Studying The Pollution In The Banking System Finance Essay - Free Essay Example

Sample details Pages: 11 Words: 3178 Downloads: 8 Date added: 2017/06/26 Category Finance Essay Type Analytical essay Did you like this example? The $100 billion question shows that a several big issues, which are being debate all over the time after a great depression. The pollution in the banking system resulted a lot of serious social cost and the governments are trying to tackling them by different ways. In fact, there is too hard to find perfect solution for this issue. The cost of the banking pollution is the systemic risk, which is often ignoring by the banks and financial institutions. The systemic risk is being ignored because of the natural humanity of the people. People always more concern about the private benefit and the private cost of themselves. The bankers are not the exception. They only see the benefit and the risk inside their banks, and never concern about the systemic risk because if they do so, they will think about what is the benefit for them. Therefore, the governments have to act as the role to sort it out. The banking crisis is the retribution to the banks for generated the bank ing pollution through those products and financial services. But unfortunately, problem had become the social cost and encumbered the innocent public. Nowadays, there are still have some of the people believe that market is always get it right because people usually rely on price and market sort everything out most of the time. They believe that the market is self-correcting, self-policing, and self-regulating. The invisible hand, is means by the self-regulating nature of the marketplace and it is the metaphor coined by the economist, Adam Smith. But, in fact, according to several of the real life market crisis, it seems like it doesnt always get it right. The market is not self-correcting, and we can see this point through the events of banks are not lending money to other banks the other consumers because they scare to take risk after the subprime crisis. The market doesnt get it right when there are externalities, which create the social cost that generated by the impact of an individuals action to the innocent public. Sometimes, in the normal market system, something is affected but is not accounted on and consequently generated the social cost. Therefore, market cannot predict explicitly when disaster will happen in the market. By the reason of the market didnt realise the systemic risk, so they were keep doing that in a wrong way because they dont know it will going to harm the whole system. Therefore, the collective of the systemic risk create the banking bubble and the creator of the precedent might be the mortgage backed securities and the over lending bank. It was a triple A rating security and people feel safe to hold it and enjoyed the return that its paid whereas, the bankers over lending the loan in order to get more profit as they could, but they neglected to set aside of sufficient capital to reserve for the risk management. Hence, people got shock when subprime crisis exploded and most of them unable to survive in the climate change. The go vernment regulatory should be balanced with the free market. The regulator should increase the capital requirement in the bank to overcome the lack of trust existing between the banks in order to achieve a greater balance government regulatory actions and the free market. Furthermore, the government should let the market sort it out by itself. Normally, people prefer the market sort it out by organizing the price system, but if we dont know what the price should be. If there is a small amount of extra pollution, then just dont produce any more than that. The social cost that generated by the banking by the banking pollutant should be mitigated. The government is the one, who responsible to consider the public benefit. Moreover, it plays a vital role in the regulation of banking system and securities that ensure the markets keep moving on. Therefore, government should step in to mitigate the problems that created by the banking system because it is the critical factor that to over come the crisis with the market. There is too much pollution in the market and those pollution is immeasurable. Nowadays, the demand of the people is too much, so the bank took more risk to create more products to fulfil the customer demands and consequently make the banking system become more complicated. So, the intervention of government can stop them to avoid the increase in the systemic risk. But the Basel II, seem to be unuseful, because it set the level for the capital requirement is too low. Due to the lesser capital that set aside in the banks, the bank unable to cover the loss during crisis, because they are totally run out of fund. So, the government bailed out the bank to avoid the whole system break down, because if one of the banks is fail, the others will fail too. There is an interdependent relationship between the banks. If the bank fails, it will cumbrance the other bank too. Now, the Basel III has just came out, it is improved the regulations with the higher capit al requirement, stronger risk management strategic, and so on. The risk in the market is measurable whereas the uncertainty is cannot be measured. The example of the risk in the market is credit risk, liquidity risk, operational risk, and so on. Instead, the uncertainty is bigger, it may be has more serious effect to the market than the risk. For instance, the climate change for the market is uncertainty, because nobody knows when it going to happen and it always result in an enormous cost to the public. The systemic risk is the highly complexity and uncertainty, and it drove most of the crisis. Therefore, governments are struggling to depress the systemic risk in order to reduce the likelihood of the crisis by stopping the banks from taking the risky investment. One important dimension of the debate concerns the social costs of systemic risk. Determining the scale of these social costs provides a measure of the task ahead. It helps calibrate the intervention necessary to tack le systemic risk, whether through regulation or restrictions. (Haldane, 2010:2) Thats means the social cost of systemic risk is very important and the scale of it needs to be measured out because it can helps in the intervention process as a criterion to tackle systemic risk, whether through regulation or restrictions. Normally, it is evaluating by either the fiscal or the foregone output costs of crisis and the past crisis cost is usually larger and permanent. Research by Haldane (2010) concluded that, the losses of the US is less than 1%of the US GDP and for UK, the direct cost may be less than  £20 billion, or a bit more than 1% of GDP. The 1% of GDP is seem to be a tiny part of the GDP, but for the taxpayers, who are paying tax to bail out the banking system, is seem to be an astronomical number because 1% of the UK GDP is almost  £20 billion. They may never get this amount in their life. For US, the losses are currently estimated to be around $100 billion, and that means th e taxpayers had to pay for $100 billion out. The US population is about 300 million, and then each of them has to pay about 333 US Dollar. Actually, the losses of GDP could be lost it forever because of the time value of money. After a few years, the losses of UK GDP divide by discount rate, it might be few hundred billion pound losses. For example, assumes that the GDP after 10 years can be 120% of the current GDP, if the GDP didnt loss, the actual GDP after 10 years will be 130%. So, they are actually lost 10% of GDP. The collapsed of bank led to the collapsed of the GDP because the banks role is to lend money to keep all the things moving on, if the bank collapse, means the lending resources collapse too and consequently the GDP collapse. Subsidy that government paid to banks is the financial assistance to the banks and that is the way how government to secure the banking system stability. How the losses of the banks could reach the amount of $100 billion? That is because the implied government subsidy to the banks didnt counted into the cost of the bail out. For instance, if the government guarantee or protect everybody that lending money to the banks, then the investors will feel safe and that is not risky than they thought. Therefore, they think maybe they shouldnt charge 5% interest to the bank, and go to 4.5% because if the banks fail, the government will pay to them. The indirect subsidy import by government has reduced the cost of borrowing and consequently the banks make more profit because they are borrowing at a lower rate and lending at a higher rate and those profit actually is based on the subsidies. Hence, the actual subsidy should including the indirect subsiding in the evaluation of the fiscal cost. In essence, subsidies have many unintended consequences which can be damaging to the markets environment and social equality. Sometimes, too much of the subsidies are paid, they might create the imbalance in the free market and lead to the mar ket unable to correct by itself. Consequently, the banks are being too relied on the subsidies from government and they are taking more risk for the higher return, because they know that government will cope with the problem when they are trapping in the hot water. Banks shouldnt be over winked and shielded, and the government should set a limit to the subsidies according to the banks size. The credit rating agencies are the proxies to evaluate the rating of the banks that use to refer by the government to decide the amount of subsidies need to inject. In additions, they also provide the support and independent of credit rating to the bank. Nonetheless, the public had doubt about the ability of credit rating agencies after the subprime crisis in US. Investors trusted credit rating agencies to issue accurate and impartial credit ratings, but that trust was broken in the recent financial crisis, according to Levin (2007 cited in Dayen, 2010:online) That is because the mortgage back ed loan that the credit rating agencies rated it as a triple A security was default. The credit rating agencies rated the mortgage backed loan based on the past data and neglected the higher underlying risk of it. The government should intervene in the credit rating to ensure the independent, accuracy of the rating and no frauds exist in the rating process. Research by Haldane (2010) concluded that, the bigger size of bank, the more subsidies are needed and over the past century, the subsidies that supported to bank just like an up-only escalator. The bigger banks have to dealing with the more complicated market that related to the moral hazard, economic specialization, and monetary theory. The complicated banking system consist a lot of underlying risk that the banks cant cope with and they dont even know those existing risk. Hence, the bigger bank, the bigger risks they take. The UK government choose to tax them in order to repair the damage that the banks created during crisis . I dont think merely raising the fees or capital on large institutions or taxing them is enough theyll absorb that, theyll work with that, and its totally inefficient and theyll still be using the savings., according to Greenspan(2009 cited in Wikipedia, 2010:online) Thats mean, levy tax on the banks is not an effective way to the problem because even though their profit is lesser, but they still can taking a higher risk to earn it back by investing more, or they can still using the savings from depositor. It is seems to be insensible, because the banks allowed to invest in the risky investment and if any failure appear, the government will support them through subsidies. In essence, government should cut down the size of the bank, which is considered too big to fail. The issue of Should government tax or prohibit the banks? is being debate hotly in the world. Taxation solution is to ensure the banks making a fair contribution for social cost that they made, which pose the pote ntial risks to the financial system and the economy. Moreover, it can create higher buffer of capital and the liquid asset to ensure the banks able to recover the losses by themselves. If government tax at the price to the bank, then they wont make risky decisions. Nonetheless, as a tradeoff for the holding higher capital and liquidity asset, the banks will reduce their profit and maybe put up the cost of the people, who is trying to borrow money from banks. Whereas, the prohibit solution is the restriction on the banks activities as well as the size of them and the structural reform of banking may take place. Furthermore, the activities of the banks will be separated in order to stop them from doing the activities that may cause the systemic risk. The complex system consist a lot of error and underlying risk. The system is interconnected, it is not about the individual unit, because the individuals mistake wont affect the bank much, but if one of the systems failed, it will affect the overall banking system. The separation of activities is to prevent all the things ruin once. Assumes that the banking system is a forest and the tree in the forest was plant separately, if the fire burn up the forest, it will not burn off the whole forest because of the fire breaks. The fail of the system can be affect by the outside attack or inside attack. For example of the inside attack is the remuneration system in the bank that create a lot of the individual errors. The prohibition can aid the system resilience because the separation of department can simplify the system, and they can fit together, the most important thing is, if one of them destroy, it cant affect the others. Maybe the government can separate all the section in a bank and eat section is manage by different company. Some of them can manage securities transaction, some of them of them can receive the deposits and lend it out and simplify some of the activities to create a robustness financial system. One of the prohibitions benefits is diversify the risks and having diversity. The bank always does diversification and all of the banks diversify the risk exactly the same way because everything in the financial system actually is same. Hence, they do a lot of diversification but they are not diversity. Glass-Steagall Act is a restriction approach that established in year 1933 after the US stock market crisis and repealed in year 1999 because it created the barriers between the commercial bank and the investment bank, and the banks had a lower competitive situation than the foreign banks. The Glass-Steagall Act was over setting the restriction, and caused many people complaint about it. According to the Weitzmans theory, the economy just like environment and he described that the climate change as a disaster of the economy. The climate change in the economy is unpredictable. The factors that create the climate change are also indiscernible. The impact of it would be enormous and wider, the public usually get shocked from it. The pollution that created by the banking system generated the systemic risk and consequently formed the bubble, and the bubble is uncertain because people dont know when it going to explode. Social cost will be increase aftermath of the climate change. Some of the people dont even care about the social cost, they just concern about their benefit, and that is one of the reasons created climate change. Bankers only see the risk in their bank, whereas the government see the whole banking system risk systemic risk, which is the main factor that led to the great depression. The government should check the level of the pollution and the possibility of the climate change in order to lower down the pollution before it is too late. If we dont know how serious of the pollution and unsure about that, then a small change may make the economy flip over. The banking developments are being grown faster in order to fulfil the demands of the people. One of the developments should be the more capital and liquidity asset are required to hold than they otherwise would to reduce the leverage ratio of banks and avoid them to over taking the risk. The lesser fund that the bank can be used, the lesser ability that they can invest, and consequently lower the risks. Even though the banks profit will reduce the profit of the bank, but the government not only see the banks benefit, in fact, government see the bigger risk, which is system risk. Besides that, the banks have got bigger and many activities are combined and hence, the economies of scale can be achieved. The investment banks combined most of the activities and make a profit from it. That is because the investment bank dealing with the pension fund and the insurance companies even though they do not receive deposits but they still can get a lot of large amount of fund from those institutions. They are the part of shadow banking system and they are not regulated. The investment banks use those funds selling and buying the securities to make profit and create a market to selling or buying the securities too. So, they have to borrow some money too to organize the market place and they do act like a bank because they are borrow in short-term and lend out in long-term. Hence, they are also created the systemic risk and since they are not regulated and did not have capital requirements, therefore, they are under increasing scrutiny and regulations after the subprime meltdown in 2008. Securitization is one of the banking developments. It is process of an issuer use a financial instrument to repackage the financial asset and sell it to the investors. Banks lend out a loan, might sell as a bond to an investment bank get the cash back and lend the money to other different type company to diversify the risks. In addition, the bond is rated before it issue out. Nowadays, the financial system is complex and difficult to regulate it and a lot of the events show that it i s still fragile. Everyone has been learned from the past crisis, and they are still struggling to reduce the likelihood of the crisis. Moreover, most of them havent recovered back from the crisis impact. The revolution should be taken and tried to jump out from the hot water because remain unchanged is just like it block the escape way by yourself. The reformation can help the banks able to survive when the climate change or to prevent the climate change. Nevertheless, the perfect way to sort it out is still need a longer time to figure it out. Furthermore, the $100billion question is still puzzled us. Don’t waste time! Our writers will create an original "Studying The Pollution In The Banking System Finance Essay" essay for you Create order