The IMF is discussing many questions in the Global Financial Stability Report – Responding to the Financial Crisis and Measuring Systemic Risks April 2009 © IMF. I here bring up two of them being of significant importance. You find them in the report in pp112-
Question 1: "What were common factors among the financial institutions (FIs) that have required public intervention? Did traditional financial soundness indicators (FSIs) provide meaningful warnings?"
My comment: Putting this question can only an academic or public servant do. Someone who still has the belief that social engineering is an exact science that should be performed only by scholars and the elite. There is nothing replacing experience and common sense. Experience from running businesses and the common sense developed in the process focusing on the survival and growth of the company. Only being exposed to true competition can develop it. The problem with the banking system is that it is not a competitive system forcing survival of the fittest. It is a protected system based on survival of those who conform and those who do will always enjoy government or rather taxpayers' protection. You cannot find a set of indicators to run an enterprise remotely. The conditions change constantly and only flexible minds managing to make investments with relatively low risks will survive over time. And then there is the element of luck that always has to be on your side to win. The aspiration of social engineering and banking supervision and regulation tries to disregard those facts or natural laws if you wish. Risk management cannot be 100% automated, you need to add people with integrity, experience and common sense to have the final word. The IMF is on the wrong path. Social engineering and industry protection leads to moral hazard or plain corruption. The banks have to be exposed to full competition and regulation shall protect society from banks' defaulting, not the other way around.
Question 2: How can one determine which FIs are systemically important? Can one shed light on whether allowing Lehman Brothers to go bankrupt was or was not a policy “mistake” exante?
Question 1: "What were common factors among the financial institutions (FIs) that have required public intervention? Did traditional financial soundness indicators (FSIs) provide meaningful warnings?"
My comment: Putting this question can only an academic or public servant do. Someone who still has the belief that social engineering is an exact science that should be performed only by scholars and the elite. There is nothing replacing experience and common sense. Experience from running businesses and the common sense developed in the process focusing on the survival and growth of the company. Only being exposed to true competition can develop it. The problem with the banking system is that it is not a competitive system forcing survival of the fittest. It is a protected system based on survival of those who conform and those who do will always enjoy government or rather taxpayers' protection. You cannot find a set of indicators to run an enterprise remotely. The conditions change constantly and only flexible minds managing to make investments with relatively low risks will survive over time. And then there is the element of luck that always has to be on your side to win. The aspiration of social engineering and banking supervision and regulation tries to disregard those facts or natural laws if you wish. Risk management cannot be 100% automated, you need to add people with integrity, experience and common sense to have the final word. The IMF is on the wrong path. Social engineering and industry protection leads to moral hazard or plain corruption. The banks have to be exposed to full competition and regulation shall protect society from banks' defaulting, not the other way around.
Question 2: How can one determine which FIs are systemically important? Can one shed light on whether allowing Lehman Brothers to go bankrupt was or was not a policy “mistake” exante?
My comment: There are probably ways to define which FIs being most important. But why do we have these giant FI? Why not consider a system which does not allow any FI to be systemically important?
The problem with Lehman Brothers was not that it was allowed to go bankcrupt. The problem was instead that the Fed did not have any tools to save it, so Fed had no other option than to let it go. The Fed hadn't prepared for a potential failure of a FI! They have actually admitted that fact (see my blog from May 6 2009 "Fed Lacked Tools"). Read also the Letter to Shareholders by JP Morgans' Chief and get some valuable insight on the chaotic acquisition of Bear Sterns. I'm still amazed that the Central Banking system was so unprepared to handle the crisis.
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