulation, apart from
resisting Brussels encroachments, a Patriot
Governor would tilt the playing field sharply in
favor of medium-sized financial institutions and
those with primarily British ownership.
The 1986 legislation's "level playing
field" theory was extremely misguided, for two
reasons. First, ownership is not trade; the
arguments for allowing free trade and not
discriminating against foreign goods do not apply
to discrimination against foreign ownership of
assets. Britain is not better off because Kraft
bought Cadbury's, it will not be better off when
EADS has absorbed British Aerospace and it
certainly became very much worse off when the
British merchant banks and brokers were sold off
to inept global behemoths. A Patriot Governor will
tilt the playing field firmly in favor of British
ownership groups and British management.
Even more important than nationality,
however is size. The pre-1970 merchant banks were
an appropriate size, large enough to undertake the
most important international business, but
sufficiently small to retain an effective
partnership culture. However, in the 1970s a
combination of punitive taxation and high
inflation created in Britain an incredible
shrinking banking system; by 1980, the merchant
banks were in real terms half their previous size.
Naturally when placed on a level playing field
against the Green Bay Packers of the New York
houses, they were obliterated - literally.
On the other hand, the Barclays debacle,
not just recently but over the past 40 years, has
surely demonstrated beyond doubt that banking
behemoths with large retail operations are not
capable of running investment banking businesses
in an effective and ethical manner.
Further, former US Federal Reserve
chairman Paul Volcker is right: modern trading
operations are far too dangerous to be financed
through individual savings or with deposit
guarantees. It was revealed recently that the UBS
trader Kweku Adoboli not only lost US$2.3 billion
by foolish and excessive trading, he could well
have lost $12 billion, putting the bank out of
business.
Similarly the $400 million lost
by machines run amok at Knight Capital could just
as easily have been some substantial share of US
gross domestic product; with the computers trading
in milliseconds there was no effective limit to
the hole they might have dug.
A Patriot
Governor will thus enforce strictly a Volcker Rule
preventing the London-based behemoth retail banks
from engaging in investment banking or more than
modest trading operations. He will encourage
trading to be carried out by privately capitalized
hedge funds, which can quietly and without bailout
lose their foolish shareholders' money.
At
the same time, he will in the remainder of the
business tilt the playing field sharply towards
smaller domestically controlled entities,
encouraging the formation of advisory-dominated
firms, both in corporate finance and investment
management, which will over time re-create a
merchant banking culture.
In all areas
except branch banking, where size is inevitable,
he will regulate and guide with a strong
presumption against excessive size or trading
orientation. As new firms emerge, the Patriot
Governor will re-establish the informal system of
guidance present in the pre-1980 City, re-creating
such bodies as an Accepting Houses Committee.
These changes will be ineffective,
however, unless monetary policy is also reformed.
The last decade's riot of speculation and
hollowing out of the Western world's capital base
has been hugely enabled by grossly negative real
interest rates, in Britain as in the United
States.
Indeed, the Bank of England's
government bond purchases and interest rates far
below the inflation rate have been even more
extreme than Ben Bernanke's efforts at the Fed.
Like Bernanke's efforts, they have been completely
ineffective in regenerating the economy, but
brilliant at pumping up bank profits, sucking away
the wealth of savers and encouraging the most
useless forms of financial services speculative
activity.
Even if he wants to, the new
governor will not have the opportunity to pursue
current policies for very long. With Bernanke
having given "quantitative easing" another rocket
boost on September 13, the lifetime of global
Bernankeism can now be measured in months or at
most quarters rather than years.
While
it's possible an incoming President Romney would
move quickly to replace Bernanke, more likely
Bernankeism will continue well into 2013 and even,
as the Fed currently proposes, into 2014-15. In
that event, its contradictions will finally reveal
themselves in rapidly rising inflation and in an
increasing reluctance by international investors
to hold dollars.
With European Central
Bank president Mario Draghi also committed to
buying dodgy Mediterranean government bonds in
indefinite amounts, the chances are that the euro
will go the same way, or possibly break up
altogether.
At that point the Bank of
England governor will be presented with a
conundrum. The global dollar standard, in effect
since 1945, will effectively have broken down and
the world will no longer have a satisfactory
international store of value. An ordinary governor
would nevertheless follow the herd, believing that
Britain was too small to act alone, and would
descend along with the rest of the world into the
hyperinflationary abyss and economic collapse.
A Patriot Governor would be made of
sterner stuff. Faced with the collapse of the
global economy into hyperinflation, he would know
what to do. He would immediately restore the Gold
Standard, at a parity of 1,250 pounds to the ounce
of gold (if the gold price was approximately the
US$1,750 of today) equivalent to $2,000 per ounce.
At the same time, he would put up short-term
interest rates to around 4%, moderately but not
excessively tight in an environment where the new
gold pound could be expected to keep its value.
With the pound denominated in gold but
undervalued in this way, and real interest rates
fairly high, a massive inflow of funds to the
United Kingdom would occur, which the Patriot
Governor would sterilize through purchases of gold
on the international market, restoring Britain's
gold reserves to a level at which coinage would be
possible.
Once he felt the reserves were
at a safe level, he would coin New Sovereigns,
with a face value of 400 pounds, which would be
larger than the traditional pre-1914 sovereign
since they would contain 0.3125 ounces of gold
instead of the traditional 0.2354 ounces. These
would be available to individuals and institutions
in banks throughout Britain, thus restoring the
full pre-1914 Gold Standard and not the inferior
1925-31 version.
Probably the Patriot
Governor would seize the opportunity to establish
a gold New Sterling, to replace the old at a rate
of 400 to 1.
Since the Gold Standard had
been restored at a slightly inflated parity, New
Sterling would be slightly undervalued against
other currencies, the reverse of the position in
1925-31. Consequently Britain would run a balance
of payments surplus.
However it would soon
find its wealth swelled by the immense seigniorage
on the world's new reserve currency. After all,
with the dollar in collapse, the euro either in
collapse or disintegration or both, the yen
burdened with excessive government debt and the
renminbi domestically controlled and subject to
government manipulation, the world's traders and
investors would have no substantial alternative.
The New Sovereign would be a solid store
of value, backed by an economy that represented
4-5% of world trade, and with a financial system
that after the Patriot Governor's reforms would be
globally unrivalled.
Consequently, as in
1870-1914, the great majority of the world's
long-term financial transactions would become
denominated in New Sterling and transacted through
London. Investors, as well as holding New Sterling
balances (exchangeable into New Sovereigns on
demand at the Bank of England), would perceive New
Sterling securities as offering higher yields and
a much more solid store of value than securities
in other currencies, and a flight to quality would
take place.
Britain's economy would be in
the position, not of 19th century Britain with its
vast empire and free-trade shibboleth, but of 16th
century Venice, an economy of only moderate global
importance that was nevertheless the world's (or
Europe's in the case of Venice) leading entrepot
for trade and wealth.
It is very unlikely
indeed that the Bank of England's Selection
Committee will look for a Patriot Governor - this
time around. But then Bolingbroke never really
expected to be recalled by George II to take over
at the expense of the Whigs. He knew that a Tory
revival would have to await new circumstances, but
that his 1749 masterpiece might provide the
intellectual basis for such a revival to occur.
There will be no Patriot Governor of the
Bank of England while the current system is
thought to work tolerably well - but that
assumption may shortly become untenable.
Martin Hutchinson is the author
of Great Conservatives (Academica Press,
2005) - details can be found on the website
www.greatconservatives.com - and co-author with
Professor Kevin Dowd of Alchemists of Loss
(Wiley, 2010). Both are now available on
Amazon.com, Great Conservatives only in a
Kindle edition, Alchemists of Loss in both
Kindle and print editions.
(Republished
with permission from PrudentBear.com.
Copyright 2005-12 David W Tice &
Associates.)
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