Tuesday, October 20, 2009

Willem Buiter has no clue

Willem Buiter is a bad writer, and does not know how commercial or central banks operate, or how Government and non-Government balance sheets interrelate. That does not preclude him from being a Professor, writing in the Financial Times, and being well respected. I strongly recommend this post by Mosler where he goes through the inanity in Buiter's recent column. You should also read the comment section that tries to rationalize the muddled mess that is "quantitative easing".

Warren phrased one insight about how the public/private partnership that is the banking industry very well:
Govt capitalization of banking is nothing more than regulatory forbearance. Bank capital is about how much private capital gets lost before govt takes losses. In the US, having the Treasury buy bank equity simply shifts the loss, once private equity is lost, from the FDIC to the Treasury, which funds the FDIC in the first place.
This is entirely correct, and obvious if you think about the last 12 months clearly.

Banks are banks because they have reserve accounts at the Fed, which free them from being reserve constrained in their lending. This is unlike us non-banks, who are definitely reserve constrained when we make loans. So long as a bank has a reserve account, it makes no difference how much capital they have on the equity line of their liability column, just so long as regulators don't care either. So a bank can write down all its bad loans and run through its equity, falling below its capital requirements, and keep making loans if it has a reserve account. If regulators don't care, then what does it matter?

One error in Warren's point, in the US, the Govt recapitalizes banks and takes losses BEFORE private capital does. Honestly: if you are in school, whatever career ideas you are entertaining, just drop them to work in Finance. If you are out of school, it is not too late for a career change. Just sit outside Goldman Sach's offices on Broad Street until they let you in.


Blogger Parviziyi said...

I reached the same conclusion about Willem Buiter last year. That fact that it hasn't precluded Buiter's writings from having a respectable reputation is instructive and facinating from a sociology of knowledge point of view.

4:20 PM  

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