The key dynamics of the US banking crisis are analyzed – with emphasis on the
fact that the banking disaster of 2007/08 was not really a surprise –, and the five key requirements for restoring stability and efficiency in the EU/OECD banking sector are highlighted: Hedge funds should be regulated and be required to register with the Bank of International Settlements, which should have the right to tighten equity requirements if deemed necessary. The quality and comprehensiveness of banks’ balance sheets must be radically improved and all off-balance sheet activities must be included in future total balance sheets (TBS). Securitization is a useful financial innovation, yet asset backed securities (ABS) should become more standardized. All credit default swaps (CDS) must be registered in a global database, and future transaction should go through a clearing house. Previous CDS transactions must also be recorded, since a critical veil of ignorance of counterparty risk would otherwise continue and hence the uncertainty about the valuation of large portfolio positions of banks, funds and insurance companies would continue. The failure of bank supervisors to impose such minimum rules necessary for transparency and confidence in the interbank market shows that policy pitfalls are part of the problem underscoring the banking crisis. Rating agencies should be required to obtain a license – in line with the proposals of the European Commission –, but they likewise should face random evaluation and adequate fines for sloppy work. Financing should be indirect, namely every country or company planning to place bonds in the market should pay fees into a pool, and this pool then finances the respective rating on a competitive basis. This two-stage approach of financing ratings would most likely eliminate the existing conflicts of interest in the present regime.
Most important, however, is the introduction of a new tax regime designed to encourage bankers to take a more long term time horizon in decision-making and to reduce excessive risk-taking. Banks and funds should be taxed not only on the basis of profits but also on the basis of the variability – read variance – of the rate of return on equity: the higher the variability over time the higher the tax to be paid (a simple calculation for Germany shows that based on historical data the large private banks would have paid the highest overall tax
rate). The EU should adopt a more active role in shaping European and global rules for sustainable banking. As regards the idea of self-regulation of the banking industry, this approach has totally failed in the US under the Bush administration and indeed is nonconvincing, since in no sector can industry flourish if they were to create core principles for competition within their own sector: Moral hazard, negative external effects and anticompetitive behavior would result in such a setup. With respect to transatlantic cooperation, it
would be wise to develop a new cooperation with the new US administration and push the US towards adopting Basel II and to developing a new global financial architecture which encourages sustained economic growth worldwide. The Bank of International Settlements should broaden its membership basis, and a new Group of International Supervisors (GIS) should be established as a twin organization of the BIS. The GIS should be subject to an international political control, namely through a parliamentary assembly in which delegates
from the EP, the US Congress, the Russian Duma, etc. should be active. The OECD development center could also play a particularly useful role in coping with the international banking crisis and developing new international rules for financial markets.