You probably still have a few questions for Mervyn King, the former Bank of England governor, who has been mostly invisible since his retirement three years ago. What really went on in those terrifying hours when Northern Rock went bust? Why was he so nasty to the banks even as they imploded? How did it feel to cut interest rates lower than ever before? Did he dislike Alistair Darling as much as the former Chancellor patently disliked him?
For those hoping for answers from this book, allow me to put you out of your misery: “This is not a memoir of the crisis with revelations about private conversations and behind-the-scenes clashes,” King writes on page 6. It is, he adds, a book “about economic ideas”.
This is, in one sense, disappointing. Few had a better view of the financial crisis than Lord King, who steered Britain’s economy through the whole blasted thing. He served three chancellors from two different governments and, somehow, despite enraging most of the Square Mile, managed to outlast almost every other policy-maker of his era.
Then again, most memoirs from the crisis, especially on this side of the pond, have been pompous, self-serving and, worst of all, boring. Given King is hardly the first person to own up to his mistakes, perhaps this is for the best. Indeed, as he admits: “I see little purpose in trying to set the record straight when any account that I gave would naturally also seem self-serving.”
Fair enough, but at this stage, eight years and countless tomes on from the start of the crisis, is there really anything more one man can add to the sum of economic knowledge?The short answer is — yes. This book is by turns invigorating, terrifying and occasionally even inspiring. Its analysis is stark, its conclusions bold.
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Consider just a few of them: the euro is almost certainly doomed, and the best thing Germany could do is to leave the single currency. A mass debt write-off may be necessary before the world fully recovers. The very foundations of the banking system need to be uprooted. King even wonders aloud whether we might abolish money entirely.
Far from retiring, King has clearly spent the past three years fizzing away behind closed doors, trying to comprehend what went wrong and whether enough has been done to remedy it. For a central banker who spent most of his career avoiding hyperbole, his conclusion is shocking.
“Another crisis is certain,” he writes, “sooner rather than later”. We are already in a lost decade, he declares; having cut interest rates lower and lower in the face of every slowdown, central banks have now reached the end of the line. This from the man who once said that once you retire “you just cannot appear to do anything which makes life potentially difficult for your successor”. But what’s a man to do if you believe the system they preside over is rotten: and that is the overarching conclusion of this book.
The bulk of The End of Alchemy is descriptive — an attempt to explain how we have ended up at this pretty pass and the clue is in the title. Finance and economics have for centuries been run on the basis of alchemy, the quack notion that one can convert something worthless into gold. “Governments pretended that paper money could be turned into gold even when there was more of the former than the latter. Banks pretended that short-term riskless deposits could be used to finance long-term risky investments. In both cases, the alchemy is the apparent transformation of risk into safety.” And financial and economic crises happen when our faith in the alchemists evaporates.
A large part of why we allowed such alchemy to propagate, argues King, was that it was an unwritten contract between policy-makers and the people, who struggle with “radical uncertainty” — the fact that the future is inherently unknowable. Rather than confronting this head-on, we prefer to construct coping mechanisms and wish away the vagaries of fortune. That meant putting our faith in fractional reserve banks, despite the fact that they would collapse if we all tried to withdraw our savings. It meant believing that paper money had as much value as precious metals.
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But this alchemy has left the world imbalanced and prone to crises, with 2008’s collapse only the latest in a series. The solution, King argues, is to eliminate alchemy altogether.
“The euro is almost certainly doomed; the best thing Germany could do is leave
That brings us to the prescriptions, which are about as radical as anything we have heard from a member of the economic establishment. The present system of banking, under which banks can create credit and expand their balance sheets far beyond the deposit base, should be abolished and replaced with a system where the equivalent of high street banks (he calls them “narrow” banks) would have to hold enough reserves to back 100 per cent of their deposits. The riskier investment banks, “wide” banks, should not be bailed out by taxpayers in the event of their collapse.
He says the fundamental principle of central banks laid down by Walter Bagehot a century and a half ago — that they should be “lenders of last resort” — needs a refresh. They should instead cast themselves as “pawnbrokers of last resort”, keeping ledgers of the assets held by wide banks and only lending to them in exchange for collateral.
This pawnbroker proposal, archaic as it sounds, is actually the freshest thing in here. Many of King’s other ideas are more familiar. The banking reforms were originally proposed by Chicago economists in the 1930s, though they have found new disciples since. “Radical uncertainty” is an idea Keynes knocked around, having inherited it from Frank Knight, the father of economic probability. And the reforms King recommends on a macroeconomic level — improving productivity, boosting trade, allowing exchange rates to float — are the economic equivalent of motherhood and apple pie.
As a result, one ends the book feeling oddly depressed. Despite King’s best efforts to sketch out an optimistic vision for a reformed international economy, many of his solutions have been mooted, and rejected, a fair few times before. Indeed, even when he was in office, King failed to push through the banking reforms he really wanted. So what hope is there that today’s cadre of regulators, who are far friendlier to the Square Mile, can do better?
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It all leaves one to conclude that there will indeed be another crisis. But given King himself missed the last one here’s hoping he is wrong this time around as well.
Ed Conway is economics editor of Sky News
The End of Alchemy: Money, Banking and the Future of the Global Economy by Mervyn King, Little, Brown, 448pp, £25. To buy this book for £21.50, visit thetimes.co.uk/bookshop or call 0845 2712134
