“For many centuries, money and banking were financial alchemy, seen as a source of strength, when in fact they were the weak link of a capitalist economy,” writes Mervyn King in his new book.
As Governor of the Bank of England for a decade from 2003, having previously been a leading academic economist, Baron King of Lothbury has long been at the heart of the British policy-making establishment. Despite that, and belying his mild manners, The End of Alchemy is a fearlessly honest explanation of the 2007/08 financial collapse, providing disturbing insights into what sparked “the worst banking crisis the industrialized world has ever seen”.
Rather than finger-pointing, King focuses on “collective failure” before and after a banking collapse that caused “both Britain and the US to ‘lose’ around 15pc of national income relative to the pre-crisis growth path”. Even though the “largest banks in the biggest financial centres in the advanced world failed, triggering a worldwide collapse of confidence and the deepest recession since the 1930s,” he insists that “nothing much has really changed in terms of the fundamental structure” of the Western banking industry.
“Without reform of the financial system, another crisis is certain…sooner rather than later,” King asserts. “It is the young of today who will suffer from the next crisis – and without reform the economic and human costs of that crisis will be bigger than last time”.
Part-memoir, part-policy missive, King’s chunky 420-page volume isn’t just an elegant guide to the history of economic ideas. It also gives a genuine insider’s account of how, following relative prosperity before Western banks began imploding in 2007, “within little more than a year, what had been viewed as the age of wisdom was seen as the age of foolishness”.
Written, for the most part, in clear, jargon-free prose – and avoiding tables and graphs – the End of Alchemy showcases the author’s ability to combine complex analysis with effective communication. And while the narrative sometimes gets bogged-down in descriptions of academic debates that non-economists may find tangential, that’s more than offset by those passages where King allows himself to write from the heart, combining his vast technical knowledge and experience with genuine passion to see meaningful post-crisis reforms.
“The consequences of the events of 2007–8 are still unfolding, and anger about their effects on ordinary citizens is not diminishing,” he writes. “That disaster was a long time in the making, and will be just as long in the resolving. But the cost of lost output and employment from our continuing failure to manage money and banking and prevent crises is too high for us to wait for another crisis before we act to protect future generations”.
Prior to 2007, King asserts that “hubris – arrogance that inflicts suffering on the innocent – ran riot, changing the culture in financial services to one of taking advantage of the opportunity to manage other people’s money, rather than acting as a steward on behalf of clients”.
He describes the hair-raising expansion of the US banking industry from the equivalent of 20pc of national income to over 100pc just before the crisis, with its UK counterpart ballooning ten-fold to no less than 500pc. “Most of this expansion was over the past 30 years,” reports King. And as “banks’ balance sheets have exploded, so have the risks associated with them”, while “regulators took an unduly benign view”.
Using words that will incense the titans of the City and Wall Street, King insists the merging of risk-taking investment banking with retail and commercial banks handling the taxpayer-guaranteed deposits of ordinary households and firms “altered the business model and culture of our largest banks” during the 1980s and 90s. “Size became an objective, with banks that were clearly too important and too big to fail able to borrow more cheaply”.
He rails against the on-going use of “quantitative easing” – or virtual money – saying that “continued reliance on monetary policy as the ‘only game in town’, constitute an error as much of theory as of practice, and is the cause of weak growth today”. The Bank of England’s recent attempts under King’s successor Mark Carney to provide “forward guidance” – by highlighting upcoming interest rate decisions – also get short shrift. “To retain credibility, it is important central banks do not claim to know more than they in fact do”.
The single currency is pilloried as “the most divisive development in post-war Europe…imposing enormous costs on citizens” in the form of stagnation and unemployment. “The [euro] crisis will drag on,” King predicts. “It cannot be resolved without confronting either the supranational ambitions of the EU or the democratic nature of sovereign national governments. One or other will have to give”.
The thrust of the book, though, remains King’s clarion call for “an intellectual revolution”, to bring reforms that stop banks being “the Achilles heel of capitalism”. He outlines a scheme requiring them to do less, be far more transparent and post much greater collateral with central banks.
“Reform of money and banking will not be easy, King concludes. “Most existing financial institutions, and the political interests they support, will resist strongly”.
This is a most significant book – one that, I believe, will continue to be read years from now. Just as it will no doubt provoke scorn from the powerful institutions King has had the audacity to challenge, so it should bring praise and gratitude from the broader public.