Big finance isn’t fuelling us, its-holding-us-back
Tight labour laws and excessive government regulation have stifled productivity in this country. But the massive growth of the financial sector is likely a factor too.
Underpinned by valuable implicit guarantees that give banks artificially cheap access to loans, banks’ size rose to unprecedented heights, drenching the economy with loans in the process. The total value of loans in Australia, about $2.1 trillion, as a fraction of national income has risen from around 80 per cent fifteen years ago to above 140 per cent today.
Government subsidies helped too. The Productivity Commission shows the finance sector receives more federal government budgetary aid than the car industry: $615 million last year.
Banks are meant to serve commerce, not undermine it, yet growth in financial services has been elbowing the real economy out of the way relentlessly since the 1980s, cheered on by regulators and governments.
International bureaucrats are finally starting to concede this might not be a good thing.
The chief economist of the world’s pre-eminent banking body, the Bank for International Settlements, recently examined 50 advanced and developing countries, including Australia, over 30 years to 2009, and concluded that credit growth reduced income growth per worker when it passed about 100 per cent of national income - far below the level it has exceeded in Australia.
The BIS economist found also that banks had become a black hole for national productivity, sucking in the most educated and talented employees, which in turn stifled innovation in other parts of the economy, especially high-end manufacturing.
International Monetary Fund research, which reached similar conclusions, pointed out: “Almost all of the countries which have been most affected by the [global financial crisis]—Iceland, the US, Ireland, the UK, Spain and Portugal—in 2006 had credit thresholds above 110 per cent.”
Large financial sectors make economies more vulnerable to devastating financial crises and direct swathes of the labour force into jobs in which the social benefits are questionable.
For instance, only about 10 per cent of the global value of derivative contracts (more than $650 trillion in December) are with non-financial firms. Much of the rest is speculation among financial firms. One of the most popular derivatives among banks is the ‘credit default swap’ whereby banks can ‘insure’ themselves against the bankruptcy of other banks, companies and governments to which they have no exposure at all.
This is akin to you buying fire insurance for someone else’s house burning down, which you cannot do for good reason.
Where once bright graduates might have been drawn to science or engineering - even journalism! - for many years now too many of them have wanted to work for banks.
The explosion of loans in Australia has also corrupted the country’s understanding of what drives prosperity. Adam Smith said the cheapness of necessities measured a nation’s wealth. Yet today we hanker for accommodation, the second most important necessity of life, to be ever more expensive. Rising house prices impoverish renters yet leave homeowners essentially no richer than before, assuming they want to live somewhere.
The need to borrow ever larger sums for what houses, which are in effect consumption goods like bread and milk, soaks up a big chunk of available loans which would otherwise have gone to businesses to invest. A little more than 10 years ago the value of loans to businesses in Australia exceeded the value of loans to homeowner-occupiers and investors. Now business loans are close to half the value of housing loans.
In the 18th and 19th centuries, economists debated which economic activities generated real wealth: agriculture, commerce or services. That debate ended in the 20th century with the triumph of the ‘national accounts’ and the mindless obsession with GDP that accompanied it. GDP assumes all incomes and expenditures are of equal value when they are clearly not.
In the wake of the LIBOR scandal in London we are hearing yet more calls for regulation of finance, yet the world simply needs less finance. Barclays Bank and possibly other giant banks had for years been quietly rigging the interest rate that underpins a big slice of global financial contracts.
Some good will come of the scandal if it bolsters doubt about the value of a bloated financial sector. Before Australian policy makers aim to grow Australia’s financial sector beyond its already massive scale, they should look closely at what that’s done to Britain, its industrial base and cohesion of British society.
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