FX MACROECONOMICS
Buying bank debt with money generated by the central bank would rescue the banks without cost to the taxpayers, the bondholders or the government. So why hasn’t this option been pursued?
The Inflation Objection
Perhaps the concern is that it would be inflationary. But UK Prof. Richard Werner, who invented the term “qu a nti t a ti v e easing” when he was advising the
Japanese in
the 1990s, says inflation would not result. In 2012, he proposed a similar solution to the European banking crisis, citing three successful historical precedents.
One was the US Federal Reserve’s quantitative easing program, in which it
bought $1.7 trillion in
mortgage-backed securities from the banks. Tese securities were widely understood to be “toxic” – Wall Street’s own burden of NPLs. Te move was highly controversial, but it worked for its intended purpose: the banks did not collapse, the economy got back on its feet, and the much-feared inflation did not result. Werner says this was because no new money entered the non-bank economy. Te QE was just
66 FX TRADER MAGAZINE January - March 2017
For a third example, he cited the Japanese banking crisis of 1945. Te banks had totally collapsed, with NPLs that amounted to virtually 100 percent of their assets:
But in 1945 the Bank of Japan had no interest in creating a banking crisis and a credit crunch recession. Instead it wanted to ensure that bank credit would flow again, delivering economic
an accounting maneuver, an asset swap in the reserve accounts of the banks themselves.
His second example was in Britain
in 1914, when the British banking sector collapsed aſter the government declared war on Germany. Tis was not a good time for a banking crisis,
In each of these cases, Werner wrote:
Te operations were a complete success. No inflation resulted. Te currency did not weaken. Despite massive non-performing assets wiping out the solvency and equity of the banking sector, the banks’ health was quickly restored. In the UK and Japanese
case,
bank credit started to recover quickly, so that there was virtually no recession at all as a result.
so the Bank of England simply bought the banks’ NPLs. “Tere was no credit crunch,” wrote Werner, “and no recession. Te problem was solved at zero cost to the tax payer.”
For Italy and other “peripheral” Eurozone countries, Werner suggests a two-pronged approach: (1) the central bank should buy the distressed banks’ NPLs with QE, and (2) the government should borrow from the banks rather than from bondholders. Borrowing in the bond market fattens the underwriters but creates no new money in the form of bank credit for the economy. Borrowing from banks does create new money as bank credit. Clearly, when central banks want to save the banking system without cost to the government or the people, they know how to do it. So the question
growth. So the Bank of Japan bought the non-performing assets fom the banks – not at market value (close to zero), but significantly above market value.
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