Failing to fix banks would hamper recovery, says MPC recruit
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The UK banking system needs to be overhauled before being weaned off public support, the latest member of the Monetary Policy Comittee has warned.
Adam Posen used his first speech as an external member of the Bank of England’s MPC to outline his stark concerns that the UK financial system as it is currently structured is not equipped to be come off public support and sustain recovery through the private sector.
Speaking at Cass Business School in London yesterday Posen says that if recovery was left to the private banking sector now without taxpayer support it would mean “any recovery could be shorter, weaker, and more erratic than it otherwise should be.”
He says that although the government was right to inject the huge amount of money it has done into UK banks so far, there are limits to how far the public purse can stretch.
Posen argues that if plans from both the government and the Bank to stimulate the economy work, then the basis for a return to recovery is sound.
But he warns that credit conditions remain tight for many businesses, as banks and lenders rebuild their balance sheets and tighten their lending criteria.
He says: “Some of the harm is inevitable, especially when financial crises of the scale we experienced occur, but the extent of the lasting damage is far from entirely out of our hands.
“That is why in testimony before the UK Treasury Select Committee as well as before the US Congress’ Joint Economic Committee, I have argued that that the banking system must be largely fixed before macroeconomic stimulus is needed to be withdrawn.
“The alternative is likely to result in a still-born recovery, a double-dip - though less severe - recession, and/or persistently slow growth.”
Posen argues that previous experience from the US savings and loan crisis of the 1980s, the Asian financial crisis of 1997-99 and from Japan’s recession of the 1990s shows us that “those economies which either fix their banking systems quickly or which have a wide range of alternative channels to impaired banks through which to provide capital to businesses, recover faster and stronger.
“It helps to have at least one spare tyre in the financial system.
“I am concerned because the financial system in the UK does not seem to have a spare tyre for the provision of capital to non-financial businesses when the banking system has popped a leak.”
He also says that the Bank is limited by the kind of assets it can purchase through quantitative easing, which could also harm any potential recovery in the UK.
Posen adds that the UK has an uncomfortable parallel with the Japanese financial system when the Japanese economy began to recover in the mid-1990s and was unable to sustain it.
He says: “The closer one looks, the more worrisome this specific parallel becomes, given the concentration of the UK banking system in a few major, mostly still troubled, banks, and the relative underdevelopment of alternative non-bank channels for getting capital to non-financial businesses in the UK.
“We need a financial system that is subject to sufficient competitive pressure such that it provides enough traditional lending to non-financial business, rather than one beset by too big to fail institutions who engage in relatively unproductive speculative behavior.
“And we need this structural change in the UK in order to generate sustainable growth in the coming years, not just to diminish systemic risk, though either alone would be reason enough.”
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