Why our banking system is broken—and the reforms needed to fix it
The past few years have shown that risks in banking can impose significant costs on the economy. Many claim, however, that a safer banking system would require sacrificing lending and economic growth. The Bankers' New Clothes examines this claim and the narratives used by bankers, politicians, and regulators to rationalize the lack of reform, exposing them as invalid. Anat Admati and Martin Hellwig argue that we can have a safer and healthier banking system without sacrificing any of its benefits, and at essentially no cost to society. They seek to engage the broader public in the debate by cutting through the jargon of banking, clearing the fog of confusion, and presenting the issues in simple and accessible terms.
Anat Admati is the George G. C. Parker Professor of Finance and Economics at Stanford’s Graduate School of Business. She serves on the FDIC Systemic Resolution Advisory Committee and has contributed to the Financial Times, Bloomberg News, and the New York Times.
Martin Hellwig is director at the Max Planck Institute for Research on Collective Goods. He was the first chair of the Advisory Scientific Committee of the European Systemic Risk Board and the cowinner of the 2012 Max Planck Research Award for his work on financial regulation.
Table of Contents
Preface ixAcknowledgments xiii1The Emperors of Banking Have No Clothes 1PART I Borrowing, Banking, and Risk 152How Borrowing Magnifies Risk 173The Dark Side of Borrowing 324Is It Really "A Wonderful Life"? 465Banking Dominos 60PART II The Case for More Bank Equity 796What Can Be Done? 817Is Equity Expensive? 1008Paid to Gamble 1159Sweet Subsidies 12910Must Banks Borrow So Much? 148PART III Moving Forward 16711If Not Now, When? 16912The Politics of Banking 19213Other People's Money 208Notes 229References 337Index 363
What People are Saying About This
From the Publisher
"More than four years after the financial meltdown devastated the economy, our banking system remains resistant to reform and riddled with risk. The Bankers' New Clothes challenges us to question the status quo and to think anew about the transformative changes in banking that are needed to serve the public interest. This work should spur a long-overdue debate on real banking reform."—Phil Angelides, chairman of the Financial Crisis Inquiry Commission"Providing a sound analysis of the role of banking and its regulation in the public interest, The Bankers' New Clothes is free of technical jargon and widely accessible to all policymakers and all who are concerned about banking's future, which is virtually everybody. The book's clear exposition conveys a deep understanding of the pervasive place of banking in the economy and stands in opposition to the self-interested forces of obscurity."—Kenneth J. Arrow, Nobel Laureate in Economics"The Bankers' New Clothes underscores that there is perhaps no reform more important and central to a stable financial system than capping the ability of financial institutions to take excessive risks using other people's money."—Sheila C. Bair, author of Bull by the Horns and former chairperson of the U.S. Federal Deposit Insurance Corporation (FDIC)"The Bankers' New Clothes accomplishes the near impossible by translating the arcane world of banking regulation into plain English. In doing so, it exposes as false the self-serving arguments against meaningful financial reform advanced by Wall Street executives and the captured politicians who serve their interests. This revelatory must-read shreds bankers' scare tactics while offering commonsense reforms that would protect the general public from unending cycles of boom, bust, and bailout."—Neil Barofsky, author of Bailout"Anyone interested in the past, present, or future of banking and financial crises should read The Bankers' New Clothes. Admati and Hellwig provide a forceful and accessible analysis of the recent financial crisis and offer proposals to prevent future financial failures. While controversial, these proposals—whether you agree or disagree with them—will force you to think through the problems and solutions."—Michael J. Boskin, former chairman of the President's Council of Economic Advisers"With extraordinary clarity, Admati and Hellwig explain why the banking system is reckless and distorted, what can be done to tame it, and how the politics of banking has failed the public. A must-read for all, The Bankers' New Clothes educates and empowers citizens to demand a better system and tells policymakers how to deliver it."—Jeff Connaughton, author of The Payoff: Why Wall Street Always Wins"This entertaining book is an accessible exposé of the myths that financial firms use to perpetuate the advantages they get from government guaranties of their debt. A must-read for concerned citizens, The Bankers' New Clothes should be studied and memorized by lawmakers and regulators so they won't be duped by these false claims in the future."—Eugene F. Fama, University of Chicago"Bankers have sold us a story that their risky practices are the necessary cost of a dynamic system. Admati and Hellwig expose this as a misguided and dangerous lie, and show how banks can be made more stable—if less profitable for the bankers themselves—without sacrificing economic growth. This brilliant book demystifies banking for everyone and explains what is really going on. Investors, policymakers, and all citizens owe it to themselves to listen."—Simon Johnson, coauthor of 13 Bankers"At last! Two eminent economists explain in plain English what is wrong with banks and what needs to be done to make them safer."—Mervyn King, governor of the Bank of England"This excellent book should be read by everyone concerned with banking systems. Legislation has not removed too-big-to-fail financial policies, continuing the mistake of making innocent citizens responsible for bankers' errors. The Bankers' New Clothes makes the case for increased equity capital and answers bankers' arguments."—Allan H. Meltzer, author of A History of the Federal Reserve and Why Capitalism?"A clearheaded antidote to the ill-advised snap reactions to the financial crisis, The Bankers' New Clothes carefully counteracts arguments that the banking system is now more secure. With direct and rigorous analysis, Admati and Hellwig lay bare the ongoing misinformation about modern banks, and show what remains wrong with banking. This book is the voice shouting that the bankers are still not wearing any clothes. We should listen."—Frank Partnoy, author of Infectious Greed"Almost subversive in its clarity, The Bankers' New Clothes is the most important book about banking in a very long time. It argues that as long as implicit taxpayer guarantees incentivize banks to raise funds almost exclusively through issuing debt, the global financial system will be subject to periodic destructive crises. The most effective remedy is to force banks to strike a better balance between debt and equity, but there have been many obstacles to implementing this improvement. Future efforts to regulate the financial system should start here."—Kenneth S. Rogoff, coauthor of This Time Is Different: Eight Centuries of Financial Folly"With a knack for explaining complex concepts in a very straightforward fashion, Admati and Hellwig take readers on an immensely rewarding and often surprisingly amusing journey. Their brilliant book has much to offer everyone, from novices to experts."—Stephen Ross, Massachusetts Institute of Technology"Admati and Hellwig are on a mission to teach citizens, policymakers, and academic economists about the principles of sound banking practice and regulation, as well as the pitfalls and immense social costs of failing to abide by those principles. Much economic pain—such as the U.S. savings and loan crisis of the 1980s and the 2007-2009 financial crisis—could have been avoided had policymakers and the economists who advise them understood and implemented crucial fundamentals."—Thomas Sargent, Nobel Laureate in Economics"I like this book. The Bankers' New Clothes explains in plain language why banking reform is still incomplete, contrary to what lobbyists, politicians, and even some regulators tell us."—Paul Volcker, former chairman of the U.S. Federal Reserve and the U.S. Economic Recovery Advisory Board"I regard The Bankers' New Clothes as the most important contribution to the analysis of banking regulation in the past twenty five years. . . . This book should be required reading for bank regulators, bankers, and legislators; it should also do a lot to demystify banking for the concerned public. It is beautifully written and forcefully argued. . . . [T]his is a terrific book. It took courage, a deep understanding of banking and finance, and first-rate expository skills to write."—Morris Goldstein, Senior Fellow, Peterson Institute for International Economics, from event introduction speech on February 11, 2013