Bank of England on solvency and liquidity
Nice communication piece by the Bank of England by talking about solvency and liquidity:
The article explains that a bank’s capital base and its holdings of liquid assets are both important in helping a bank to withstand certain types of shocks. But, just as their natures as ‘financial resources’ differ, so does the nature of the shocks they militate against. The article addresses some misconceptions about capital and liquidity, explains the important differences between the two resources and describes where they sit on a bank’s balance sheet, using clear visual examples.
Go give it a read, it is neat.
Note: Liquidity is about the mismatch between the length of maturity on assets and liabilities. Solvency has a bunch of interesting issues to think about – with a strictly free market without information considerations we may not really care. However, the lack of knowledge (namely asymmetric information in the face of liquidity mismatch) about whether a bank is truly solvent creates as issue. We think about “solving” this with bank insurance – but this in turn changes the way banks and other financial institutions behave, and the way that risk is treated by depositors, lenders, and financial institutions as a foil between them. This is where we come in talking about moral hazard!
Note to note: By calling financial institutions a foil, I am not claiming anything like “deposits make loans” or “loans make deposits” – that would be a red herring. The simple fact is assets and liabilities have to meet – and banks set assets and liabilities based upon expected risk and rates of return given the institutional and regulatory structure.
Subsidising mini-skirts
Shamubeel asked yesterday why the Government is asked to fix every perceived problem. As inspiration for his forthcoming post I present the latest initiative from a city councillor in Essex:
A council is considering urging taxi firms to provide cheaper cab fares for women who wear revealing clothes.
Brentwood Borough Council is considering the bizarre move in a bid to stop women wearing short skirts or low-cut tops becoming a target for sex attackers.
The council is considering discounted taxi prices so that ‘provocatively dressed’ women can be driven back home and have less of a problem getting a ride.
I have a feeling that he hasn’t really thought through the incentives it would provide.
Carney’s compromise
The past week has seen a lot of excitement in the UK with the announcement of forward guidance by the Bank of England. In my day job I’ve been writing and talking (at 1:22) about it a lot lately, although I tend to leave the macro blogging to Matt. However, I’m going to make an exception for this announcement because there was just so much hype surrounding it.
If you want to know what others are thinking, Britmouse has a great round-up of the reaction so far and it is overwhelmingly negative. Views are split into two distinct camps: there are the people who think there is no output gap and rates should rise sooner, and there are the people who think it didn’t go nearly far enough.
Read more
The UK’s political divide
The Economist this week explores the political divide between the North and South of the UK: the North belongs to Labour and the South to the Tories. Unfortunately, they are unable to pinpoint the reason for the divisions, saying that “even controlling for factors such as education level, housing tenure, benefit receipts, local unemployment rates and age, the political divide remains in evidence.” That is not particularly surprising since voting doesn’t tend to follow economic divisions, for whatever reason.
An interesting theory of political divisions is provided by Jonathan Haidt’s descriptive theory of morality. He suggests that there are six foundations for our emotional response to situations and ideas: caring, fairness, liberty, loyalty, authority, and sanctity. His empirical research shows that left and right-wing people systematically differ in the weight they place on each of those foundations. For example, left-wing people are far more responsive to ideas that trigger their caring response, while right-wing people are more likely to worry about proportionality. Crucially, he claims that almost all of our responses to ideas are determined by an initial emotional response that we then rationalise. He uses his theory to explain the divisions between Republicans and Democrats in the US, but it could equally be applied in the UK.
For example, Haidt claims that most conservatives will have an emotional response triggered by the sanctity foundation, while liberals will not. The recent debate over gay marriage in the UK shows precisely that division. While liberals pointed to the importance of the liberty to marry freely, conservatives talked about the ‘sanctity of marriage’ and were morally disgusted by the idea that homosexuals could marry. Those differing emotional reactions drew the battle lines for the ensuing debate and were post-hoc rationalised in various ways by both sides.
Perhaps economists who view ideological and political divisions through a materialist lens are thinking far too narrowly. Rather than pointing to industrial policies and wealth redistribution as vote-winning tactics they should look to the emotional responses that the parties’ rhetoric evokes.
Overhyping nothing: The NZ context for the UK FSA speech
Via Bernard Hickey I saw this speech by Adair Turner about monetary policy in the UK.
Let us give it some context – the UK has had their cash rate at virtually zero for some time, and many analysts over there have been screaming hyperinflation and showing that they do not understand the purpose of credibility, independence, and expectations management for a central bank in the slightest. With these concerns in mind, Turner has come out to try and open up debate a little more, and make it a bit more intelligent.
This is good. However, I think that Bernard Hickey is misinterpreting these points when he comes back to looking at NZ. However, as I agree with him that we should discuss these issues I am going to briefly point out here how I can:
- Agree with Adair Turner
- Disagree with the inferences Bernard Hickey seems to be aiming at.
Let’s go.