Archive for the ‘Bankers’ Category
Nov 16, 2011 – Media compartmentalising, like frames, can be difficult to spot – particularly in reports which seem factually correct and relatively “balanced”.
Take the global financial meltdown (or “credit crunch”, if you think it resembles a breakfast cereal). Much of the reporting of this complex set of events seems “correct” factually, and even in assigning blame. And yet… if you’re like me, you’ve found it inadequate and unsatisfying. There’s a massive cognitive disconnect here, and it can’t be explained in terms of simple media “bias” (political or otherwise).
Here’s the basic narrative from the best media coverage (in a nutshell and in my words):
The financial collapse stemmed from an ideology (Neoliberalism), in which the financial sector was given free rein to profit with minimum regulation – eg from the high-risk (and very lucrative) subprime lending market. Its false sense of security was due to inadequate models of risk which ultimately failed when the US property market crashed.
That seems accurate enough, based on the known facts. So why the cognitive disconnect? I would guess it’s due to media compartmentalisation of the following two areas:
- Framing of market ideology (“Neoliberalism”, “Capitalism”) in terms of things like “business efficiency” and “competition” in the real world.
- Framing of specific “failures” (particularly to do with “risk” & regulation) in the “virtual” world of finance.
The media reporting of the “facts” of the meltdown tends to use 2, with 1 as general background. The “failures”, as reported, occurred in 2, but the fundamental role of 1 in creating the conditions which led to those “failures” (and to the whole “crisis”) is rarely explored.
There’s a huge disconnect, for example, when regulatory “failures” are reported merely in terms of absence of attention to details and technical matters. The years of deregulation, and the failures of regulators, were both due to a culture in which “market discipline” was believed to be the most “efficient” form of regulation. (See my previous piece on the “market discipline” frame). This was an ideology, a sort of secular religion, in which the “free market” was seen as superior to all other forms of organisation.
Given the framed ideological primacy of competitive profit-making and the presumed non-reality of other kinds of social value, market self-regulation was taken for granted as the right way. One result of this (among others) was the rapid emergence of a multi-trillion-dollar market in over-the-counter derivatives – unregulated, not counted by any central authority… plus international agreements allowing banks to measure their own riskiness.
John Lanchester (author of Whoops! – one of the few accounts of the meltdown to successfully integrate 1 & 2 to produce a convincing narrative) gives an example of conventional media reporting, regarding the ideology:
“You get a glimpse into the world-view when you look at The Economist. It is […] full of good first-hand fact-finding. […] But every single piece, on every single subject, reaches the same conclusion. Whatever you’re reading about, it turns out that the solution is the same: more liberalization, more competition, more free markets. However nuanced and original the detail in the bulk of the piece, the answer is always the same; it makes The Economist seem full of algebraic formulas in which the answer is always x.”
Of course, if media reports were framed in a way that showed clearly how “x” was the main, central, primary, fundamental factor (or “cause”) creating the conditions that led to disaster, they couldn’t very well present “x” as the solution to every economic scenario. There are certain realities that The Economist (and other similar media) cannot ignore if they wish to remain remotely credible. And so we get compartmentalisation, whether intentional or not.
There has been, for a long time, a cultural divide in Britain between the The City (finance capitalism) and dirty industry/manufacturing. Ironically, the market ideology which led to massive expansion of the financial sector (over the three decades since Margaret Thatcher came to power) is built on a metaphorical framing (concerning things like “efficiency” and “free competition”) which goes back to Adam Smith’s era. When Smith wrote about the “division of labour” and the “invisible hand of the market“, etc, he wasn’t thinking about risk-modelling for Credit Default Swaps (CDS) on Collateralized Debt Obligations (CDO) on pools of subprime mortgages. He was thinking about “tangible” things like pin factories.
(The insurance giant AIG was the biggest player in the CDS market. It was brought to its knees by CDSs on CDOs, but was Too Big To Fail, and enjoyed the biggest bailout of a private firm in history. How’s that for “efficiency”, “competitiveness” and good old-fashioned industriousness).
Framing “risk” – and its importance
In my previous piece, and above, I’ve singled out “risk” as the all-important factor in the financial sector (in contrast with the importance placed on “efficiency” and “free competition” in general business). Why? Because risk determines the outcomes of finance-capitalism in a way that is far removed from our conceptions of things like competitive efficiency in the “real world”. This is illustrated by how banking works, even at a basic level…
Banks pay a low rate of interest to depositors, and charge a higher rate to borrowers – thus making a profit. Banks don’t really make money from providing a “service” – they make it from taking on risk (eg the risk of loans going bad). It’s a “respectable” form of gambling. There are, of course, rules governing the amount of capital (eg deposits) that banks must keep against the risk of loans not being repaid, etc. These rules limit the amount of lending (and other speculation) that banks can make – ie the level of risk they can take on. But they also limit the banks’ profits. The banks hate this. The ‘innovative’ financial products I’ve been writing about (the ones which played such an important role in the financial meltdown – CDSs, CDOs, etc) were designed to get around the rules on risk – in very complex, and profitable, ways – with the effect of making it practically impossible to monitor systemic risk.
Why Nassim Taleb seems angry…
If you haven’t already seen this entertaining clip of Nassim Taleb (author of The Black Swan) on Newsnight, I recommend it. Taleb is angry with “tie-wearing economists” peddling bogus measures of risk in the financial markets.
If you pay attention to what Nassim is saying, you’ll see that he’s talking almost entirely about risk. (If you’re new to the topic, reading my previous piece might help to clarify some of his points). One of the highlights is when presenter Emily Maitlis asks, “Does this require a mindset change?”.
Market ideology & the
wrong framing of “regulation”
In October 2008, Alan Greenspan admitted he had found “a flaw in the model that I perceived is the critical functioning structure that defines how the world works.”
John Lanchester, author of Whoops!, commented: “The entire climate of opinion, in the world of power, was in favour of laissez-faire and deregulation and ‘innovation’, so if it hadn’t been Greenspan advocating this ideology… it would have been someone else. This was the system.”
The ideology has long been sold to the “layperson” via the concept of “efficiency”. Here’s the most simple form it takes:
- Competitive actions (eg for profit) are the most efficient
- Interfering with competition reduces efficiency
“Regulation”, in this frame, means interfering with “free competition”, which means “reduced efficiency”. (From a conservative moral-value system, this is seen as not just bad, but immoral). So, historically, strong regulation has been introduced only after outright disaster. (A good example is the Depression-era Glass-Steagall Act which separated investment – ie “casino” – banking from regular deposit-loan banking.*)
According to former IMF chief economist, Simon Johnson, it’s because of this ideology (ie framing), in confluence with political campaign financing, banking lobby pressure, etc, that “there flowed, in just the past decade, a river of deregulatory policies that is, in hindsight, astonishing”. (The Quite Coup, The Atlantic, 2009)
Why is the market framing of “regulation” inappropriate in this context? Because banking, financial speculation, etc, is not about “efficiency”. At least not in the usual way that we understand “efficiency” to be a good thing. Money is made in the financial sector from “managed risk” – where reward correlates with risk, not with “efficiency”. (At a basic level: a risky bet – eg subprime lending – makes more money for a lender than a safe bet makes).
The speculators’ main question is not, “how can we increase efficiency?”. It’s: “how can we most profitably manage risk?”. The answer to this question has come in the form of ‘innovative’ financial products – eg Credit Default Swaps (CDS) and Collateralized Debt Obligations (CDO) – which played a major part in the financial meltdown. (More on this below).
In the context of risk (with “efficiency” relatively low in importance), regulation looks like the hero rather than the villain. But in market framing (“efficiency”, “free competition”, etc) it’s the villain. We should be talking repeatedly about risk: dangerous, unquantified, irresponsible, runaway profit-at-all-costs financial risk-taking by banks – not least because the systemic risk which led to the global meltdown is still present in the system (because the system hasn’t fundamentally changed – eg see Nassim Taleb’s comments).
“Invisible Hand” of Credit Default Swaps
Why were Credit Default Swaps such a major Weapon of Mass Destruction? CDSs are a new (and diabolically clever) way to profitably “manage” risk. They resemble insurance against defaults on loans, but streamlined, packaged and on an industrial scale – with risk apparently magicked away with mathematics and computing power. As John Lanchester puts it: “It’s a basic law of money that risk is correlated to reward – the amount of money you can make is determined by the amount of risk you are willing to take on. But you’ve just engineered that risk out of existence”.**
CDS was a dream product. All the profit from taking on risk, but without the danger of risk (it also helped to bypass banking rules about holding a certain amount of capital in reserve against the risk of outstanding loans – since that risk had ‘disappeared’).
In just over a decade, the CDS market grew from nothing to $54 trillion.***
Take a moment to ponder that figure, since it’s close to the total GDP of the planet. Realise, also, that there was a congressional ban on the regulation of Credit Default Swaps. They could be purchased “over the counter” – rather than traded on a regulated exchange.
So, the banks’ money is generated from risk, not from “efficiency” or “productive work”. It’s like a global casino for the ultra-rich. The ‘innovative’, unregulated financial products supposedly “engineered” risk away in such a clever way that one didn’t need to worry about it. But the taxpayer ended up paying the bill for this ballooning financial risk-taking…
Market “experts” evaluate risk
Something called “Value at Risk” (VaR) became the standard measure of market risk. With the prevalence of ultra-complex ‘innovative’ financial products (such as CDSs) VaR became increasingly popular, as it provided a way for managers (and, basically, everyone who didn’t understand these ‘innovative’ products) to put a figure on the risk being run (using a computer-based “expert” probabilistic formula).
“VaR is charlatanism because it tries to estimate something that is not scientifically possible to estimate, namely the risk of rare events. It gives people a misleading sense of precision.”
The “flaw” which Alan Greenspan identified in his own “model” of the way the “world works” (see Greenspan quote, above) is to do with risk, and the fact that deregulated “market discipline” (which takes a central role in Greenspan’s metaphorical world) is unable to cope with the growing systemic complexities of risk in the financial markets. The US housing crash was not a particularly unlikely scenario, but “market discipline” (using market-developed mathematical models of risk) failed to prevent the resulting catastrophe.
The “Market Discipline” frame
“Market discipline” is closely linked to the idea that “free competition” necessarily maximises “efficiency”, producing the optimum outcome for all. The belief is that you don’t need “regulation” (which is seen as unnatural, immoral and inefficient), because you have “market discipline”. It’s part of what Lakoff calls the ‘Economic Liberty Myth.’ This rightwing ideological myth unites the following ideas in a complex moral frame:
- “Free markets are natural and moral”
- “Competition naturally maximises efficiency”
- “Private industry is more efficient than government”
- “Regulation reduces market efficiency”
- “Everybody with sufficient discipline can succeed”
- “Market discipline is natural; regulation is unnatural”
Lakoff describes (eg in Whose Freedom) the ways in which this myth generally fails to account for the facts of economic reality. Building on Lakoff’s thesis, I would argue that banks (and the whole financial sector) provide the starkest possible example of reality failing to conform with market mythology. This is because complex risk takes the place of “efficiency” (as primary determining business factor) in a virtual realm of abstract wealth, where efficiency (in its usual, tangible/physical sense) has little meaning.
The reason why the market mythology appeals to so many people (not just rightwing ideologues) is that our thoughts about “efficiency”, “discipline”, etc, are grounded in real experience – eg in physical efforts and human interactions. The market myth is isomorphic – via metaphor – to a part of that experience. But only to a part.
Non-market framing – what the market myth leaves out:
- Natural economies of scale, the commons – isomorphic to “public infrastructure”
- Natural systemic regulation of the whole (as opposed to partial/anal “discipline”)
- System-wide “efficiency”, not reducible to “competition” of parts
- Natural non-efficient “redundancy” (important aspect of evolution)
- (Etc, etc)
Both market and non-market frames are grounded in “real experience” – but market frames have been promoted far more (as a result of decades of well-funded rightwing thinktank and media activity, etc). As a result, we tend to conceptualise in market terms (“businesses must compete freely, without interference, to maximise efficiency”, etc). But systemic risk in the “global economy” has become obvious to everyone (because it affects virtually everyone). Current market models of risk, driven by market ideology, are not adequate to deal with the level of risk now existing in the market – ie a high level of risk resulting from deregulation and the expansion of derivatives markets (eg CDS), etc. The cognitive task ahead is to make it obvious – part of common sense – that ideological market framing can be (and most often is) dangerous and destructive to the extent that we mistake it for the whole of reality.
* The Glass-Steagall Act was abolished in 1999, after pressure from banks. When markets are “booming”, banks become more politically powerful – there’s pressure to remove regulation. See the excellent Atlantic article, The Quiet Coup, by Simon Johnson, former IMF chief economist.
** John Lanchester, Whoops! – Why Everyone Owes Everyone and No One Can Pay
*** Credit Default Swaps are a type of derivative. The global HQ for the derivatives market is London, where the turnover of over-the-counter derivatives peaked (in 2007) at $2.1 trillion every day. (That’s not a typing error. $2.1 trillion every day). [Ibid, p172-173]. According to the Wiki entry on over-the-counter derivatives, “the total outstanding notional amount is US$684 trillion (as of June 2008). Of this total notional amount, 67% are interest rate contracts, 8% are credit default swaps (CDS), 9% are foreign exchange contracts, 2% are commodity contracts, 1% are equity contracts, and 12% are other. Because OTC derivatives are not traded on an exchange, there is no central counter-party. Therefore, they are subject to counter-party risk, like an ordinary contract”.
Sept 8, 2011 – This story didn’t make the front pages. The big banks continue to get massive hand-outs. According to a New Economics Foundation report, the ‘Big Five’ UK banks received £46bn in subsidies in 2010 – equivalent to getting £1,840 from every household in Britain.
This is an ongoing ‘too-big-to-fail’ subsidy, which the banks get on top of the trillion-pound bail-out. The Robin Hood Tax campaign, which helped fund the report, said taxpayer subsidies are sustaining ‘casino-banking’.
“Too big to fail”? “Casino-banking”? In the moral accounting metaphor of many conservatives, banks (and other big businesses) are apparently still seen as deserving – you don’t often see headlines about corporate welfare “SCROUNGERS”. Why deserving? Pre-conceptualised according to the long-entrenched iconography/framing of the heroic, hard-working, self-reliant, successful “wealth creator” (includes newspaper proprietors). Er… self-reliant?