Bring out Your Dead

Review of Crisis: One Central Bank Governor and the Global Financial Collapse Alan Bollard with Sarah Gaitanos (Auckland University Press, $29.99) in New Zealand Books: Summer 2010; p. 10.

Keywords: Macroeconomics & Money;

I examined carefully the Reserve Bank bill before parliament in 1988, to ensure that come a financial crisis the Reserve Bank would be able to act. The bill’s big idea was that the Bank’s task was to maintain price stability, implicitly downgrading the traditional primary role of a central bank to maintain order in money markets. Fortunately there was a provision hidden in the bill, so it was not necessary to raise the matter. Given how ideological the times were, parliament was headlong committed to monetarist ideology and may well have ignored it anyway.

Fortunately the RBNZ’s current governor, Alan Bollard, was no Alan Greenspan, the Chairman of the American Federal Reserve – the US equivalent – who thought that markets could police the financial institutions without government assistance, and who now admits he was mistaken. Bollard took the responsibilities for financial stability seriously enough to charge the deputy-governor, Grant Spencer, with them; for the first four years after his appointment considerable attention was given to planning for what was to Greenspan inconceivable – a meltdown of the financial system. And then one happened.

The public does not have a particularly coherent view of what the Reserve Bank does. Every two months it follows the Bank’s announcement about its expectations of inflation and adjustment – or non-adjustment – to the Official Cash Rate. How that works, how the Bank works, is hardly ever discussed. Instead journalists anticipate the announcement days ahead and triumphantly report it in a media frenzy. Because the journalists are ignorant of the technical details they dutifully report what economists in the trading banks say. The OCR matters a lot to their working and their employers’ profitability, so the event is given considerable public significance because the media’s advisers say it is important.

As a result, the media failed to chase up the big story after the September 2008 meltdown of the global financial system. How stable was our banking system? No doubt the trading bank economists were deeply worried – the Reserve Bank certainly was – but it was not a matter they wished journalists to pursue. Time and again when journalists had the opportunity to raise the matter, Governor Bollard was prepared to offer soothing assurances, but no one bothered to ask.

We know this from what in the annals of economics is an extraordinary book Crisis: One Central Bank Governor and the Global Financial Collapses, written by Bollard with assistance from Sarah Gaitanos, who helped Bollard to turn an oral history they recorded into a book. Sales indicate it is much valued by the public, not only because it is a damned good read, but because they want to know more than their day-to-day reading failed to tell them. The book is unusual because it is so honest, especially about recent events, including accounts of the Governor’s leisure life (which include 90 minutes in a dentist’s chair) and the headaches – literally migraines – the job generated. I doubt any other central banker has written such a transparent and accessible account of their job; such memoirs that are published, many years after the events. typically relate in obscure jargon.

No doubt the book will be poured over offshore, and be invaluable to such analysts as there are at home. Immediately after the collapse of South Canterbury Finance, I turned to nine juicy pages of how and why the retail guarantee deposit scheme was set up. Bollard is very explicit; he was uneasy about the scheme and in some key decisions politics over-ruled the technicians. But as he says it ‘stopped an incipient bank run’. Instead of issuing $15m of $100 notes that month they issued around $100m as depositors fled to cash; withdrawing their deposits puts a strain on the financial institutions’ balance sheets. There are a number of possibilities which would follow, all ‘horrible’ – as Bollard is wont to say; we dont know which, but it surely would have cost the economy more than the current taxpayer bail-out which is thought to cost (net) lerss than $600m.

(Although New Zealand’s Reserve Bank describes itself as a full service bank – almost the only one in the Western World – it was not then responsible for supervision of the finance houses, which were regulated more by Greenspan hopes than by pragmatism. Had the Reserve Bank been more involved, it may have designed the guarantee scheme differently. We know now that South Canterbury Finance was in deep trouble when the scheme was implemented, and that its BBB credit rating that the scheme required was an optimistic assessment by an international rating agency.)

I expect to reread the book when the tension between the Reserve Bank and the Australian owned trading banks reappears. It’s discreetly told in the book, the highlight (or lowlight) of which is the Australian Treasurer saying ‘You guys in New Zealand have to get real. If you want to be part of a single economic market with us you can forget having your own banking system. Remember, you sold your banks to us: you don’t own your financial system any more. Leave the regulation to us.’ Phew!

Another group of specialists who will use the book is the policy studies community, many of whom have little practical experience of how it really is. When teaching the subject I encouraged my students to read Harvey McQueen’s The Ninth Floor, which describes his life as an education adviser to David Lange. Crisis is an excellent addition to a limited literature.

Will the book be valued as a policy case study? Will journalists pour over it, trying to see how they could have served their readers better? I should like to think so, but I doubt it. What about economists? The academic economists ought to have been in there boots and all. There is a sense that my training as a macroeconomist was about the next financial crisis; if the dangers had not been so – well er – horrible, it was exhilarating watching the textbook story unfold before one eyes; Crisis adds practical detail. Yet there was not a single paper on the Global Financial Crisis presented at the last professional economists’ conference. With few exceptions – David Tripe, professor of Banking at Massey University, comes immediately to mind – the academics were either hedgehogs in the middle of the road hypnotised by the oncoming lights or snuffling in the underbrush unaware there was a road. (Some were spaced out on the marijuana of monetarism.)

This has serious implications for economic policy in the future. What is quite clear to all but the hedgehogs is that the way we thought about the economy over the past few decades was wrong – even Greenspan admits that. But what is to replace it?

I reread the book to see if there were any clues. Certainly there is an account of the devastated disbelief of those who had managed the international financial system according to the conventional wisdom. Since then they have introduce a range of ‘unorthodox’ policies which would have been inconceivable three years ago. But it is really alligator country – so up to your arse in them, you dont pay attention to the swamp.

The book makes some references to those who were dissenting before the crisis. It is part of the mantra of those in power and the journalists who report them that nobody saw it coming. In fact a number of economists predicted there would be a crash; what we could not do was predict when it would happen, what would trigger it, and the contingent events following the meltdown. Among that group are likely to be senior orthodox economists who can focus on the swamp. The explicit plural is deliberate. There may be one who will ultimately be named, but I doubt there will be another Keynes. Life is now too complex, while Keynes was uniquely placed, being both the editor of the economist’s top professional journal and in constant interaction with the British Treasury and Bank of England.

In any case, once his book came out – seven years after the crash – economists had to extend its theory to, among other things, cover inflation. In my case, with many others, I had to think carefully about how it applied to an open economy (with exports and imports) for Keynes was concerned about how the whole world could have a financial crash. Additionally, our trading banks function differently from the international ones which were at the centre of the meltdown. It is academic economists, those not dealing with alligators, who are better placed to explore the underlying theoretical issues. Sadly ours dont seem to have the interest. (In any case would we listen to them?)

This is not to say the new paradigm will be Keynesian, although no doubt it will draw upon his insights, and will be a lot less monetarist than the conventional wisdom of 2007. Monetarism is too simple to deal with anything as complicated as a financial crash – which is why the business community and journalists adopted it so enthusiastically.

Crisis is a book which many will not be able to put down, but the book is also one to be picked up again and again. We cannot be Keynes, regularly visiting the powerhouses of policy, but here are insights as how one works, beautifully captured in Alan Bollard’s authentic voice, so much so that sometimes the input of Sarah Gaitanos can be overlooked. No doubt there are central bankers who will regret the glimpses behind the curtain of their mysterious institutions, but the rest of us must be grateful for the insights.

The book finishes with the chilling image of the black plague, ‘The authorities could not understand what caused or spread the disease They tried to contain it …’. Bollard says ‘the crisis is gradually burning itself out’. But outbreaks of bubonic plague occurred for centuries. Bit like global financial crashes. Certainly the flow of announcements of financial institutions, productive businesses and jobs being terminated echoes ‘Bring out your dead’; Joseph Schumpter argued that crashes were to rid the economy of low productivity and misconceived businesses. There is an orthodox economic literature – Hyman Minsky is the current leader in fashion – which says meltdowns are inherent in capitalism. This book better places us to deal with the next one – but its virus may be more virulent.