Financial Repression: Satyajit Das re-invokes the pejorative metaphor

John Maynard Keynes and Harry Dexter White at first meeting of the new IMF Board of Governors, March 1946

John Maynard Keynes and Harry Dexter White at first meeting of the new IMF Board of Governors, March 1946

By Jeremy Smith & Ann Pettifor

Satyajit Das is a former banker and author of two very readable and insightful books, ‘Extreme Money’ and ‘Traders, Guns & Money’.  Alas, in a recent article in The Independent, he has joined the ranks of those who see any almost any management of the finance sector as damaging. In this, he is profoundly wrong. 

The article is headed “'Financial repression' benefits governments but hurts people”.  “Financial repression” is in quotes, which is good, since many use it as if it were a term with a neutral meaning.  For example, the well-known US economist Carmen Reinhart, back in April 2013, in an interview with Der Spiegel, described financial repression as “a technical term”.  She defines this “technical term” (see here p.4) in an extraordinarily all-encompassing way, to include

  • Explicit caps or ceilings on interest rates, including caps on rates charged by the      finance sector to governments
  • Indirect caps or ceilings on interest rates
  • Capital account restrictions
  • Exchange controls
  • High reserve requirements
  • Requirements to hold government debt
  • “Prudential” regulatory measures requiring that institutions hold government debts in their portfolios
  • Transaction taxes on equities
  • Prohibitions on gold transactions
  • Direct ownership of banks and other financial institutions
  • Extensive management of banks and other financial institutions
  • Restrictions of entry to the financial industry
  • Directing credit to certain industries.

This expansive definition exceeds Mr Das’s own initial explanation in his article:

Introduced in 1973 by economists Edward Shaw and Ronald McKinnon, the term refers to measures implemented by governments to channel savings and funds to finance the public sector, lower its borrowing costs and liquidate debt.

The term was indeed invented by the two US economists back in 1973.  Many years later, in a 2012 article, McKinnon explained that the term was invented by them 

as a pejorative term - akin to political repression.  

The aim clearly was to create a new metaphor that made any government management of the finance sector appear nasty and undemocratic.  (We have looked at these issues in more depth in an article “Financial repression – myth, metaphor and reality”, published in Open Democracy and PRIME in March 2014.) [1]

In fact, Mr Das outflanks even Ms Reinhart in the scope of what he includes (as it appears) within the scope of "financial repression".  It also covers – according to his article – higher taxes, co-paying for government services, cuts in benefits, raising pensionable retirement dates, currency devaluations, as well as maintaining low and negative interest rates, and new liquidity requirements for banks.  What he fails to mention (yet this is surely more “repressive” than low interest rates) is the fact that real wages in the UK were “repressed” by about 8% from 2009 to 2013.

At the end of the day Mr Das’s argument is no more than the classic bond-holder’s self-serving contention down the ages: that creditors - and sovereign bond-holders above all - always and everywhere must have their real rate of return protected and enforced:

Debt monetisation and the resultant loss of purchasing power effectively represent a tax on holders of money and sovereign debt. They redistribute real resources from savers to borrowers and the issuer of the currency, resulting in diminution of wealth over time. This highlights the reliance on financial repression, explicitly seeking to reduce the value of savings.

Das refers to a McKinsey Global Institute report of 2013, which he summarises thus:

 Between 2007 and 2012, interest rate and quantitative easing (QE) policies resulted in a net transfer to governments in the United States, Britain and the eurozone of $1.6 trillion (£1.03 trillion), through reduced debt-service costs and increased central bank profits. The losses were borne by households, pension funds, insurers and foreign investors. Households in these countries together lost $630bn in net interest income, with the major losses being borne by older households with significant interest-bearing assets. Non-financial corporations in these countries also benefited by $710bn through lower debt service costs.

This argument is patently absurd.  It was the banks that essentially blew up our economies, and had to be (or at least were) bailed out by governments who therefore increased debt to do so. To now pay very high interest rates on government borrowing from private capital markets would mean that the finance sector is doubly rewarded for its recklessness.  It is not low interest rates that have penalised householders as a whole, nor hurt foreign investors in the real economy. It is the finance sector’s failure; and yet its voice has been loud and clear in demanding that the whole burden of adjustment be borne by taxpayers! 

Moreover, there are various losers (and a few winners) in this policy set, not a single set of creditor-victims. Keeping government interest payments down is of great benefit to society at large.  The better-off, older generation have by common accord done best (or least badly) out of UK government policies since the financial crash, so if their returns on savings are a bit less than hoped for, this has to be seen in a wider context. Lower returns on savings have gone alongside increases in pensioner benefits – a case of swings and roundabouts. 

The most telling sign of Mr Das’s true concern – for bond-holders – is that he seems to see the (alleged) fact that “Non-financial corporations in these countries also benefited by $710bn through lower debt service costs” as part of the problem!  The financial interests of the non-financial sector seem to be unworthy of consideration.

What the “financial repression” proponents always ignore is that there was one period in western societies when the finance sector was well-managed, in line with Keynes’s policies for cheap money, with interest rates at low levels across the range of maturities. This was the period from 1945 to the early 1970s – and in some respects starting earlier, with the New Deal in America.  In his response to a paper published by the Bank of International Settlements on financial repression by Carmen Reinhart and  Maria Belen Sbrancia, "The Liquidation of Government Debt” (2011), Professor Alan Taylor commented:

We must be wary of confusing financial repression (which sounds like a terrible thing) with financial regulation (which sounds a good deal more wholesome).  In the context of current debate on how better to regulate the financial sector after the recent debacle, it is entirely understandable that the authorities have decided that banks and other entities were given far too much leeway to pursue activities that were not only self-destructive, but also destructive of the wider economy…

Whether we call it financial repression, lack of competition, tough regulation, the fact remains that the 1945 to 1975 era was a glorious period of economic growth in the advanced countries, as well as in many emerging economies.  It was a time of rapid economic growth with the allocation and mobilization of large amounts of capital, generalized macroeconomic and financial stability, sustained real wage growth and low unemployment…

In marked contrast, the subsequent thirty-some year period from 1975 to the present has been one of financial liberalization, but at the same time has seen a pronounced slowdown in growth and capital accumulation, more financial crises, real wage stagnation, and elevated unemployment.

In fact, Ms Reinhart with Ken Rogoff in their 2009 book “This time is different” had already (if grudgingly) acknowledged the benefits of that 25-30 year period:

Figure 13.1 also reminds us of the relative calm from the late 1940s to the early 1970s.  This calm may be partly explained by booming world growth but perhaps more so by the repression of the domestic financial markets (in varying degrees) and the heavy-handed use of capital controls that followed for many years after World War II …

Since the early 1970s, financial and international capital account liberalization – reduction and removal of barriers to investment inside and outside a country – have taken root worldwide. So, too, have banking crises … [our emphasis]

It is surely perverse, however, to label policies that deliver economic advancement, regulation of the finance sector, and in consequence a total absence of systemic banking crises, as “financial repression”.

Mr Das argues that 

Ultimately, the policies being used to manage the crisis punish frugality and thrift, instead rewarding borrowing, profligacy, excess and waste.

Last week, EU Council President Donald Tusk, defending the Greece "deal", sought to argue that “frugality” is a fundamental European value, demonstrated in its austerity policies. Also in the name of frugality, Mr Das seems to attack governments from both sides – for keeping interest rates low, and for carrying out austerity policies. Mr Tusk has the merit of simply being wrong (there is no such fundamental principle).  

Mr Das however is not clear on what policies he would support.  His sweeping scope of “financial repression” goes far beyond anyone else’s to date, apparently including austerity measures as well as keeping interest rates low.  It seems that governments, in Mr Das’s world, are wrong whatever way they seek to move; only bond-holders interests matter.

 

[1] McKinnon, who died recently, was a respected conservative economist who inter alia advocated high real interest rates. He was a co-signatory with many others from the Republican economist establishment of the famous letter criticizing monetary stimulus and QE to Chair of the Fed, Ben Bernanke, in November 2010, and published in the Wall Street Journal.  The letter argued that QE risked "currency debasement and inflation”, and that “improvements in tax, spending and regulatory policies must take precedence in a national growth program”. Co-signatories included vulture-fund billionaire Paul Singer and Niall Ferguson.