The financial system is still dealing with the fallout from 2008

Watching the heads of a number of main US banks — JPMorgan Chase, Financial institution of America and Citigroup — being grilled in entrance of Congress final week, I couldn’t assist however be reminded of that acquainted picture of downcast chiefs of systemically necessary monetary establishments on the Hill following the 2008 disaster.

This time round, politicians wished to know not what Wall Road had accomplished fallacious, however what they had been planning on doing proper ought to there be one other disaster, both geopolitical (sure, the financial institution heads would pull out of China if Taiwan was invaded) or monetary.

All of it underscores that 15 years on from the nice monetary disaster, there’s nonetheless loads of danger available in the market system — it’s simply coming from completely different locations. Think about, for instance, present worries about Treasury market liquidity. Because the October 2014 flash crash, the September 2019 repo market pressures and the March 2020 Covid-related dislocations have proven, the last word “protected” market has ended up being fairly fragile in occasions of stress.

That is itself a part of the legacy of 2008. The massive quantity of quantitative easing required to paper over the monetary disaster meant that the Treasury market development outpaced the power or want of consumers to carry T-bills. Deglobalisation and US-China decoupling imply that the standard suspects, Asian nations, need to promote, not purchase Treasuries, at a time when the Federal Reserve is actively making an attempt to dump T-bills as a part of quantitative tightening.

In the meantime, the large banks which have historically performed the important thing broker-dealer position within the Treasury market say that they’ve been constrained by post-2008 capital necessities from doing that middleman job in addition to that they had previously. (Banks had hoped the pandemic-era exceptions from sure capital buffers could be made everlasting).

As a current Brookings Establishment report on the subject put it: “with out adjustments, the scale of the Treasury market will outstrip the capability of sellers to soundly intermediate the market on their very own stability sheets, inflicting extra frequent bouts of market illiquidity that can increase doubts over the protected haven standing of US Treasuries.”

Client advocacy teams like Individuals for Monetary Reform are pushing for extra transparency in pre-trading knowledge, in addition to central clearing for Treasuries, one thing that may assist make the $24tn US Treasury market, the most important and deepest market on this planet, much less fragmented and higher regulated. Not surprisingly, banks are pushing again in opposition to not solely extra regulation, but additionally the capital necessities which have made it more durable for them, they declare, to carry extra Treasuries.

This will get us again to one of many core, and nonetheless unanswered, questions of the nice monetary disaster — why are banks so particular? Sure, the most important US banks are far safer and higher capitalised than they had been earlier than 2008. However why do they chafe at single-digit capital necessities when companies in every other trade maintain multiples of that?

A part of it’s merely a want to take extra danger and earn more money. However inside that could be a extra nuanced and legit criticism, which is that banks more and more must compete with much less regulated market actors like principal buying and selling corporations (aka, excessive frequency funds) which have moved into the T-bill market, in addition to fintech firms and personal fairness titans which have change into necessary gamers in areas like lending and housing.

That factors to yet one more drawback within the system. Monetary “innovation” remains to be working far forward of regulation, simply because it did earlier than 2008. It’s well-known that non-public fairness benefited wildly from with the ability to purchase up single household houses, a number of household dwellings and even cellular dwelling parks in ways in which giant banks wouldn’t have been capable of within the wake of the disaster.

Since then, non-public fairness has moved into healthcare (they need to streamline nursing houses, ominously), and is even concentrating on a few of the US’s industrial gems — family-owned manufacturing companies. I shudder to assume what these worthwhile, community-based companies will appear like as soon as the large funds are accomplished stripping their belongings and loading them up with debt.

The SEC has proposed stronger guidelines for personal funds, and higher transparency and metrics on charges, which is, in fact, wanted. In the meantime, the Treasury Division is reviewing public feedback on how to ensure we don’t get a flash crash in T-bills. There’s even a push to tighten regulation on regional banks which might be taking part in an even bigger position within the monetary system. All of this has advantage.

But it surely additionally factors to the largest query that we by no means answered within the wake of 2008 — who’s the monetary system meant to serve? Wall Road or Primary Road? I’d argue the latter, however there’s nobody silver bullet to repair a system that has moved so distant from the productive mediation of financial savings into funding. As every part from an more and more unstable T-bill market to a house lending market now dominated by shadow banks to the financialisation of commodities has proven us, we nonetheless have a market system that every one too typically exists extra to serve itself than the actual economic system.

Maybe we’ll want one other disaster earlier than that drawback is lastly mounted.

rana.foroohar@ft.com