Friday, February 17, 2017

Financial deregulation caused a lot of harm

Many years ago, the banks collected savings and pay an interest rate to the depositors. They use the savings to lend to businesses at a higher interest rate. Their revenue is the margin and after deducting expenses, they make a profit.

Some smart financial expert figured out. Why does the bank need to carry the risk of the bad lending. Why don't we pass the risk to the ordinary people and make a profit without carrying the risk?

This seemed to be a good idea for the banks. They convinced the regulators, i.e. the government, that it is better for banks to be risk free, so they don't have to face the problem of losses and insolvency.

The regulators foolishly agreed to this concept. If the banks do not fail, they do not have to worry about a collapse of the banking system.

They forgot to think about the people who would be carrying the risks. These are ordinary people. If the banks, with their experts, cannot assess the risk properly, how can ordinary people carry out this responsibility?

This change seemed to be a good idea for a while. The banks could scale up their business significantly with a small capital. This business model worked well for the banks, but was risky for the economy.

The activities become very bad in two ways. First, the banks did not bother about screening the quality of the lending, as long as they can push the risk to the ultimate carriers. They started to grow very big.

Next, the banks found that they can make more profit by carrying out trading on their own account. The risks that they took were tremendously huge.

If they got the bets right, they make huge profits, by the billions. If they got it wrong, they become too big to fail and the government had to step in to bail them out.

This is the story of financial deregulation over the past two decades. It is criminal. It is madness. But the governments around the world are still in slumber.

We have to return to the old system. The banks cannot be allowed to pass the risks to ordinary people. It is their job to assess the risks and to manage them.

The government cannot neglect the responsibility to supervise and regulate the banks. It is the job of the government. Financial deregulation is a very bad idea. It is criminal negligence.

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