Andy Haldane: the full transcript
I interviewed Andy Haldane, the Bank of England’s executive director of financial stability, earlier this month for the Independent on Sunday. You can read it here.
But for those who want to learn more about the thinking of one of the leading lights of the regulatory world, I’m publishing the full transcript below.
Here are some of the highlights:
* Haldane believes the Bank has taken a “big philosophical step” by saying it will take pre-emptive action to avoid a housing bubble.
* He discloses that bankers admitted to him before the financial crisis that things were getting out of hand – but they felt powerless to stop.
* Haldane does not think the “too big to fail” problem in banking is even close to being solved (unlike the former Bank deputy governor Paul Tucker)
*He strongly backs the resurrection of loan securitisation, despite the misgivings of the former Governor Mervyn King.
*The deleveraging of banks will continue for several more years.
*Haldane feels lucky because the crisis has given regulators a “blank sheet of paper” to redesign the system.
*Growing up in Yorkshire Haldane was a fast bowler.
Is the Bank of England tapping on the brakes in response to the housing market?
This is not to be thought of as foot on brake, but is to be thought of as foot coming off accelerator, a normalisation if you like after a period of extraordinary stimulus. That’s the way I think to make sense of the FLS [Funding for Lending Scheme] move. That’s the way to make sense of the capital relief move. This is an engine that has been running slow. We’ve pressed an accelerator to speed it up. Either by good fortune or good management the engine speeded up. Now’s the time not to provide the extra stimulus. Perhaps of greater significance than the individual acts was the signal it sent about what mode we’re going to be operating in in the future. In other words, in this front foot mode, this pre-emptive mode, this stitch-in-time mode. We are not going to wait until this thing has got away from us before signalling our desire to tighten. We certainly are a world away from a world of “mopping up”. Broadly speaking pre-crisis we were all in Greenspanian [after former US Federal Reserve chairman, Alan Greenspan] mopping up mode. Let a thousands bubbles blow and if they pop and the world looks awful we’ll mop up, typically through low interest rates. That was not just in the US but pretty much globally. Now the orthodoxy has pretty radically altered in two dimensions. One, we aren’t going to be a one club golfer, and rely on interest rates to do the work for us. We’re going to use a broader range of tools, these macro-prudential rules. And two, we’re going to do that in a pre-emptive fashion. That’s the stitch-in-time element of it. That’s really about putting in place ex-ante insurance against tail risk, not because it’s the most likely thing to happen. It’s in the nature of tail risk that it isn’t the most likely thing to happen. But because if there’s some risk it could happen you’re better to have put that insurance in place sooner rather than later because it saves you doing more later with more damaging consequences to the housing market and the wider economy. Although in essence this felt like a small step for regulators. In actual fact it was signalling something rather more significant about how the regime is going to operate. It was billed in a way as the first test of the FPC [Financial Policy Committee]. How would it see the emerging trends in the housing market and what would it do in response to that. I hope we’ve laid out our stall.
So is it fair to characterise it as a “giant leap” in regulatory philosophy?
Yes, philosophically it’s a big step. Even the acts themselves, not just the acts we took, but the laying out of the actions we could take was very significant. People were surprised by the fact that on the back of [these] graduated, proportionate measures equity prices of house builders fall 8 per cent. I’m not sure if I’m surprised or not. I’m always surprised by financial markets! But I think the way to make sense of that is that look, what we were signalling yesterday is that we have a ladder of responses and if this market is at risk of getting away from us, we’ll go up the rungs of the ladder. And we’ll seek to stop that happening. I think it was that signal about the future as much as our particular actions yesterday that caused people to draw breath.
Some might object: “How can regulators know when it’s a bubble or not?” What makes you more intelligent than the collective mass of people out there?
It’s a completely fair challenge. My response would be as follows. Even in the periods in the past when we were in mopping up mode I think there was a reasonable degree of confidence not just in the regulatory community, but in the market, about situations where things were getting out of hand. Case in point: in 2005/2006 you could have conversations, as we did, with people in a square mile of this building and ask them…We’d say things like: “Looks a bit rich, the price of risk looks a bit low, the quantity of risk taken looks a bit high. And they’d say: “Yeah, you’re right”. Our supplementary question was: “Does that mean you’re taking risk off the table?” To which their response was: “Well we can’t really because it’s a game everyone’s playing”. This is the Chuck Prince [the former Citigroup boss who said in 2007 “As long as the music is playing, you’ve got to get up and dance”] dynamic. They all had friends who had taken risk off the table two years previously and weren’t in employment any more. So actually even in some episodes in the past it wasn’t as if you need your regulators to have omniscience about bubbles or imbalances. Actually most of the market would tell you that we’re operating in unchartered territory. You don’t need divine insight to spot these things. I think even if you don’t know everything – which you never will – you know more than nothing. So can I perfectly define how big the tail risk is in this market or that market? Absolutely I can’t. But can I do better than to ignore it? Absolutely I can. That’s the essence of this new macroprudential game we’re all playing. Do I know more than nothing? If so what then do we do? Another way of putting it is: I know what failure looks like. If you miss a housing boom and it turns to bust I know what it looks like and it’s ugly. We had a picture in the FSR [Financial Stability Report] that tells us that recessions that accompany housing busts are three times more costly and last for a third longer than those without. This is in some senses is a very British cycle, but actually it is cycle that we’ve seen internationally not only in every advanced country but every emerging market. And we know how this movie ends and it does look like disaster. Given that you should not wait for complete certainty before putting in place some insurance. So I think this is a sharp philosophical shift. We do not know everything we’d like to know about emerging imbalances and bubbles. But history tells us more than enough already about the consequences of getting this wrong and therefore the need to put in place insurance against those tail events ex ante. I think that is the new orthodoxy.
Are you still getting push back from the banking sector and ministers on your re-regulation and reform agenda? Are you getting your way?
Where we’re headed on the regulatory front is a much, much, much, better place than that from which we’ve come. Take Basel III [the international regime on banks’ capital]. Is it perfect? Of course it’s not. But will it result in the amount of equity that globally big banks hold increasing by an order of magnitude? Yes it will, and that’s well worth having. We have tried to be as attentive as we can to these concerns about “look trying to get there too quickly could have real and adverse consequences for the real economy”. Interestingly the bank is seen as being at the hawkish end of the spectrum on regulatory matters. That’s probably true. Equally, it was the Bank that argued most vociferously for a lengthy transition period in the Basel III context so there wasn’t any actual or indeed perceived damage to the wider economy from going too far too fast. Take the FPC. There was a degree of noise over the capital raising exercise that we undertook over the past year or so, which is well known. [There was] rather less focus on the fact that the FPC had twice – in June last year and June this year – lowered liquidity requirements on banks. The reason we lowered them was to help support the wider economy. Deeply countercyclical. No regulator in this county – or perhaps any other country – previously would have been lowering regulatory requirements in a recession/flat period for the real economy. We did with a view with a view to supporting the wider system, the wider economy. We’ve been as careful as we can be to try and weigh this desire for a much more robust system, which is essential given what we’ve been though. Otherwise we’ve learned nothing. But at the same time [we are] doing it in a way that doesn’t pose any risk to the wider economy. That’s really the value of macro-prudential – that’s why it adds something.
Were you disappointed by those “Capital Taliban” comments from the Business Secretary Vince Cable?
Regulation is not a popularity contest. That much has become clear to me over the last few years. There will be push back. There will be lobbying. Sometimes noisily, sometimes covertly. For me that’s just part and parcel of the game. What’s been very striking to me, and almost reassuring, is that analysis and ideas can make a real difference to the debate. And they have made a real difference to the debate. Because there has been a debate about “is it really costly for banks to hold more capital, and how much more costly?” That evidence analytical evidence speaks overwhelmingly – overwhelmingly – in one direction. The levels of capital that we are moving to over the medium term this will be net a very positive thing for the wider economy and for society. I’d say that’s a close to a slam dunk analytically as you are ever going to find in economics or finance. The contribution from academia, from policymakers, putting the analysis out there cleanly and simply and saying: “look here it is: challenge that”. That has been a real force for good during this debate. Take the debate about big banks. Pre-crisis orthodoxy [was]: bigger bank, bigger balance sheet, more diversified, can get away with smaller amounts of capital. Intellectually, analytically, we’ve gone through a 180 [degree turn] on that. The 180 is: bigger banks, bigger balance sheet, bigger collateral damage to the wider economy if they got phut, more capital. That’s been as much an intellectual, analytical leap forward as it has been a regulatory leap forward. What’s been telling this time is that regulators have followed pretty hard on the heels of the analysis. Usually it takes five-ten-sometimes twenty years to percolate from the analytical, to the practical. In some cases – too big to fail – it’s gone there at warp speed.
Is too big to fail now solved?
There’s plainly a significant degree of unfinished business here. And the FSB [Financial Stability Board, the international financial regulatory co-ordinator] acknowledged that back in September. Most people internationally would acknowledge. It should come as no surprise because the three moving parts of the reform programme are still moving. In some cases they aren’t in place at all. The three strands are: more capital (which isn’t yet in place because the capital surcharges for the world’s biggest banks aren’t yet in place), it is structural measures (here in the UK Vickers [on ring-fencing] which is yet to be implemented) and as the third leg of the stool it is resolution regimes. On all three bits implementation is some way from being complete. On the third and some of the second even the design principles are yet to be agreed upon. So it would be extraordinary if we were declaring victory at a point when none of the three core strands have yet been implemented and in some cases haven’t been designed. There’s quite a distance to go I’d say. It would be dangerous to be declaring victory now. Let’s say that all three strands are implemented. Can we then say with 100 per cent certainty that this nut is cracked? No we can’t – because we’re doing things that haven’t been done before. Another thing is misunderstood. When I was first thinking about this several years ago and was trying to gauge its scale I hit upon this idea of measuring the implicit subsidy that was being accorded to these banks by dint of the expectations of bailout. For a variety of reasons that’s spawned a kind of cottage industry, which has been interesting to observe! And indeed for some, they say that success on tackling TBTF means removing these implicit subsidies. That’s right, but that’s a necessary, not sufficient condition for tackling TBTF. It’s necessary because until you remove the expectation of state support it will be an implied funding subsidy and banks have an incentive to get bigger. But this TBTF fail problem manifests itself well ahead of failure. This isn’t just all about failure. This is also how these behemoths behave pre-failure, pre-insolvency. Because big banks with stressed balance sheets take defensive actions, as any of us would. They shrink their assets, by shrinking your lending. But of course [this] has, as we know, significant collateral damage for the wider economy, well ahead of the point of failure. That’s what a credit crunch is. So some of the costs of these TBTF institutions aren’t about the costs of failure, they’re about the costs imposed well ahead of failure, in situations of stress. Those costs can’t be met by resolution regimes because they only kick in at the point of resolution. You need enough insurance in the tank to guard against these costs up front, ex ante, well ahead of the insolvency point, which speaks to capital. The thing that gives you insurance is capital, because that means its less likely, even when you’re hit by a thunderbolt, that you find your balance sheet in a state of distress. You start taking distress actions, which because of your size have these big collateral costs for the wider economy. This is a part of the debate that is not understood. And I may have played a role in sending us down rather too narrow a track. It’s not just about failure, it’s about what happens ahead of the failure point. What were the costs of the crisis? There’s two ways those are measured. One way [to look at] the fiscal costs of mopping up. Typically they look relatively modest. Why? Because when governments intervene, at least in some cases, they get their money back. The US authorities in the main have got their money back from their interventions. But of course that’s a huge understatement of the true costs of the crisis, which is felt not by the government’s balance sheet but by the balance sheet of everyone in the private sector. The loss of wealth, the loss of income: that’s usually many multiples of the fiscal cost. And that cost to the wider economy can occur even if no big bank fails. It comes from distress among those institutions rather than outright failure. That might sound like a slightly peripheral point, but it’s crucial for this TBTF debate. It’s misunderstood right now. So remove implicit subsidies? Absolutely. But at that point can we declare victory? Absolutely not. That misses the macroprudential costs; the costs to the economy, not just the sovereign balance sheet of these institutions finding themselves in peril.
Sir John Vickers’ report recommends a ring-fence, not a total separation. But shouldn’t we be looking again at this?
When I give evidence to the Parliamentary Commission on Banking Standards, on this ring-fencing idea, which I strongly support, I made clear the principles that I think we should hold dear in implementing the ring-fence. This isn’t just about how do you best, at the point of failure, insulate the stuff you want and allow the wind down of the stuff you don’t. As important a reason for the ring-fence is how it shapes behaviour ex ante, that you have a culture within in the ring-fence bank that is inherently less risk-taking, as well as having insurance in that ring-fenced bank which makes it less likely to fail. For me this is every bit as much a cultural issue as a resolution issue. To achieve that cultural separation you need legal separation, you need a degree of separation in treasury management, you need a degree of separation in governance, you might even need a separate set of objectives for the board of the ring-fenced bank to recognise the importance of it being preserved. You might need separate HR [human resources]. Those principles would help insure that the behaviour and the culture of the ring-fenced bank was distinct, as well as being distinct in a legal sense.
But the ring-fenced bank will still have lower funding costs as a result of being part of the larger group. Isn’t that leaving a problem?
Hopefully, with the set of measures we have – not just ring-fencing but the extra capital in the ring-fenced bank or outside of the ring-fenced bank and the resolution architecture – there won’t be these institutions that are benefitting from expectations of the government riding to the rescue. And therefore the funding cost advantages won’t be conferred on either side of the ring-fence. That’s the hope. But as we sit today we can’t know that this will crack the nut. That’s our hope. That’s our expectation. But we’ll have to see. We have a priority around the medium-term capital framework. We have a priority around too big to fail. What we said is that we as FPC will come back to this question. We’ll ask ourselves the question: now that this stuff is in place, has this solved the problem we set about tackling? If it has, we’ll applaud. If it hasn’t, we’ll do some more things.
The Governor, Mark Carney, said that bank assets could reach nine times GDP by 2050 and so long as those institutions are safe that wasn’t necessarily a problem. Do you share that view?
It has been widely misinterpreted as Mark saying that would be a desirable thing – he doesn’t say any such thing. Or that it’s a likely thing to happen. He simply said “if x, y and z than the answer will be this”. And if it is this, then as sure as eggs are eggs, we’d better make sure the system is as safe as it can be. Some of that has been slightly muddled in the external discussion. From my perspective it isn’t our job to reach a view on the right size of any part of the UK financial sector. That would be well above certainly my pay grade! To say that manufacturing should be X and manufacturing ought to be 1-X. Even if we could pull of that kind of loaves and fishes miracle I’m not sure we’d want to. But one thing we must do as central banks is to ensure that, whatever the size, this a structure that supports, rather than detracts, from the fortunes of the wider economy. That’s key in my mind. That’s what the “macro” in macroprudential policy. The reason it’s different is because it’s regulating for the real economy. It’s saying that regulation is a means to an end and the ultimate end is a better functioning economy. That’s the test we’ve got to set. If the structure or the size of the system or individual nodes within it are such that they would cause damage to the wider economy, the like of which we’ve seen – not just in the UK but other oversized financial sectors such as Cyprus, Ireland, Spain, Switzerland, Iceland – then we are duty bound to put that sector on a safer footing. That’s what we are doing. The bigger it is, or the greater the collateral damage that could be done from failure, the greater the amount of insurance you need to put in place. I don’t think that should be especially surprising.
What about the fact that some banks’ balance sheets are often stuffed with hundreds of billions of pounds of derivatives? Are they really helping the economy?
It would be intolerable to have a situation where you had a financial sector that was doing things that supported the wider economy here but was not supporting the wider economy in a different part of the balance sheet. And where shocks to the second interrupted seriously the functioning of the first. That’s the movie we’ve all just sat through, where cross-contamination of the balance sheet infects the good bits in ways that cause as big a recession in the UK as we’ve had since the Great Depression. The principle of ring-fencing is to try and prevent that cross-contamination. It think that’s positive. It constrains the degree of cross-contamination so that there’s a greater chance that the ring-fenced bank will stand tall in the event of a problem affecting the non-ring-fenced bank. That is supportive of the wider economy. There’s a second point. Absolutely, we have an interest in having a financial sector broadly defined that supports the needs of the wider economy. That is the macro-prudential agenda. We’ve put capital in the banks as a means to an end, when the end was supporting lending. We felt that without the right capital base we’d never get the banks to a position where they felt comfortable to expand their balance sheet. That to me was the right call. The Andrew Large report [on RBS] is interesting because it says that is a necessary condition but there were other things on the supply of SME lending which were acting as an obstacle. I would very much see the Bank having a roll in thinking about some of those non-financial obstacles too. Is there a culture of excessive risk aversion? Do they have the right people, processes, due diligence? That I would see as an action that we as an FPC could take upon ourselves, to try and ensure the credit arteries are as a clear and open as they can be. But as important as getting banks working for the wider economy is getting non-banks working for the wider economy. My central view would be that the squeeze on our bank balance sheets will continue for the next several years. Through some combination of accreting extra capital and perhaps slimming parts of their balance sheets. In the UK we’ve made clear that that the slimming of the balance sheet shouldn’t effect the wider economy. But we’ve also made clear that the answer to all our prayers does not lie exclusively in banking. We would like to see, as FPC, a well-functioning second channel for financing of companies and households. Currently in Europe we are far too bank centric and we don’t make sufficient use of non-bank sources of financing, compared for example with the US. Roughly speaking US companies finance themselves three quarters from capital markets and a quarter from banks. In Europe it’s the opposite. And that we have got to change. The squeeze on bank balance sheets makes that even more of a necessity than was the case before. And there is a match here to be made in heaven. Actually institutional investors ‑ insurance companies and pension funds ‑ are desperate for yield and are desperate for long-duration assets. If we can find a way for those loans that companies need – long duration – on to their balance sheets then demand and supply are going to meet beautifully. And one of the reasons we have securitisation as our priority is that they are a way of making the match between the needs of companies and the needs of investors. This is quite a shift for the Bank.
Yes, Mervyn King didn’t like securitisation, saying the sellers always knew more about the underlying securities than the sellers…
And he’s right about that because the securitisation market broke in Europe. It broke because it was faulty. But the fault was not that it’s impossible to join up these two ends of the rope, but that it’s that the way they had been joined was too knotty. It was too complicated. And there’s absolutely no reason – as US evidence makes clear – why we can’t create instruments that are simpler, whose structures are more straightforward, that can meet the needs of end investors with the needs of end borrowers. In other words to create in the UK, within Europe, a functioning, firing, robust securitisation market.
If the Quantitative Easing money had been used in that way, to buy securitised loans, as ex-Monetary Policy Committee member Adam Posen recommended, would that have been better?
What we’re talking about here is a model for all times, an infrastructure for all times. Whatever the rights and wrongs of what were the right assets to buy for QE I’m talking about a structural intervention that makes a lasting permanent change to the supply side of the financial sector. This isn’t about short-term stimulus. This is longer-term, structural, supply-side infrastructure that should be created. So next time we’re less reliant on banks, next time there is a firing second cylinder, which actually means there will be less need for actions of a demand stimulus QE nature in the first place. I see this as a slightly different animal than the specific context in which Adam raised it, although the underlying instrument shares a commonality. Adam is a friend of mine and I know he very much supports a structural supply side intervention that makes this a permanent feature.
In June you said QE had blown up the “biggest bond bubble in history”, on purpose, and you were worried about it bursting. Have those worries abated?
These are risks we’ve looked at as FPC quite a lot. Thinking back to June we articulated this as a risk of a snap back in long-term interest rates, which is the same thing as a fall in the price of government assets. What followed of course was a natural experiment in just that following the Fed’s taper talk. So that has resulting in some correction in longer term government bond yields, particularly in the UK and the US. That adjustment has been fairly significant, more than 100 basis points in both countries. Nonetheless, to take the level of real yields in the UK five years hence they’re still at around half a percentage point, which is some way below what’s you’d regard as being an equilibrium. That’s an equilibrium for the medium-term growth rate of the economy. That suggests there’s still upside potential over the medium term in the path of yields of government securities in most advanced economies. That tells us that despite this natural experiment we lived through there is still some risk of further interest rate corrections. That’s not the most likely view. That goes back to the fact that our job as regulators is to guard against tail risk. With the banks and with some non-banks we ran that stress test over the late summer and autumn, asked them to think about the consequences that would flow from a correction of interest rates. That provided some good news and some less good news. The good news was that for a relatively modest sized adjustment the like of which you’ve actually seen, this would not hole any institution below the waterline. Not least because many of them are already holding capital against some of those risks – even extra capital we’ve asked for in some of those cases. The less good news was that it was clear relatively few if any had thought about the kind of extreme stress that could eventuate, where you have interactions within markets amplifying pressures on prices and driving them further south. For that reason we felt this was unfinished business and we’re doing some more work with the banks and indeed some non-banks to better understand at what point a correction will begin to bite on their balance sheet. At the time I spoke about it, it was a risk. We have gone away and explored that risk. That has provided some degree of comfort, but there remain some gaps in our understanding. Interestingly the US has just announced the scenarios for their stress tests next year and this one – a snap back – is the key one. So this is not specifically a UK concern.
Are you enjoying your job?
What’s there not to enjoy? If you don’t enjoy these moments in your career you’re in the wrong job. Public policy only matters – regrettably ‑ when things really go wrong. It’s all about preparing yourself for when things go wrong. When they do you’ve got to make the best of a bad job. We’re rebuilding the framework again from scratch – that won’t happen again in my career. I’ve been lucky that it happened on monetary policy back in 1992 when we fell out of the ERM [Exchange Rate Mechanism]. I was in the right place at the right time to be part of shaping inflation targeting. I got lucky at the time of the Asia crisis, when I happened to be working on those issues, so got to think a bit about reshaping the of the global monetary/financial order. I’ve got lucky three times with today’s financial crisis and the chance to rethink the financial regulatory order. That’s a lot of luck! At one level the crisis has been brilliant because it has provided as close as you’ll get, certainly in my career, to a blank sheet of paper when thinking about the structure of the financial system, public policy interventions. It’s absolutely fantastic. I tell our new entrants [at the Bank] that they have no idea how lucky they are to have landed in public policy at this time. The one thing I can guarantee them is that they will be telling their children and grandchildren about this point in history they just happen to have landed in. That’s a fantastic endowment for us. It’s a terrible endowment as well because it’s a pity we had to go through the crisis to get the clean sheet of paper. But the fact is we have and being able to weave in some new thinking from outside of the mainstream to shape our policy has just been wonderful.
How do you keep fit?
Metabolism is the answer: genes. I don’t have to exercise at all. My metabolism is amazing: unchanged weight for 25 years. My kids are young so the amount of free time for doing anything….Gyms I find tremendously boring. I love competitive sport but don’t do any these days because it’s such a time commitment. Cricket, soccer, tennis. Often my one cricket match a year is the Governor’s day game. Cricket’s a game which you shouldn’t aim to play just once a year. It’s deeply unforgiving on a 40-something year old body. Particularly if you’re a bowler. This is a game between the Governor’s Eleven and the Bank Eleven. I’ve tended to play for the Governor’s Eleven, which tends to be a mix between people who are either the great and good – Mervyn King or Gus O’Donnell or someone- or professional crickets like Andrew Strauss. I’m neither a professional cricketer, not the great and good. So I’m basically making up the numbers. And these days I’m rubbish. So everyone’s saying “so why’s he on our team – he’s not obviously been knighted, and he’s definitely not captaining England, and he’s not obviously any good any more. In days of yore I used to class myself as a fast bowler. I grew up in Yorkshire so all of my formative years were spent playing cricket.
Do you get up to listen to the Ashes in the night?
Definitely not now. Not unless the kids wake me up – and especially not after the first test which was grisly. Going back I would have watched the Ashes through but now I’m too old and wizened.Tagged in: Andy Haldane, financial crisis, regulation
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