Monday, October 31, 2011

Charles Goodhart on Investment Banking (ls)

Great piece at

Key statements:
So, investment banks are the main intermediaries between large-scale borrowers and lenders, and, as such, provide essential services in keeping wholesale capital markets functioning efficiently. Sometimes they even run such markets themselves, (eg dark-pools); more often they provide the channel through which almost all orders get transmitted to the market (eg derivatives markets). Such intermediation services are essential to the continued functioning of our complex modern economy. The chaos that occurred after the failure of Lehman Brothers, an investment bank without any retail banking involvement, is testimony to that. The idea that investment banks can be liquidated with far less social costs than ‘pure’ retail banks is incorrect, though alas common.
 Markets get made by participants taking positions. No one objects to agents taking positions if they bear the loss themselves. Problems arise when there are major externalities to society from such losses. It is the thesis of this note that the role of investment banks is so central to the efficient operation of our complex financial system that losses to such banks have major social externalities. The idea that, once you have carved out the ‘socially valuable’ parts of retail banking, ie the payments system and retail lending and deposit-taking, you can liquidate the rest without massive adverse effects is not only tragically mistaken but also horribly dangerous.

A really pleasant - since differentiated - view.