The STUART Effect – The irrational effect on economic rationality

By Graham Andersen

Many things that occur in society defy rational or logical explanation. Society does not behave like the universe where science continues to unravel the workings through theory, experiment and testing. The universe is rationally predictable through the laws of science. Society or people are not. Collectives of humans influence their own outcome and that is the problem with economic rationality. Some things that occur in society seem irrational but are so STUpid, they are smART for a collective of humans for a time, and that is the STUART effect.

Unaffordable housing markets, overblown debt levels, loose lending criteria and negative interest rates are a few examples of current STUART Effects.

Australia’s housing market is seriously distorting economic activity. What some call strong I call stupid. Not only does housing costs inflate the cost of doing business and employing staff on an internationally competitive basis but the costs of capital projects like infrastructure are also greatly inflated. It may be cheap to borrow but it’s expensive to build.
You may feel smart if you’ve been in the housing market long enough but cashing out for retirement and investing at negative yields may not be the smart that was envisaged, even if STUART rules. The unearned income generated by cashing out of the housing market simply transfers debt to future generations of buyers who’ll need to be bailed out by future generations of taxpayers.

We’ll come back to STUART, but let’s review the signals and why Australia is heading for negative interest rates for a long time.
•    At over 125% of GDP, Australia’s household debt is the largest in the world.
•    Australia’s Public and Private foreign debt has reached astronomical height of 140% of GDP. This debt is growing and can only be repaid by selling the country
•    Debt creates money and if there’s too much debt, there is too much money
•    Australia’s economy is bar belled in that household debt is held by a group of borrowers and another group of depositors hold the money.
•    Australia’s private debt binge over the last 30 years has allowed house prices to rise to massive levels relative to median incomes all over the country.
•    Australia’s foreign debt binge over the last 30 years has allowed Australians to increase living standards and wealth in older generations whilst also ensuring that the current account deficit is paid for.
•    During the 30 year cycle Australia managed to transfer public debt to the private household sector but for the last 7 years has rebooted public debt in order to maintain growth in the economy whilst putting the AAA rating on the locked in path of downgrade.

Through the last 30 years did we have the policy debate that Australia was going to borrow itself to prosperity and eventually force interest rates to practically zero and beyond? Would we have thought that was a stupid or smart idea? Ask an individual and I’m sure most would call stupid. But let the humans act as a collective, then it’s very smart. I’m calling STUART on that. Enriching much of a generation or two with little effort and with the fall-out to be dealt with by future generations who’ve yet to wake up to their plight is not new, but it works, for a time.

Under current settings, a continuation of the debt to prosperity policies is all but impossible. So some things must give in order to reboot the economy to improve standards of living for existing and future generations. This cannot again be done by pushing up debt levels to create money rather we must increase productivity to generate wealth. Maintaining and increasing debt levels will only saddle future generations with lower living standards and reducing incomes plus the cost of bailing out the economy.

Simply put there is too much debt in the wrong hands and too much money in the opposite hands but this does not counter balance. In modern times, the rebalancing is usually done by having a financial crisis which results in loan losses, a destruction of money through equity and deposit losses and the resultant fall-out to employment. More recently, globalisation and the financialisation of almost everything, may mean that there is another yet stupid way of achieving the same thing.
Central banks around the world and our own RBA, have decreased interest rates to record lows on the basis of stimulating borrowing to keep our debt to prosperity model pumped. It has worked but not the way that was planned. Borrowing increased but mostly in non-productive assets like housing which had the effect of creating money and increasing asset prices but at the expense of productive investment. Not only that but the collective of humans worked on the basis that the RBA would keep decreasing  interest rates to avoid at all costs any rebalancing and a change to the debt to prosperity policy. To date that’s exactly what the RBA has done. So taking on massive debt amounts to buy overpriced assets, is not only low risk but is hugely profitable. I’m calling STUART.

As interest rates continue to decrease and move strongly into negative territory, asset prices and debt levels may still increase, but a funny thing happens, debt and money destruction starts to occur and the slow rebalancing of the economy commences without necessarily having a crisis. However, once the collective of humans is convinced that interest rates have hit bottom and the RBA cannot possibly lower further but must raise rates for fear of destroying too much money through negative rates, then the whole STUART process goes into REverse Gear (REG) and asset prices decrease in anticipation of higher rates and deleveraging. At this point the crisis hits with many losers through asset losses and income loss.
REG is not all bad however, the other thing that occurs at this point is that incentives now change considerably. The collective of humans, no longer wants assets decreasing in value but are incentivised, at the risk of losing a lot of capital, to invest in future productive cash flows. This may be hard for some to conceive but when the cycle turns, even when interest rates may be significantly negative, there will be little incentive to leverage assets because as asset values fall the cost of that debt rises to wipe out any notion of cheap debt. This is the point we must reach to reboot the economy, at the very least for the benefit of future generations. Whilst rebooting will create many relative losers, the balance is that the process creates even more future winners relative to the shocking effects of having to rescue an even bigger debt monster.
Perhaps there are numerous reasons why rates will not go heavily negative, the best of which is that it’s politically unacceptable to have depositors losing money on deposits. Nevertheless, the resulting outcome when STUART meets REG will still be the same regardless of where rates bottom. There is too much money and debt in the wrong hands for continued financial stability and as the list grows of those locked into massive mortgages and those locked out of the housing market, the political will starts to sway away from protecting those with unearned gains to those wanting opportunities of their own.
Although many events could happen internationally to bring on our rebooting crisis earlier, as we are very vulnerable, the collective of us humans that don’t want our children and grandchildren to pay for current excesses, want the economy rebooted. Those who want a more sustainable distribution of wealth across both society and generations should be creating their own STUART effect through a push for serious negative rates. Get on board and drive those rates down. Stupid hey, to believe that decreasing rates will cause the crisis? No, I call STUART. How low can they go before REG arrives and the reboot happens?

World debt hits $152tn record, says IMF

Printed in the FT on Oct 6 2016
by: Claire Jones in Washington
The world is $152tn in the red — a record-breaking level of debt, according to the International Monetary Fund.

The figure, more than two times the size of the global economy, comes from the fund’s latest Fiscal Monitor and is, officials claim, the most accurate measure of the world’s debt burden ever calculated.

“Global debt is at record highs and rising,” said Vitor Gaspar, director of fiscal affairs at the fund.

The figures highlight the apparent paradox between ultra-low interest rates imposed by many central banks in an attempt to encourage borrowing and boost sluggish economies, and the dangers that arise from excessive debt levels.

While the IMF did not call for rapid prepayment of debt, it warned that in some countries the unprecedented level of borrowing by companies was too high.

“Excessive private debt is a major headwind against the global recovery and a risk to financial stability,” said Mr Gaspar. “The Fiscal Monitor shows that rapid increases in private debt often end up in financial crises. Financial recessions are longer and deeper than normal recessions.”

Levels of borrowing have substantially outpaced global growth in recent years, rising from 200 per cent of gross domestic product in 2002 to 225 per cent last year.

While two-thirds of the debt is held by the private sector, governments’ borrowing requirements have also ballooned since the global financial crisis.

Nevertheless, officials at the fund — which is holding its annual meetings with the World Bank in Washington this week — want governments to act to boost growth.

Calls for what are often dubbed “growth-friendly fiscal policies” have grown from the IMF and other multilateral institutions as concern has mounted that the world’s central banks have been left with too much of the burden to lift the global economy.

Mr Gaspar emphasised that debt levels were not high everywhere. “The sharp diversity across countries is a reminder of the need to tailor policy diagnosis and prescription to the specific conditions prevailing in each country,” he said.

Most of the debt is concentrated in the world’s richest economies, although China has markedly increased borrowing in recent years. While low income countries have relatively low levels of debt, many have sharply increased borrowing in recent years.

The fund also said that companies would help raise growth if they shrank their balance sheets by reducing their size, although it acknowledged the process would take time.

He added that countries entering a financial recession with a weak fiscal position were likely to lose more growth than countries that manage to counter shocks by spending more.

Central banks have cut interest rates to all-time lows and engaged in mass bond buying in response to the global financial crisis. Although most economists think their actions have helped, there is also a broad consensus that the economy will remain below par unless governments do more.

The debt burden figure is based on data collected by the IMF and the Bank for International Settlements from 113 countries, which together make up more than 94 per cent of global GDP. Fund officials have worked on the project over the past year

The Private Debt Crisis

The Private Debt Crisis

China is drowning in it. The whole world has too much of it. History suggests: This won’t end well.
By Richard Vague from Fall 2016, No. 42 – 28 MIN READ
Tagged DebtGDPGreat RecessiongrowthIMF

Why does the IMF keep badly missing its global growth forecast? And what does that have to do with the 2016 presidential election?

In the years since the 2008 global crisis, when the world’s growth rates tumbled, the IMF has dutifully printed forecast after forecast predicting rebounding growth rates. But in reality, rates have fallen well short of these prediction……………..

The Private Debt Crisis

The Cloud, SaaS, Digital Payments and low interest rates will revolutionise banking

Whilst we are still at the very start, low cost technology, innovation and the ability to compete with the establishment will change the face of banking over the next 20 years. The great debt cycle that is nearing its end reshaped banking globally. Banks became the centre of western and eastern economies but now that dominance can be attacked and broken down into its components for a better deal for society. The following article is but one small example of what’s possible and coming.

by: Emma Dunkley for the FT

OakNorth, a UK challenger bank that focuses on lending to small businesses, has broken even in its first year in a sign of strength among the wave of recent digital-only entrants to the British banking market.

OakNorth, which appointed former regulator Lord Adair Turner to its board last year, is the first such digital lender to turn a profit within 12 months. The bank has not disclosed the financial details but confirmed to the FT that it had made its first pre-tax profit.

Doubt has been cast by some analysts about the ability of start-ups to attract customers from established banks, as well as increase lending amid uncertainty in the wake of the UK’s vote to leave the EU.

OakNorth said that it had nearly doubled lending in the two months following the Brexit vote, however, approving more than £100m of loans to small businesses.

A number of other digital-focused start-ups, such as Monzo, Starling and Tandem, have gained licences in the past few months. Atom, the UK’s first app-based lender that launched in April backed by Spanish bank BBVA, has said it expects to break even in two to three years.

OakNorth, which has lent £180m since launch last September, focuses on serving entrepreneurs within the smaller business sector. In the past few weeks, for example, it closed a £19m deal with the healthy fast-food chain Leon. Other specialist lenders focused on the small business sector have also become established in the past six years, such as Aldermore, Shawbrook and OneSavings, and again have posted strong recent results. Shawbrook reported a 14 per cent rise in pre-tax profits for the first half, while Aldermore posted a 50 per cent increase, and One Savings Bank 36 per cent.

Rishi Khosla, co-founder and chief executive of OakNorth, said: “We have a fundamentally different approach to the other challenger banks — we are a bank for entrepreneurs.

Atom Bank, the UK’s first app-based bank, has registered nearly 40,000 potential customers of which only 2,000 have opened accounts, in an early sign of the challenges start-ups face as they attempt to exploit the shift to mobile banking.

“We’ve taken a disciplined frugal approach to building the organisation while not compromising on technology, people, and processes. If you look at the technology we have built, it’s more flexible and scalable than other challengers who have used much older technology.”

Earlier in the year, OakNorth opted to use the cloud for its core systems by using Amazon web services. OakNorth said the move allows it to scale up more quickly with fewer resources, enabling it to launch new services and products more efficiently. The cloud is a virtual way of providing an outsourced range of IT services over the internet, rather than through a physical computer server.

An adviser to challenger banks told the FT that OakNorth has benefited from being able to keep costs low owing to its simple business model. Other new banks focused more on current accounts and transactions are required to build more complex and costly technology infrastructure.

He said: “There’s an achievement in building a loan book of sufficient size to cover costs, and it shows you can build a profitable bank in a year.”
Copyright The Financial Times Limited 2016. All rights reserved.

Australia’s future; negative rates and quantitative easing, what are they good for? Part 2

by: Graham Andersen
Founder and Executive Director
Morgij Analytics
Let’s say, just as an example, that short term interest rates undoubtedly bottomed on -5%pa for government bonds and -3.5% for bank funding costs or deposit rates as the bottom of the cycle. Over a 5 year period there would be significant decreases in debt and money supply whilst simultaneously reducing asset values. A forecast which is totally against traditional thinking because wouldn’t both private and public sectors borrow like there was no tomorrow with the cheapest cost of borrowing in the known universe?
Cheap is a relative term. Maybe it’s cheap for borrowing for productive purposes but at the bottom of the interest rate cycle and well into negative territory, inflation of asset prices ceases with deflation the norm. So if you add the loss on the asset or risk capital discount to the negative interest perhaps the net cost is a disincentive to invest in non-productive assets as opposed to future business cash flows.
Governments would face the same incentives, borrowing to cover expense shortfalls is just a spiral down in credit ratings which will increase the risk premium and deter investors from lending. Productive infrastructure makes sense but there’s a limit to that and a similar analysis to the private sector would say that, even in negative territory the total cost of borrowing is not necessarily low. Borrowing today to accelerate the building of large infrastructure in a deflationary environment, simply means that the cost of building that infrastructure is higher today than in the future, that’s the cost of risk capital in a deflationary environment.
So in a significant negative interest rate environment when the bottom is in, the deduction is that actual total borrowing costs are not that cheap but incentives have finally been achieved to deter asset investing in favour of productive business endeavours. Great, but why would anyone at that point put money in a bank? Wouldn’t we all hoard cash?
We wouldn’t be able to hoard much cash because the amount of physical cash relative to digital cash in our banks is very small and it’s not hard to put a limit on the amount of cash anyone can hold and is printed. Sure people will take advantage of the situation but it’s manageable and who cares?
The issue though is whether the government and CB can control digital currency? By that I don’t mean crypto currencies, rather fiat currencies held in digital form outside the banking system. Again perhaps manageable by regulation but perhaps also an opportunity for an aspiring fintech.
It is hard to imagine however, the populace not being outraged by negative rates on deposits in banks. This where CB collective behaviour again helps the politics because if it’s the same around the world then we can all point the finger at it being some foreigners fault. Aussies are masters at that one.
Let’s now examine quantitative easing or QE, that mysterious thing invented by CBs since the last financial crisis. QE is when CBs buy government and other bonds from banks, on the pretence that banks will then have more money to lend out, and, just like negative rates will increase lending particularly to the business sector. As Steve Keen has shown QE does nothing more turn a bank asset into another form of bank asset and that’s about it.
Well perhaps not quite, QE changes the nature of the bank assets from bond to digital cash which can then be changed into a loan. The loan could be for productive or non-productive purposes. Of course whilst interest rates are decreasing banks will be incentivised to loan against or into rising asset prices. The complete opposite of what the CB is saying that QE is for.
However, CBs and politicians continue to sprout the magic of QE, even Obama seemed to think QE provided some form of multiplier to lending as if it was core capital, astounding. The act of lending itself creates money in the system and as such any individual bank has many avenues to fund its lending book. QE does not help the banking system increase productive lending as this is quite evident with the results of QE in the US and Europe since 2010. So what use does QE have?
Perhaps QE is more about CBs saying they’ll stand behind any liquidity issues that any bank may have. Liquidity problems occur in banks before any credit crisis perceived or otherwise. So if lenders and depositors to banks are confident that any bank run is covered by CBs through QE or otherwise then any liquidity crisis is a much lower risk. The lowering of liquidity risk through QE perhaps lowers the risk of a financial crisis before interest rates are lowered into sufficient negative territory for a sufficient period of time. Again avoiding the CBs and politicians fears of no crisis on my watch.
It’ll be interesting how QE is used as interest rates fall further. Will CBs be buying bonds at market value, ie at large premiums top face value? A means to provide the market with locked in capital gains not possible in the open market and further strengthening market liquidity.
Australia has its own unique structure of QE with the committed liquidity facility which is actually a long term borrowing facility with the RBA supported mostly with securities backed by mortgages. All set-up any ready to roll when needed to support the liquidity of Aussie banks or fill any whole caused by offshore capital flight.
So negative rates and quantitive easing fit nicely as a package to manage the system so that the amount of excess money created is eliminated and thereafter new money creation is distributed into the productive hands that need it. It just takes many years to play out. I may be somewhat delusional in my assessment of the future but in the absence of a hard crash or war that disproportionally effects the privileged, I cannot see any other scenario playing out. Can you?
Not everyone will agree with me, probably, the majority won’t. The well-respected Bill Gross certainly doesn’t,…………………… or does he?
There are other obvious drawbacks to near-zero yields and interest rates. Historic business models with long-term liabilities — such as insurance companies and pension funds — are increasingly at risk because they have assumed higher future returns and will be left holding the short straw if yields and rates fail to return to more normal levels.
The profits of these businesses will be affected as will the real economy. Job cuts, higher insurance premiums, reduced pension benefits and increasing defaults: all have the potential to turn a once virtuous circle into a cycle of stagnation and decay.
Central bankers are late to this logical conclusion. They, like most individuals, would prefer to pay later than now. But, by pursuing a policy of more QE and lower and lower yields, they may find that the global economic engine will sputter instead of speed up. A change of filters and monetary policy logic is urgently required.”
FT 18 Aug 2016

Australia’s future; negative rates and quantitative easing, what are they good for? Part 1

by: Graham Andersen
Founder and Executive Director
Morgij Analytics

Official interest rates are heading negative everywhere that public and private debt levels are at record highs on every measure. Australia fits squarely at the top of the pile. No doubt influencing Australia’s central bank, the RBA, to reduce the official cash rate a further 25bps in August. Whilst lowering official rates to 1.5% was predictable, the explanation in the RBA minutes seems more confused than informed, more noise than signal.
Whilst the RBA seems to sweat on inflation, unemployment, income and growth numbers throwing in house prices, debt levels and what’s happening with the $A and in the rest of the world, so does every other central bank. Its central bank think. Figures like GDP, unemployment and inflation are constructed measures whose meaning is determined by the input, the algorithm and the interpretation. Things of beauty to any central bank bureaucrat and mostly weapons of obfuscation and deception.

This collective yet disciplined behaviour means that all central banks, no matter what narrative is portrayed ultimately do the same or similar things. It’s not a conspiracy but collective behaviour triggered by the same noise and motivations. But, behaviour is predictable if you look for the signals and remove the noise.

Forget central bank noise of manipulated statistical constructs, the signals for future interest rates are as follows:
• Global GDP growth for a very long time has been driven by credit growth which under current settings is maxing for governments and households.
• Much of the credit growth has been collateralised by non-productive assets which in turn have grown spectacularly in value with the risk concentrated into 4 very similar banks in Australia
• Australia’s 4 major banks are undercapitalised. They are not in the top quartile internationally. They are at best average and therefore vulnerable to capital flight and credit downturns
• Credit growth in both productive and non-productive assets creates new money and bank deposits, reduction in debt does the opposite
• If there’s too much debt there’s too much money but almost by definition the debt and the deposits are held in different and mostly generational hands, so the net of zero is irrelevant in assessing risk
• Australia is locked into the trifecta of budgetary, trade and current account deficits, ensuring that the AAA credit rating will be lost and downgrades continue. The caveat here is that rating agencies are not consistent and act in self-interest. But more importantly, offshore borrowing needs to continue to grow to fund the deficits, so at least in the short term the rating agencies may be kind.
• No central banker is going to deliberately crash asset prices to reset debt levels by causing losses on loans and a reduction of money in the system
• Currency wars prevail around the globe with exchange rates set just as much on capital account as on the trading account.
• Not to undermine the importance of the other signals but how about the fact that Australia has no means to pay back what it owes to the rest of the world ever, other than to sell the country, is some signal to be taken notice of and take action on.

Using that piece of wisdom that the herd will always act in immediate self-interest, the signals tell me that the politicians are not going to change deficit settings in any meaningful way so debt levels will not be reduced significantly, deliberately. Concentration of risk and liabilities means the markets overall do not want a crash and will avoid that by any means. Central bankers will take notice of the signals whilst generally denying them and do the only thing they can, keep cutting interest rates into negative territory.

Whilst the CB meme will be that rate cuts are for stimulatory purposes in encouraging businesses to borrow to invest, this is noise and false. In an environment where the signals say structural risk and debt cycles are maximising but lowering interest rates increases asset prices, why is any business incentivised to take the risk to invest in productivity rather than assets?

To understand what will happen as risks in the system are cranked to breaking point we need to come at things from a different angle. Throw out traditional thinking. Perhaps the whole notion of principal and interest needs a bit of a rethink. Maybe a concept of risk capital should be built into the balance of each loan and deposit and repaid or not based on macro criteria would make system management easier.

Negative interest rates are simply losses on capital over time whilst simultaneously increasing the real value or purchasing power of the currency unit. To put it another way, negative interest rates destroys the money that was over created by excess debt leaving the money remaining having a greater value per unit. So rather than CBs lowering rates into negative territory to be stimulative, they’re destructive of volume yet value creative of the unit.

By lowering rates, driving credit growth and inflating asset prices, CBs have created an allusion of sovereign wealth creation when all they’ve done is rearrange the deck chairs on the Titanic. Creating excess money from unrepayable debt is a can kicking exercise of mammoth proportions but to the man in the street I suppose it seems like CB magic and for a time it feels great. Its only as time marches does the realisation hit that its nothing more than screwing those left holding massive debts for the benefit of the privileged. All orchestrated by CBs and their political masters in order to look good.

That’s because the holders of excess debt (the victims) and excess deposits (the privileged) are in different hands and reducing both debt and deposits together is a political land mine. Whilst there’s a real sting in the tail most mortgage holders would be happy about repaying less than they borrow. Personal entitlement by the privileged screams that their deposits are untouchable. Negative rates are a way of making the pain more acceptable or more to the point, realigning investment in unproductive assets into a position where it’s more attractive to invest in productive assets.

Sounds like a pretty neat solution, but is it? Certainly explaining how we’ll be better off by making losses on capital is something of a challenge.
The questions that come to mind are; what level of negative rate will do the trick? How do you get there and what damage will the movement down do before things start to reset to the positive?

The movement of interest rates down into negative territory is necessary in the absence of a short term bust. However, it will drive asset prices up and this movement distorts investment decisions and incentives, but, it is likely to drive credit growth and therefore support CB statistical constructs that make them look good whilst actually making the problem worse. Its only when the interest rates have unequivocally hit bottom that the rebalancing will take hold and reality bites. That bottom must be significantly negative. Zero or close just won’t cut it…….

To be continued in PART 2

Strong industrial strategy has many benefits

The argument should be about the best way the state can help drive growth, writes Mariana Mazzucato

Almost every technology behind the iPhone was government-funded.

In a brief moment after the financial crisis, policymakers set their sights on something higher than mere growth: not a return to the consumption and (private) debt-driven growth that had created the trouble, but investment-led growth. Time passed, however. The obsession with austerity set in and that interesting debate dwindled away.

Now, British prime minister Theresa May’s revival of industrial strategy is an opportunity to engage in the conversation again. Certainly, the concept of having such a strategy has not lost its power to shock. Commentators have been swift to denounce its revival as misguided and protectionist, a 1970s’ tribute to failed attempts to revive zombie companies. But the idea that the choice is one between protectionist policies and the elimination of any strategic role for the state is false.

In South Korea, China, Finland, Israel and the US, for example, the state has played an active role in increasing innovation and the productive capacity of the economy. Almost every technology that makes the iPhone smart was funded by government. This was not just about basic research but rather engagement across the whole innovation chain, including demand-side procurement policies.

Today the argument ought not be about whether the state should or should not be involved in driving growth but how it can do this in the best way. There are, for example, legitimate concerns that certain approaches to industrial strategy can lead to incumbent companies and sectors winning unwarranted favours from governments through persistent lobbying. Sectoral approaches sometimes increase these risks.

Much better to look to the lessons of innovation policies that have focused on getting companies to find ways around social and technological problems by working together across sectors and with public agencies. The Apollo mission to put a man of the moon, for example, required collaboration between sectors from textiles and aerospace.

Such an approach demands new types of public-private partnerships, targeting real co-investments rather than concessions and subsidies . In the past, this led in the US to the likes of Bell Labs and Xerox Parc, engines of future innovation, and in the UK to chip designer Arm, through spillovers from BBC investments.

By increasing business expectations about growth areas, mission-oriented investments encourage private sector investment. Unlike indirect measures such as tax credits, these policies create animal spirits rather than assume them. They also allow greater synergy between macroeconomic stimulus, financial market reform and innovation. This can lead to bigger multipliers than “infrastructure spending,” the policymaker’s default panacea.

On the finance side, the problem is not quantity but quality: industrial and innovation policies require long-term, strategic finance, while the UK continues to reward short-term finance. The few attempts at building sources of patient public finance have been neglected, with the successful Green Investment Bank , for instance, in the process of being privatised.

Indeed, just as the debate should not be industrial strategy versus free market, at the organisational level it should also not be about public versus private. There is no reason for the government to sell its entire stake in the GIB. It could retain a significant share, ensuring that it is neither fully public nor wholly private, and use the public share to direct green innovation in the long term.

Similarly, there is no compelling reason for Channel 4, the British public service broadcaster, to be privatised. It can continue to offer opportunities for private sector broadcasting activity, through procurement; so far it has done this successfully with a good return for the taxpayer.

Why should the public sector not get some return on successful investments, sharing the risks and rewards, precisely so that it can cover the failures that inevitably come with innovation? This also entails seeing intellectual property (patents) not as “rights” but as contracts to be negotiated between government and business so that innovation is nurtured rather than stifled. We need the interesting conversation about investment-led growth but the last time it began it was cut short before it really started. This time, we must do better.

We do not need false or ideological choices between market and state. This time we need a real debate about the social missions that can drive public and private investment to claim the opportunities of the future.
The writer is a professor at the University of Sussex, author of ‘The Entrepreneurial State’ and co-author of ‘Rethinking Capitalism’

Half of big banks unprepared for accounting shake-up

Published by the Financial Times 14 Aug 2016
Caroline Binham and Emma Dunkley in London

Nearly half of big banks around the world are unprepared for an international accounting standard due to take force in less than two years, even as they expect provisions for bad loans to soar as a result of the new rules.

A poll of 91 banks across the globe — excluding US banks that are governed by their own rules — has found that 46 per cent of those surveyed do not believe they have enough resources to deliver changes by the 2018 implementation date, with a significant minority going on to say there were not enough skilled candidates in the market to hire.

With less than 18 months to go before the change, nearly two-thirds of banks are unsure how the rules might impact their balance sheets, according to Deloitte, which undertook the global survey.

The rules force banks to have a provision on their balance sheets for expected losses in the future rather than actual losses already suffered.

Those banks that have made the calculations reckon the rules will result in a surge of at least 25 per cent in total impairment provisions across all asset classes.

Banks are also forecasting that the rules, dubbed IFRS 9, will cause their capital ratios to deteriorate: they are expecting core tier one capital — one of the most keenly watched metrics of the health of a bank’s balance sheet — to decrease on average by half a per cent as a result of moving to the new standard, according to Deloitte.

Uncertainty is not limited to the banking industry: 99 per cent of respondents said their local financial regulator had yet to say how they might incorporate IFRS 9 numbers into regulatory capital requirements.

IFRS 9 is part of a suite of measures by the International Accounting Standards Board to overhaul accounting since the financial crisis. The reform package is an attempt to increase regulatory co-operation between the US and international standard setters. Converging the different corporate reporting frameworks has been fraught.

By moving from an “incurred loss” to an “expected loss” model in 2018, under IFRS 9 the regulators hope to avoid the problems that occurred during the crisis, when banks could not book accounting losses until they happened, even though they could see them coming. This should help to keep banks properly capitalised for the loans they have made.
UK banks have experienced historically low impairments recently because of the record low interest rate.
However, there are some concerns that if economic growth were to stall following the Brexit vote, impairments could go up even without the new rules.
Steven Hall at KPMG said the estimated increase in provisions as a result of IFRS 9 was actually “cautious”.
“IFRS 9 will be almost as difficult to implement as it is to say,” he said. “Firms need to consider a range of future scenarios, and in today’s uncertain economic environment assessing the impact of that is not an easy task.”
Mr Hall has called for a grace period during which the new systems might be tested and embedded.

The Founder’s Mentality: How to Overcome the Predictable Crises of Growth

Extract from an interview with the author:….

Knowledge@Wharton: This founder’s mentality is more toward the thoughts of the company than the actual bottom line. Does the bottom line come as a by product of it?

Zook: Yes, it’s really about the inner health of companies. I remember reading that the best-selling sports book of all time was The Inner Game of Tennis. This is a little bit the inner game of business. We found three elements that we referred to as the elements of the founder’s mentality, which we felt were the best measures of health inside of a company. Boards of directors don’t typically ask as many questions or track these, although we found they are 85% to 94% of the reasons companies break down on the outside.

Number one is what we called an insurgent mission. Every founder is either at war against their industry standards because they are frustrated with it or trying to create something new, like Elon Musk is doing with SpaceX — creating a vehicle potentially to put people on Mars or Google is doing to organize information. Yet over time, companies can become just another company. We found that only 13% of people in the world now say they have any emotional commitment to the company that they spend probably half of their waking lives with.
The second element of the founder’s mentality is what we called frontline obsession. A great image for me was a description from Vikram Oberoi, the CEO of Oberoi Hotels, which were voted for a number of years as the best luxury hotels in the world. He would describe how on Sunday mornings he would visit his father, who was a poor villager who began this story in this incredible, humble beginning. Even at the age of 94, he would be holding customer comment cards in front of his eyes when he could barely see, scratching notes about the temperature of the tea for customer complaints. To me, that gets lost often in big companies.

The third is what we called the owner’s mindset, which is an aversion to bureaucracy and a desire to jump on problems, take responsibility right away, which often gets lost in big companies. It’s the essence of private equity’s success, in a way.

Chris Zook is a partner at Bain & Co., a management consultant firm, and served as co-head of its Global Strategy Practice for 20 years. In his new book with James Allen, The Founder’s Mentality: How to Overcome the Predictable Crises of Growth, he draws on his decades of experience to demystify the secrets of companies that push themselves past a slump.