Three questions seem especially on the minds of European financial industry participants and their regulators at the moment. First: Is this the end of aggressive "Americanized Finance?" Probably not. The strongest American firms are still here, and two in particular, Morgan Stanley and Goldman Sachs - with more than half of their revenues from outside the US - are among the industry's most international firms, doing business locally all over the world. For them, the capital markets of the world are fully integrated and increasing available to corporations and governments as they have never been before. They are now bank holding companies, and ought to be able to resume leadership roles in global finance once the storm has passed. Second: Does the current turbulence vindicate Europe's belief in the supremacy of the universal banking model over all other forms? Again, probably not. Universal banks have been no better than the so-called stand-alone investment banks in their ability to avoid the leveraged exposures to toxic assets or maneuver adroitly to avoid trouble, nor have they found a better way to provide adequate investment returns for their stockholders. If the data are to be believed, some 42% of impaired US mortgage-related debt now rests on the balance sheets of European banks and investors. The universal banking debate is likely to continue for some time, but the pressure today seems to be on a number of leading universal banks to dispose of their hard-to-manage investment banking units - and there is plenty of evidence that financial conglomerates fare no better than industrial conglomerates in how investors value their shares. Third, how could so much systemic damage occur to an Industry that has been diligently regulated for 20 decades? What happened to the Basel minimum risk-adjusted bank capital adequacy regime? The storm was one that destroyed liquidity rather than one that caused damage from credit defaults, and the Basel approach does not regulate liquidity. It turns out that even the most adroit credit risk modeling, in full compliance with banking regulations, completely missed the source of a risk domain that now threatens the integrity of the banking system.
Three questions seem especially on the minds of European financial industry participants and their regulators at the moment.
First: Is this the end of aggressive "Americanized Finance?" Probably not. The strongest American firms are still here, and two in particular, Morgan Stanley and Goldman Sachs - with more than half of their revenues from outside the US - are among the industry's most international firms, doing business locally all over the world. For them, the capital markets of the world are fully integrated and increasing available to corporations and governments as they have never been before. They are now bank holding companies, and ought to be able to resume leadership roles in global finance once the storm has passed.
Second: Does the current turbulence vindicate Europe's belief in the supremacy of the universal banking model over all other forms? Again, probably not. Universal banks have been no better than the so-called stand-alone investment banks in their ability to avoid the leveraged exposures to toxic assets or maneuver adroitly to avoid trouble, nor have they found a better way to provide adequate investment returns for their stockholders. If the data are to be believed, some 42% of impaired US mortgage-related debt now rests on the balance sheets of European banks and investors. The universal banking debate is likely to continue for some time, but the pressure today seems to be on a number of leading universal banks to dispose of their hard-to-manage investment banking units - and there is plenty of evidence that financial conglomerates fare no better than industrial conglomerates in how investors value their shares.
Third, how could so much systemic damage occur to an Industry that has been diligently regulated for 20 decades? What happened to the Basel minimum risk-adjusted bank capital adequacy regime? The storm was one that destroyed liquidity rather than one that caused damage from credit defaults, and the Basel approach does not regulate liquidity. It turns out that even the most adroit credit risk modeling, in full compliance with banking regulations, completely missed the source of a risk domain that now threatens the integrity of the banking system.
They are spot on that Basel regulations didn't prevent this happening, though.
And it so happens that the rating rules used by the big agencies seem to have been suspiciously pro-cyclical, ie using past data to evaluate future likelihood of default, in defiance of the most bsic rule of investing (the past is not an indicator of future performance). In the long run, we're all dead. John Maynard Keynes
Investment banking is the problem, and European banks can be blamed in so far as they were pushed by everybody to be as "sexy" as American investment banks, and yielded to that friendly pressure. In the long run, we're all dead. John Maynard Keynes
