̽��ֱ�� of Cambridge - money

Opinion: Forget Super Thursday, the Bank of England can only offer Mildly Useful Thursday

Anonymous — Wed, 03 Aug 2016 11:18:06 +0000

̽��ֱ��Bank of England is expected to announce on Thursday measures to stimulate the UK economy following signs that there will be a significant economic downturn following the vote for Brexit. ̽��ֱ��Bank may cut interest rates, inject another dose of quantitative easing or conjure up something new to give the economy a monetary boost.

Although some have dubbed this “Super Thursday”, it cannot hope to be anything of the sort. ̽��ֱ��Bank only has tools to help ameliorate the immediate damaging impact of the Brexit vote. It can do little to address the underlying structural problems of the UK economy; structural problems that are likely to deepen unless the government makes a U-turn and uses fiscal policy as a means to stimulate long-term economic growth.

̽��ֱ��impact of the Brexit vote will be revealed over many years. ̽��ֱ��immediate evidence is patchy but the initial signs are that the economy is slowing down. ̽��ֱ��Purchasing Managers’ Index, which is a lead indicator of GDP, shows that the UK economy suffered a significant deterioration following the Brexit vote.

Sterling totters. J D Mack/Flickr, CC BY-ND

Sterling has weakened and this was expected to stimulate manufacturing exports. But the immediate evidence suggests that even manufacturing activity is slowing down. ̽��ֱ��Bank is also expected to revise downwards its growth forecast for the UK economy – not simply because of its macroeconomic model but also, as the Financial Times has reported, because some of its economists have been talking to businesses and finding out the story from the horse’s mouth.

Stimulating

̽��ֱ��Bank, assuming the mantle of the “muscular” interventionist, is expected to introduce further monetary stimulus to help business confidence and encourage spending. This should help to reduce the depth of the emerging downturn and it will assuage markets that at least there has been some response to deal with the impact of the Brexit vote.

But there is little evidence that monetary stimulus alone will address the long-term weaknesses of the UK economy. There are two major limitations of excessive reliance on monetary policy to manage the economy.

First, it does little to expand the capacity of the economy by stimulating new investment. Second, it increases the inequality of wealth: the big gainers are those who own assets which are propped up by the monetary stimulus such as housing, bonds and shares. Very low interest rates have increased demand, but this demand has served to increase the prices of existing assets – such as the cost of housing. It has had little impact on the creation of new assets, such as house building and corporate investment and expansion.

̽��ֱ��Big Problem

One of the major long-term problems facing the UK economy is stagnant productivity, the prime determinant of future prosperity and income growth. There are a number of drivers of productivity including investment in capacity, investment in education and the creation of new ideas. Monetary stimulus can do little to stimulate these.

Low interest rates may stimulate private sector investment in normal times, but such investment is discouraged by economic and financial uncertainty. An active fiscal policy is required to address the productivity problem, including state investment in infrastructure, housing and education.

And the productivity problem is likely to get worse in the long-term as the UK wrestles with its post-Brexit legacy. First, the UK will find it more difficult to trade with both Europe and the rest of the world. This will lead to a widening of the UK’s trade deficit or a permanently lower exchange rate – or possibly a combination of both. Second, the level of foreign direct investment into the UK economy is likely to fall as foreign firms remain in, or move into countries within the EU single market.

Third, there will be serious disruptions to the UK’s innovation system. Universities are one of the strong aspects of the UK system, but their ability to attract funding and world-class researchers will be hindered when (or if) the UK leaves the single market. Furthermore, much business research and development in the UK is carried out by overseas firms, which may fall if such firms move or expand abroad.

A New Industrial Policy?

̽��ֱ��Brexit vote has led to a new government and a new opportunity to recast economic policy. ̽��ֱ��new Prime Minister has indicated her support for industrial policy and she has established a new Department for Business, Energy and Industrial Strategy. But we have been here before and the rhetoric and rebranding has often not been followed by action.

̽��ֱ��decisions of the Bank of England that will be announced on Thursday may be mildly useful, but they can’t hope to be much more than that. They can do little to alter the long-term direction of the economy. ̽��ֱ��key issue is whether the new government acknowledges the important role for the state in driving long-term growth and re-orientates fiscal policy towards increasing public investment in infrastructure, education and innovation.

Michael Kitson, ̽��ֱ�� Senior Lecturer in International Macroeconomics at Cambridge Judge Business School, ̽��ֱ�� of Cambridge

This article was originally published on ̽��ֱ��Conversation. Read the original article.

̽��ֱ��opinions expressed in this article are those of the individual author(s) and do not represent the views of the ̽��ֱ�� of Cambridge.

Michael Kitson (Cambridge Judge Business School) discusses how the Bank of England may try to give the economy a boost.

Captain Roger Fenton

̽��ֱ��Bank of England & ̽��ֱ��Duke of Wellington.

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Opinion: Brexit shock has caused a sterling crash of historic proportions – here’s just how bad it is for the pound

Anonymous — Mon, 11 Jul 2016 09:45:04 +0000

Even before the UK’s Brexit vote was official, the pound’s value plummeted. It has been much reported that sterling has hit record lows. A look at the history of British currency crises shows how dramatic the shock was. That’s not to say Brexit has precipitated a full blown crisis, but a sterling recovery in the short term is not to be expected.

̽��ֱ��pound fell to £1 to US$1.28 in the two weeks after the Brexit result. This has only been reached once in all the time these two currencies have existed – for a two-year period in the 1980s. And in the 1980s, the low rate was not due to a fundamentally weak pound, but to a strong dollar. All European currencies at the time fell against the dollar and were saved in 1985 by the Plaza Accord, a commitment by the US and Europe’s major economies to support their currencies through market intervention.

Apart from this brief episode between 1984 and 1985, sterling is now at its lowest against the US dollar since 1792, when the first American dollar was minted. ̽��ֱ��morning after the announcement of the Brexit result on June 24, sterling had dropped 10% overnight and was down 8% at the end of the trading day. Only four times since 1900 did the pound drop so much in one day – in 1931, 1940, 1949 and 1967. Two of these four falls were government induced devaluations.

Alain Naef, CC BY-ND

In 1967 the British government decided to devalue sterling after several years of poor economic performance, mirroring the declining role of Britain in the world. After several dramatic rescue packages by industrialised countries from 1962-67, sterling was devalued by 14.3%. It led to considerable unrest on dollar and gold markets.

Before then, in 1949, at the insistence of the US, the British government decided to reduce the value of sterling by 30%. ̽��ֱ��world order had changed after the war and the US had a stronger economic position which needed to be reflected in its currency. Most European nations at the time followed this move and it had a rather positive consequence overall, even if the government was pushed to devalue after the Bank of England had lost money maintaining sterling’s parity with the dollar.

In 1931, the situation was in some ways similar to today. ̽��ֱ��unexpected shock of the Great Depression forced the British government to devalue sterling against its will. ̽��ֱ��shock, however, was much more violent and had disastrous global consequences as sterling was a major international currency. Britain was forced to abandon the gold standard, after having officially re-established a parity with gold in 1925. ̽��ֱ��devaluation marked the beginning of harmful currency and trade wars – something we do not want to see repeated in the wake of Brexit.

̽��ֱ��drop following Brexit was similar to when Germany invaded France in 1940. US National Archives and Records Administration

Thankfully today, trade wars are unlikely to happen as the World Trade Organisation, built up from 1948 and formally established in 1995, forces all nations to a minimum set of trade agreements. ̽��ֱ��institution is partly a legacy from the competitive policies of the Great Depression and ensures that none of the signatory parties engages in harmful trade wars. Similarly, the IMF, also created after the events of the Great Depression, is making sure that countries do not engage in currency wars, artificially devaluing currencies to make their exports cheaper.

̽��ֱ��fourth time that the pound fell so badly followed the aftermath of Germany’s invasion of France in 1940, which pushed the pound down by almost 10%, just short of the drop the night of the Brexit result.

Crisis or short-term crash?

All the big shocks in the post-war years have been parallel to a progressive decline in the British colonial empire. Is this sterling drop to be the last nail in the coffin of Great Britain slowly becoming little England? To understand this, it’s important to recognise whether the main consequences of Brexit are only on the currency or also on the real economy.

Harvard economists Carmen Reinhart and Ken Rogoff define currency crashes as any drop of 15% over a year. By these measures, the aftermath of Brexit can be seen as a currency crash. However, it is not yet a full-blown crisis, as the impact on the economy is not yet clear. A lower pound might be good for British exports, but not for housing or finance.

This raises the question of whether the Bank of England will intervene and start buying sterling with its dollar reserves to avoid the pound from falling further. ̽��ֱ��decision would have to come from the Treasury, which is in charge of foreign exchange policy.

Latest foreign currency reserve figures published at the end of June showed that British reserves actually increased between May and June, in line with the trend of previous months. This would indicate that the Bank of England did not use its dollar reserves to support the pound. This has been the Bank’s policy since shortly after 1992, when it lost £3.3bn to speculators on Black Wednesday.

What would help sterling recover is positive news about the balance of payment (the current account deficit sat at £32.6 billion in March 2016), a rise in interest rates or overall economic growth. But due to all the economic and political unrest following Brexit, none of this is likely to happen in the near future so a further depreciation can be expected.

Alain Naef, PhD Candidate in Financial History, ̽��ֱ�� of Cambridge

This article was originally published on ̽��ֱ��Conversation. Read the original article.

̽��ֱ��opinions expressed in this article are those of the individual author(s) and do not represent the views of the ̽��ֱ�� of Cambridge.

Alain Naef (Faculty of History) discusses Brexit's impact on the value of the pound.

J D Mack

Pound coins

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Willingness to give to charity depends on how inferior or superior you feel

Anonymous — Tue, 22 Mar 2016 11:51:05 +0000

Suppose a cancer charity’s advertisement that says “Making strides toward a world with more birthdays” was changed to say “Making strides toward giving you more birthdays.” Would this influence your likelihood to donate? A new study argues that it does – depending on whether you are comparing yourself favourably or unfavourably to other people.

̽��ֱ��first advert (the actual ad copy used by the American Cancer Society’s Relay for Life), which focuses on giving the world more birthdays, would be more effective if you feel relatively better off than others (a “downward comparison”). This is because people making downward comparisons are more likely to give as a means of expressing altruistic values, such as to give back and be a better person. In contrast, people who feel inferior in some way (an “upward comparison”) are more likely to give in order to benefit themselves – to give oneself more birthdays, in this example.

In a study published online in Journal of Consumer Psychology, Professor Ann Schlosser of Foster School of Business, ̽��ֱ�� of Washington, and Dr Eric Levy of the ̽��ֱ�� of Cambridge Judge Business School found that those making downward and upward comparisons differ in how willing they are to help in order to benefit others’ lives.

These results have important implications, because, depending on whether an advert’s target segment feels generally better or worse off than others, charities should craft their appeals to emphasise benefits to others or individuals, respectively – and this context is critical to the success of a charitable appeal, the study found.

“For charities, the study finds that adverts highlighting the altruistic reasons for giving, such as how giving would benefit others, would be more likely to appeal to people who feel in a relatively good position in their lives,” says Dr Levy, ̽��ֱ�� Lecturer in Marketing at Cambridge Judge. “This can help charities target their ads far more effectively.

“Given that most charity advertisements focus on 'benefits to others' rather than to oneself, the study suggests that many of these ads may be ineffective in motivating people to give when they are feeling worse off than others. So charity managers should seek to ascertain if their target audience feels worse off than others, and if so say something like ‘help improve air quality so you can live a healthier life’ rather than ‘help improve air quality so people around the world can live healthier lives’.”

Although there has been six decades of research on “comparison theory,” the direction of comparison as a predictor of people’s willingness to give had previously been little explored, the paper said.

̽��ֱ��paper is based on four separate but related experimental tests on hundreds of people, including undergraduate students as well as non-students.

In one test, students were told that their job prospects were easier (prompting downward comparison) or worse (prompting upward comparison) to another group of college students. ̽��ֱ��students were then shown volunteering opportunities that emphasised benefits to others (”help those less fortunate by giving to those who need it”) or self-benefit (“build connections by networking with local business and community leaders”). ̽��ֱ��result: “Those in the downward (vs. upward) condition were more willing to help when the ad used an other-benefit appeal.”

Another of the four studies showed that those making downward comparisons gave more money than a no-comparison control group, while those making upward comparisons gave marginally less.

Across the four studies, the researchers consistently found that downward comparisons increase individuals’ willingness to give when the context explicitly states or implies that giving will benefit others.

Reference
Ann E. Schlosser and Eric Levy. Helping others or oneself: How direction of comparison affects prosocial behaviour. Journal of Consumer Psychology; 22 Feb 2016; DOI: doi:10.1016/j.jcps.2016.02.002

Adapted from a press release from the Cambridge Judge Business School

An individual’s likelihood to donate to charity – and the amount they donate – depends on whether they feel superior or inferior to others, which has implications for charity advertising strategies, according to new study co-authored at the ̽��ֱ�� of Cambridge Judge Business School.

Given that most charity advertisements focus on 'benefits to others' rather than to oneself, the study suggests that many of these ads may be ineffective in motivating people to give when they are feeling worse off than others

Eric Levy

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UK online alternative finance market grows to £3.2 billion in 2015

sc604 — Wed, 17 Feb 2016 11:01:36 +0000

This is a significant increase in volume, but growth of the online alternative finance market is slowing down, with the annual growth in 2014/2015 being nearly half the 161% growth from 2013/14. Although the absolute year-on-year growth rate is slowing down, the report said, the alternative finance industry still recorded substantive expansion across almost all models.

̽��ֱ��report also highlights the rapid expansion of donations-based crowdfunding, the perceived risk of fraud and malpractice by the industry, and increasing institutionalisation – as around a quarter of P2P (peer-to-peer) loans are now funded by institutional investors, including traditional banks and government through organisations such as the British Business Bank.

Pushing Boundaries - 2015 UK Alternative Finance is jointly published by the Cambridge Centre for Alternative Finance at the ̽��ֱ�� of Cambridge and UK innovation foundation Nesta, in partnership with KPMG and with the support of CME Group Foundation. It is the latest in an annual series of reports from the ̽��ֱ�� of Cambridge Judge Business School and Nesta, which track the size and development of online alternative finance, such as P2P lending and crowdfunding, in the UK.

Key findings of the report, a survey of 94 crowdfunding and P2P lending platforms, include:

Increased share of the market for business finance: in 2015 it is estimated that online alternative finance platforms provided the equivalent of over 3% of all lending to SMEs (small and medium-sized enterprises) in the UK. For small businesses - those with a turnover of less than £1 million a year - P2P platforms provided an amount lending equivalent of 13% of all new bank loans.
Institutionalisation is taking off: 2015 saw increased involvement from institutional investors in the online alternative finance market. ̽��ֱ��report shows that 32% of loans in P2P consumer lending and 26% of P2P business lending were funded by institutional investors.
Donation-based crowdfunding is the fastest growing model: although starting from a relatively small base (£2 million), donation-based crowdfunding is the fastest growing model in the 2015 study, up by 500% to £12 million.
Real estate is the single most popular sector: in 2014/2015 the most popular sector for online alternative finance investments and loans was real estate, with the combined debt and equity-based funding for this sector reaching £700m in 2015.
̽��ֱ��equity market is growing fast: the second fastest growing area of the alternative finance market is equity-based crowdfunding, up by 295% - from £84 million raised in 2014, to £332m in 2015. Excluding real estate crowdfunding, in 2014/2015 the equity-based crowdfunding sector contributed to £245 million worth of venture financing in 2015 – equivalent to over 15% of total UK seed and venture equity investment.
̽��ֱ��industry is generally satisfied with current regulation: when asked what they thought of existing regulation, more than 90% of P2P lending and equity-based crowdfunding platforms stated that they thought the current level was appropriate.
̽��ֱ��biggest risk to market growth is fraud or malpractice: when asked what they saw as the biggest risk to the future growth of the market, 57% of P2P lending and equity-based crowdfunding platforms cited the potential collapse of one or more of the well-known industry player due to fraud or malpractice.

“ ̽��ֱ��substantive growth of alternative finance in the UK last year is not surprising, given that these new channels of finance are increasingly moving mainstream,” said Robert Wardrop, Executive Director of Cambridge Centre for Alternative Finance. “One of the key drivers underpinning this development is the growing institutionalisation of the sector. ̽��ֱ��Cambridge Centre for Alternative Finance is proud to shed light on this fascinating and dynamic industry, to help inform policymakers, regulators and the general public about how these areas of finance are increasingly becoming part of our everyday economic life.”

“2015 has seen another year of remarkable growth for Alternative Finance in the UK,” said Stian Westlake, Nesta’s Executive Director of Policy & Research. “Little more than a collection of plucky startups just six years ago, the sector now does £3.2 billion of business a year. As the sector grows and matures it is sure to face challenges - investors will be keen to see returns, and another financial crisis would certainly test the robustness of P2P lending.”

Warren Mead, Global co-lead of Fintech at KPMG, said: “After years of pushing boundaries, 2016 will be the year where ‘alternative’ financial options finally join the ranks of the mainstream. But while this evolution gives the industry the platform to grow, it also brings its own set of challenges. Being part of the financial establishment doesn’t sit well with its original social purpose. Incumbents are also playing catch up with their own digital investment, and are closing in on the disrupters’ lead. Meanwhile, platform failures within these growing networks are inevitable. So the question is, will the hard won enthusiasm for these platforms start to wane?”

̽��ֱ��report was led by Bryan Zhang, a Director of the Cambridge Centre for Alternative Finance, and Peter Baeck, Principal Researcher at Nesta. It has been supported in part by funding from audit, tax and advisory service KPMG and CME Group Foundation, the foundation affiliated with CME Group.

Originally published on the Cambridge Judge Business School website.

̽��ֱ��UK online alternative finance sector grew 84% in 2015, facilitating £3.2 billion in investments, loans and donations, according to a new report published today.

These areas of finance are increasingly becoming part of our everyday economic life.

Robert Wardrop

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Keynes comes home to Cambridge

tdk25 — Thu, 08 Nov 2012 16:56:05 +0000

Available in electronic and paperback format for the first time, ̽��ֱ��Collected Writings of John Maynard Keynes is published on behalf of ̽��ֱ��Royal Economic Society and comprises thirty volumes of all Keynes' published books and articles, including writing from his time in the India Office and Treasury, correspondence in which he developed ideas in argument with fellow economists, and correspondence relating to public affairs.

Keynes, who studied mathematics at King’s College, Cambridge, is widely considered to be one of the most influential thinkers of the 20^th century. His work revolutionized the theory and practice of modern economics and it has had a profound impact on the way economics is taught and written, and on economic policy around the world. His ideas are the basis for the school of thought known as ‘Keynesian economics.’

Born in Cambridge in 1883, Keynes’s father was an economist and a philosopher and his mother became Cambridge’s first female mayor. Keynes went to work in the India Office, and earned a fellowship at King's College. Following the outbreak of World War One, he joined the treasury, and in the wake of the Versailles peace treaty, he published ' ̽��ֱ��Economic Consequences of the Peace' which became a best-seller and made him world famous.

During the inter-war years, Keynes amassed a considerable personal fortune from the financial markets and, as bursar of King's College, greatly improved the college's financial position. He became a prominent arts patron and board member of a number of companies.

Keynes' best-known work, ' ̽��ֱ��General Theory of Employment, Interest and Money', was published in 1936, and became a benchmark for future economic thought. It also secured his position as Britain’s foremost economist and in 1942, he was made a member of the House of Lords.

̽��ֱ��recent global financial crisis has led to fresh interest in Keynes’ work and his ideas underpinned many of the economic policies undertaken in response to the crisis by George W. Bush, Barack Obama, Gordon Brown, and other heads of government.

̽��ֱ��Collected Writings of John Maynard Keynes is published on November 8^th and is available in electronic and paperback format. For more information please visit https://www.cambridge.org/

A five-year project to publish the collected works of pioneering British economist John Maynard Keynes, is today unveiled by Cambridge ̽��ֱ�� Press.

If it is a sign of a great economist that he can continue to be read for contemporary enlightenment and counsel, then John Maynard Keynes is one of the very few who qualify. Dead for sixty-six years, his theories and insights retain their freshness, because the faults which he identified in our system of decentralized capitalism have not gone away. Indeed, they have become once again the main topic of economic discussion.

Lord Robert Skidelsky

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̽��ֱ��crisis of shareholder primacy

bjb42 — Mon, 19 Mar 2012 15:44:21 +0000

How do we prevent another financial crisis? Since the devastation that began with the collapse of the U.S. subprime mortgage market in 2007, a great deal of ink has been spilled trying to answer this question.

Unfortunately, most official accounts of the crisis, and how to avoid the next one, have missed the mark. They have overlooked the fundamental problem: a corporate governance model that the puts the private interest ahead of the public interest.

Financial institutions in most countries today are governed based on the theory of shareholder primacy. According this model, the institution’s management has one overriding duty: to maximize shareholder returns. True to its name, shareholder primacy puts shareholders in the driver’s seat; they get to choose the people who will run the financial institution for their benefit alone.

There are good reasons for supporting shareholder primacy. It is based on a healthy distrust of managers, who may be tempted to use the firm’s resources to pursue their own interests, rather than those of shareholders. Asking managers to balance the concerns of a number of different constituencies is just a license for them to abuse their power.

As a result, shareholder primacy tries to remove any ambiguity by making managers beholden to a single group – the firm’s shareholders. In addition to imposing legal obligations on directors and officers, today’s dominant corporate governance regime ties executive compensation to the share price. All of this is designed to align the interests of shareholders and managers.

In theory, this makes sense, but in practice it’s a recipe for crisis, specifically in the context of financial institutions. ̽��ֱ��business model of financial institutions is very different from that of an ordinary firm.

Basically, financial institutions profit from the “spread” between short- and long-term interest rates. In other words, they make money by lending at higher rates than they borrow. Thus, the best way for a bank to increase its profits is by increasing its “leverage” – that is, by making as many loans as possible.

But the greater the bank’s leverage, the greater its risks. This is because if the bank’s debtors begin to default, or if there’s a perception that they might, the bank’s creditors (its depositors) will come running for their money all at once; hence the expression “bank run”. During a run, the “mismatch” between the bank’s assets and liabilities leaves it strapped for cash, and can ultimately lead to insolvency and failure. This is precisely what happened to the likes of Northern Rock just a few years ago.

What does all this have to do with shareholder primacy? Since shareholders are interested in maximizing profit, they will encourage the financial institution, through its managers, to increase leverage. Given the legal obligations and financial incentives facing mangers today, they will likely oblige. If they don’t, the capital markets may see the firm as “undervalued”, making it a target for a hostile takeover bid, which, if accepted, will result in the management team being replaced by a more shareholder-friendly one.

Therefore, in a world where shareholders rule, the pressure on managers to satisfy the thirst for leverage and profit is tremendous.

We have known for decades, thanks to economists like John Maynard Keynes and Hyman Minksky, that financial institutions’ propensity for risk-taking is a key driver of economic instability. In order to maximize profit, banks look to progressively riskier assets, putting their faith in so-called “financial innovations”, which promise all the benefits of leverage without any of the risks.

For a time, rising asset prices validate bankers’ optimism, but eventually the bubble bursts, exposing it as nothing less than delusional. In the recent crisis, the innovations of choice were based on a method called securitisation, which in theory is supposed to distribute risk efficiently. In practice, however, securitisation turned out to be a “weapon of mass destruction”, as legendary American investor Warren Buffett put it.

̽��ֱ��methods were new this time, but the pattern of behaviour was anything but. In the last five decades, we have seen repeated crises of this kind, albeit not of this magnitude. So why don’t we learn from history? Why don’t we heed the warnings?

̽��ֱ��ideology of shareholder primacy has a lot to do with it. To begin with, during the boom, when shareholders are getting rich, the system makes it almost impossible for managers to buck the trend.

In addition, managers are not only expected to pursue shareholders’ economic interests, but their political ones as well. Not surprisingly, therefore, the financial industry is notorious for its lobbying activity. In the 1980s, the City of London pushed for the deregulation of the financial system. At the time, the reforms were dubbed the “Big Bang” due to the explosion in the capital markets that ensued; today the moniker is still appropriate, but for entirely different reasons…

As a result, those who would leave shareholder primacy in place and put their faith in regulation to stop the next crisis are mistaken. They do not account for the financial industry’s political influence, which has been used to weaken regulation or “capture” those who enforce it. And they are overconfident about the ability of regulators, regardless of their resources and independence, to keep up with financial innovation, especially given the unprecedented complexity and global scale of today’s financial system.

While stricter regulation – particularly with respect to capital requirements – is crucial, such reforms risk being undermined by the perverse incentives of shareholder primacy. A situation in which the regulatory system is butting heads with the corporate governance system is incoherent and unlikely to promote economic stability in the long term.

A final problem with shareholder primacy is that it results in the wrong kinds of people being appointed to serve as directors and officers of financial institutions. ̽��ֱ��skills and temperament that maximize shareholder profits conflict with those that promote economic stability. As a result, shareholders prefer dealmakers to caretakers.

True, directors and officers of financial institutions must pass the Financial Services Authority’s “fit and proper” test. But, as Lord Turner concluded in his review of financial regulation in the UK, these standards were poorly enforced in the years leading up to the crisis. This is because it was assumed – consistent with shareholder primacy – that financial institutions themselves were better placed to decide who should manage them. Not surprisingly, most bank executives didn’t understand the risks they were taking; some didn’t even have prior financial industry experience.

In order to prevent the next crisis, we need to do away with shareholder primacy for financial institutions, which are a special kind of company. We need a new corporate governance model that recognizes the essential role that financial institutions play in the wider economy and society. This means, at the very least, that their managers must have a legal duty to consider the public interest, and have the knowledge and temperament to discharge it accordingly.

If we want to prevent the next financial crisis, a new model of corporate governance is needed to replace shareholder primacy in financial institutions. Gates Scholar Mike Marin explains why.

In a world where shareholders rule, the pressure on managers to satisfy the thirst for leverage and profit is tremendous.

Mike Marin.

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