How Do We Create A Socially Useful Financial System?

This link is to a presentation by Dirk Bezemer who is a professor at the University of Groningen. It is one of the presentations at INET that I found most interesting. It was one of the presentations on building a socially useful financial system.

He defined a socially useful system as one which supports real economic growth. It could be growth in the green economy, or something else, but he decided to keep it simple. Credit can be used to grow the real economy of goods and services, and it can be used fund asset purchases. He argues that too much credit has been used to fund asset purchases. Ordinarily, one unit of credit debt is required for one unit of GDP growth. In the US 4 units of credit supported 1 unit of GDP growth. Most of the growth in credit was supporting asset growth. This leads to excessive leverage in the economy and other problems associated with the financialization of the economy.

The financialization of the economy leads to systemic problems which includes: instability, income inequality (money is sucked to the top of the income pyramid), less investment to the real economy, and higher levels of capital flows to international markets. Interest payments, or debt overhead, also increase. This slows growth in the rest of the economy.

He argues that instead of saving the financial sector we should be shrinking it. Austerity is not the solution because GDP falls faster than debt. This creates a vicious cycle in which the debt to GDP ratio increases, and more austerity is required. He supports this claim with data from IMF studies of countries that used fiscal austerity to reduce the debt ratio.

International capital flows, encouraged by liberalization, have flooded the asset markets and elevated the prices of commodities and other financial assets. Most of the problems in the eurozone are related to asset bubbles in the private sector.

He is also critical of the use of quantitative easing by central banks. The purchase of bank assets by central banks has increased bank reserves, which provide a cushion for the banks, but it has not increased credit to the to the real economy of goods and services.

He concluded by arguing that regulations, which discourage credit to the financial asset sector, would create a more socially useful financial system. This will be resisted by the banking sector because growth in debt is good for bankers. It will encourage growth in the real economy, however, and it will prevent some the problems of systemic risk in a financialized economy.