After-Christmas thoughts on morals and finance

January 5, 2009


(Quentin Metsys, The Moneylender and his Wife, 1514)

Morals have been a big issue in the recent financial crisis. There’s been a generalized and often not very rational outcry on the misdeeds of all these “greedy bankers”.

Indeed, greed is one of the Seven Deadly Sins castigated by our Holy Church. In the Middle Ages, the Church was so severe on the matter that it forbade Christians from lending money against interest – it considered this to be usury. This left the Jews – pariahs in their ghettos – to do the dirty job of providing credit to merchants and princes or kings, and subsequently be demonized and persecuted for exactly this reason. Becoming rich was and still is a sulphurous matter. Inferring from German sociologist Max Weber’s path breaking book “The Protestant Ethics and the Spirit of Capitalism”, who studied the relationships of Protestants, starting with Dutch Calvinists in the 16th century, to riches. Christians began accommodating themselves with being rich, under strict conditions, e.g., reinvestment of the money earned and avoidance of ostentation. Theologically, they continued to deeply castigate themselves, as good Christians do – according to some protestants, there is no grace, according to others there is no way of knowing if and under what conditions God will grant it, if at all. But they started building a belief system that accommodates riches: Calvinists thought that some are chosen to be granted God’s grace, but do not know it. They thought that being rich might be a sign given of being Chosen. It is not surprising to draw a parallel between the development of modern capitalism, and especially its heart and blood, the financial system (see below), and the emergence of new belief systems that accommodate this change. However, in recent times, Germany’s top protestant bishop sent us back to the times of the Old Testament by accusing the head of a Greedy Global Bank par excellence, Joseph Ackermann of Deutsche Bank and his acolytes, of turning money into “idolatry” – as if they were all practising the secret cult of the Golden Calf.

Now, to the problem of financial development itself. Financial innovation – all those AMBS, CDOs, CDS, and other mysterious products – is one of the triggers of the current crisis. The Financial Times’ John Plender has a beautiful piece on the matter today asking, I quote: “Is financial innovation a blessing or a curse?” (walled for non subscribers). According to John Plender:

The double-edged nature of financial innovation has been apparent throughout the ages.

Living in Belgium, I am close to various historical cradles of global capitalism. One of these is picturesque Bruges, the country’s main tourist attraction, but also one of the global commercial and financial centres of the late Middle Ages where the concept of the stock exchange, the Beurze in Dutch or Bourse in French (coming from the latin word for ‘purse’) was forged (An interesting book on the matter could be this one). Now Bruges seems harmless in its existence as tourist centre. It s decline started when rising sands dried up the river connecting it to the ocean in the late 15th Century. It’s as if the inhabitants of Bruges were punished by God’s own creation for their greedy ways. But life went on elsewhere. According yet again to Plender:

“The most inventive bankers of the 16th century were the Genoese, who developed the equivalent of interest rate swaps in their lending to the Spanish government. They also devised a form of securitisation to use inflows of silver into Spain to finance the delivery of gold in Antwerp to pay Spanish troops in the Low Countries”


“economic historians [….] argue that it was the financing requirements of the Crusades that encouraged Italian city-states to develop bond markets.”

And today? Quoting a long passage of John Plender’s article:

“The financial system does many things. Among others, it provides a means of payment and exchange; it transfers the spare cash of savers to those with investment opportunities; it allows assets to be traded; and it provides insurance, whether in conventional contracts or in such instruments as swaps, options and other derivatives.

In all these areas, innovation has provided tangible benefits. Computerisation has improved the payments system, while technology such as automated teller machines has been a huge convenience to retail bank customers. The internet is transforming the availability of financial information and is lowering transaction costs in broking. Like many other innovations in retail finance, these advances do not involve the creation of debt.

Even in those areas that do, the outcome can still be beneficial. The development of the swaps market, for example, led to the new disciplines of treasury and risk management whereby the banks’ ability to swap fixed for floating interest rates and vice versa allowed them to insure against rate volatility. Currency swaps fulfilled a similar function. With the huge increase in market volatility stemming from deregulation and the abandoning of fixed exchange rates in the 1970s, this ability to hedge was a boon to banks. At the same time, computerised trading increased the efficiency of markets.

More often than not, innovation is satisfying genuine demands. Where the curse comes in is that many innovations are double-edged. Plastic cards, in so many ways a benefit to bank customers, may lead to over-¬indebtedness, a growing social problem. Derivatives can be used to punt as well as to hedge. Credit default swaps were developed as insurance to protect investors against a failure to honour loans or bonds. Then came the collapse of Lehman Brothers, which revealed the extent to which people had underestimated the risk of their counterparties defaulting.

As the economist Burton Malkiel points out, a benign instrument designed to reduce risk turned into a monster that came close to destroying the entire financial system.

During the credit bubble, innovation was in one sense satisfying urgent demands all too well. Low-income families wanted mortgages and the banking system provided them. Investors wanted income in the period where even junk bonds offered a diminishing premium over the yield on government bonds, as excess savings in Asia and the petro-economies drove yields down. Yet in the euphoria, would-be home owners overstretched themselves, while banks dropped lending standards and fraudsters made hay.”

Maybe this time God will punish us greedy humans not with rising sands in rivers, but with the storms, heat and rising waters of Climate Change new-age Eschatologists depict us so dramatically? 😉


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