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The End of Alchemy: Money, Banking, and the Future of the Global Economy (4/5)
Mervyn A. King
Banking is a bit of a black hole. I find it’s quite tricky to gain a good grasp on it just from the outside. Reading this was an attempt to try and better understand the financial system of today. Mervyn King was Governor of the Bank of England from 2003-2013.
He goes through a brief history of money before explaining what he means by Alchemy:“the belief that money kept in banks can be taken out whenever depositors ask for it”.
His viewpoint focuses on the danger posed by bank runs (understandable considering his position required him to try and stabilise what happened in the last one). His problem is that: “The problem with private banks’ creation of money is obvious. Money in the form of private banknotes and deposits is a claim on illiquid assets with an uncertain value. So both its acceptability and stability can from time to time come under threat.”
The main suggestion I remember from this book to address this problem is to slightly adjust the concept of lender of last resort for central banks to that of a pawnbroker for all seasons (or PFAS). This article from the FT explains it quite well. In essence, the idea would be to try and remove the moral hazard risk posed by the fact that, in crises, central banks would be forced to lend against virtually any asset (as a lender of last resort). To address this problem he suggests that banks and central banks pre-agree in advance the terms on which they would lend against assets in a crisis. These terms could not be altered during a crisis. Hence the name: pawnbroker for all seasons. By defining the penalty on obtained liquidity, this should help reduce the problem of moral hazard.
I rated it a 4/5 on Goodreads. I read it as I’m trying to gain a better understanding of how the economy works. If that doesn’t float your boat, I wouldn’t recommend it. It feels quite accessible to the general public and he explains concepts in layman’s terms. If you have the time, why not. Definitely not the most fun book to read though.