Trends in Assets and Liabilities of Commercial Banks in the USA

Trends in Assets and Liabilities of Commercial Banks in the USA

To big to fail means too interconnected to fail.
As the balance sheets of banks have expanded so has their number of counterparties on both sides of balance sheets.

The US commercial banks have have expanded their balance sheets.

On assets side, the loans portfolio has expanded.

Low Interest Rates and Banks’ Profitability – Update October 2020

On liabilities side, the deposits and borrowings have increased.

US Federal Reserve publishes H8 report on Assets and Liabilities of the US commercial banks. Detailed information on aggregate data presented in this post can be obtained from it.

https://www.federalreserve.gov/releases/h8/h8notes.htm

On liabilities side, the borrowings from wholesale money markets and shadow banking contributed to systemic risk during 2008 financial crisis. Please see my posts on this subject.

Funding Strategies of Banks

Shadow Banking

There were also capital flows in US markets from foreign banks and other markets.

Low Interest Rates and International Capital Flows

On liabilities side, because of increased borrowings from short term markets, the financial interconnections have also increased resulting in systemic risk and financial contagion.

On assets side, because of increased volumes of loan portfolios, the systemic risk and chances for financial contagion have increased.

Balance Sheets, Financial Interconnectedness, and Financial Stability – G20 Data Gaps Initiative

Contagion in Financial (Balance sheets) Networks

For analytical framework, accounting approach (Post Keynesian Economics) is one of the option.

Balance Sheet Economics – Financial Input-Output Analysis (using Asset Liability Matrices) – Update March 2018

Foundations of Balance Sheet Economics

Economics of Money, Credit and Debt

Morris Copeland and Flow of Funds accounts

Stock-Flow Consistent Modeling

Key Terms

  • Money View
  • Money Flows
  • Stocks and Flows
  • System Dynamics
  • Business Dynamics
  • Business Strategy
  • Asset Liability Management ALM
  • Balance Sheet Economics
  • Monetary Policy
  • Interest Rates
  • Credit
  • Debt
  • Money
  • Balance Sheet Expansion
  • Systemic Risk
  • Interconnectivity
  • Loan Portfolio
  • To big to fail
  • Networks
  • Funding Strategy
  • Market Liquidity
  • Funding Liquidity
  • Deposits
  • Interest Income
  • Non Interest Income
  • Borrowings
  • Wholesale Money Markets
  • Shadow Banking
  • International Capital Flows
  • Round Tripping
  • Global Liquidity
  • Eurodollar Market
  • Money Market Mutual Funds
  • Quadruple Accounting
  • Morris Copeland
  • Hyman Minsky
  • Wynn Godley
  • Perry Mehrling

Image Source: Liberty Street Economics 2017

AVERAGE NET INTEREST MARGIN OF BANKS IN THE UNITED STATES FROM 1995 TO 2019
Image Source: Statista

NET INTEREST MARGIN FOR ALL U.S. BANKS (USNIM)
Image Source: FRED

Total Assets, All Commercial Banks (TLAACBW027SBOG)
Image Source: FRED

Total Liabilities, All Commercial Banks (TLBACBW027NBOG)
Image Source: FRED

DEPOSITS, ALL COMMERCIAL BANKS (DPSACBW027SBOG)
Image Source: FRED

My Related Posts

Balance Sheet Economics – Financial Input-Output Analysis (using Asset Liability Matrices) – Update March 2018

Foundations of Balance Sheet Economics

Balance Sheets, Financial Interconnectedness, and Financial Stability – G20 Data Gaps Initiative

Funding Strategies of Banks

Economics of Money, Credit and Debt

Low Interest Rates and International Capital Flows

Low Interest Rates and Banks’ Profitability – Update October 2020

Morris Copeland and Flow of Funds accounts

Key Sources of Research

Deposits, All Commercial Banks (DPSACBW027SBOG)

https://fred.stlouisfed.org/series/DPSACBW027SBOG

Total Liabilities, All Commercial Banks (TLBACBW027NBOG)

https://fred.stlouisfed.org/series/TLBACBW027NBOG

TOTAL ASSETS, ALL COMMERCIAL BANKS (TLAACBW027SBOG)

https://fred.stlouisfed.org/series/TLAACBW027SBOG

Between deluge and drought:
The future of US bank liquidity and funding

Rebalancing the balance sheet during turbulent times

McKinsey

2013

https://www.mckinsey.com/~/media/mckinsey/dotcom/client_service/Risk/Working%20papers/48_Future%20of%20US%20funding.ashx

Assets and Liabilities of Commercial Banks in the United States – H.8

https://www.federalreserve.gov/releases/h8/h8notes.htm

The geography of dollar funding of non-US banks1

Low Interest Rates and Banks’ Profitability – Update October 2020

Low Interest Rates and Banks’ Profitability – Update October 2020

My last post on this topic was in May 2019.

Research continues on this important topic. What are the effects of Monetary policy on Financial Institution?

Please see my previous posts to find the issues. In this post I have compiled papers and articles published since my last post in 2019.

Rational Decision making by the firms
  • Lend More – When margins decline, the volumes must go up to maintain or increase profits. This increases risk taking.
  • Diversify – Look for other sources of earnings
  • Consolidate – Merge with other banks as a business strategy to grow loan volumes.

How do banks make money? What is source of their income? How much is Net interest income? How much is Non Interest Income?

As you can see from the graphs below, Net interest income of banks is going up. Although the net interest margins are down, Banks are earning their income mostly from net interest income.

Volumes of Outstanding loans must be going up to make up for decrease in margins.

Sources of interest income can be

  • Commercial loans
  • Real Estate loans
  • Auto Loans
  • Credit cards
  • Student Loans

Additionally consolidation among the banks can be partially explained by the decling number of banks. See graph below.

Diversification to find other sources of earnings.

Image Source: FRED
EFFECTIVE FEDERAL FUNDS RATE (FEDFUNDS)

Image Source: FRED
NET INTEREST MARGIN FOR ALL U.S. BANKS (USNIM)

Image Source: Statista
AVERAGE NET INTEREST MARGIN OF BANKS IN THE UNITED STATES FROM 1995 TO 2019

Image Source: Liberty Street Economics 2017

Image Source: FRED
BANK’S NON-INTEREST INCOME TO TOTAL INCOME FOR UNITED STATES

Image Source: FRED
Net Interest Income for Commercial Banks in United States

Image Source: FRED
Bank Credit, All Commercial Banks (TOTBKCR)

Image Source: FRED
Loans and Leases in Bank Credit, All Commercial Banks (TOTLL)

Image Source: FRED
Commercial and Industrial Loans, All Commercial Banks (BUSLOANS)

Image Source: FRED
REAL ESTATE LOANS, ALL COMMERCIAL BANKS (REALLN)

Image Source: FRED
Consumer Loans, All Commercial Banks (CONSUMER)

Image Source: FRED
COMMERCIAL BANKS IN THE U.S. (USNUM)

Key Terms

  • Net Interest Margin
  • Profitability
  • Interest Income
  • Non Interest Income
  • Monetary Policy
  • Fed Funds Rate
  • 10 Year T Bond’s Rate
  • Shadow Banking
  • Search for Yield
  • Risk Taking
  • Housing Loans
  • Auto Loan
  • Deposits
  • Credit Cards
  • Money Markets Mutual Funds
  • Money Markets
  • Capital Markets
  • International Capital Flows
  • Diversification
  • Mergers
  • To Big to Fail
  • Non Core Business

My Related Posts

Low Interest Rates and Bank’s Profitability – Update May 2019

Low Interest Rates and Banks’ Profitability : Update July 2017

Low Interest Rates and Banks Profitability: Update – December 2016

Impact of Low Interest Rates on Bank’s Profitability

Non Interest Income of Banks: Diversification and Consolidation

Evolution of Banks Complexity

Shadow Banking

Funding Strategies of Banks

Low Interest Rates and Risk taking channel of Monetary Policy

Low Interest Rates and International Investment Position of USA

Low Interest Rates and International Capital Flows

Key Sources of Research

Bank profitability and risk‐taking under low interest rates

Jacob A. Bikker1,2 | Tobias M. Vervliet3

https://www.researchgate.net/publication/321277826_Bank_profitability_and_risk-taking_under_low_interest_rates

How banks can ease the pain of negative interest rates

March 3, 2020 | Article

https://www.mckinsey.com/business-functions/risk/our-insights/how-banks-can-ease-the-pain-of-negative-interest-rates#

Bank intermediation when interest rates are very low for long 

Michael Brei, Claudio Borio, Leonardo Gambacorta  

07 February 2020

https://voxeu.org/article/bank-intermediation-when-interest-rates-are-very-low-long

Implications of negative interest rates for the net interest margin and lending of euro area banks

by Melanie Klein

Monetary and Economic Department 

March 2020

Are Banks Exposed to Interest Rate Risk?

Pascal Paul and Simon W. Zhu

2020-16 | June 22, 2020 | Research from Federal Reserve Bank of San Francisco

Negative rates and the transmission of monetary policy

Prepared by Miguel Boucinha and Lorenzo Burlon[1]

Published as part of the ECB Economic Bulletin, Issue 3/2020.

https://www.ecb.europa.eu/pub/economic-bulletin/articles/2020/html/ecb.ebart202003_02~4768be84e7.en.html#toc2

Is there a zero lower bound?
The effects of negative policy rates on banks and firms

Revised June 2020


The impact of very low interest rates on bank profitability

https://www.rbnz.govt.nz/financial-stability/financial-stability-report/fsr-november-2019/the-impact-of-very-low-interest-rates-on-bank-profitability

Bank intermediation activity in a low interest rate environment

by Michael Brei, Claudio Borio and Leonardo Gambacorta

Monetary and Economic Department August 2019

Do Negative Interest Rates Explain Low Profitability of European Banks?1

Nicholas Coleman* and Viktors Stebunovs*

https://www.federalreserve.gov/econres/notes/feds-notes/do-negative-interest-rates-explain-low-profitability-of-european-banks-20191129.htm

Monetary Policy and Bank Equity Values in a Time of Low and Negative Interest Rates1

Miguel Ampudia2 and Skander J. Van den Heuvel3 May 2019

Negative Interest Rates, Bank Profitability and Risk-taking

Whelsy Boungou

https://www.researchgate.net/publication/334528681_Negative_Interest_Rates_Bank_Profitability_and_Risk-taking

Monetary Policy and Bank Profitability in a Low Interest Rate Environment: A Follow-up and a Rejoinder

By Charles Goodhart and Ali Kabiri

Monetary Policy and Bank Profitability in a Low Interest Rate Environment

Carlo Altavilla, Miguel Boucinha and José-Luis Peydró

Barcelona GSE Working Paper: 1101 | May 2019

https://www.barcelonagse.eu/research/working-papers/monetary-policy-and-bank-profitability-low-interest-rate-environment

Going Negative at the Zero Lower Bound: The Effects of Negative Nominal Interest Rates

Mauricio Ulate Campos Federal Reserve Bank of San Francisco

September 2019

NEGATIVE NOMINAL INTEREST RATES AND THE BANK LENDING CHANNEL

Gauti B. Eggertsson Ragnar E. Juelsrud Lawrence H. Summers Ella Getz Wold

Working Paper 25416

Implications of negative interest rates for the net interest margin and lending of euro area banks

Melanie Klein

Negative Nominal Interest Rates: A Primer

https://www.moneyandbanking.com/commentary/2019/11/30/negative-nominal-interest-rates-a-primer

Trends in the Noninterest Income of Banks

Joseph G. Haubrich and Tristan Young

https://www.clevelandfed.org/en/newsroom-and-events/publications/economic-commentary/2019-economic-commentaries/ec-201914-trends-in-the-noninterest-income-of-banks.aspx

Negative interest rates in the euro area: does it hurt banks?

https://www.oecd-ilibrary.org/economics/negative-interest-rates-in-the-euro-area-does-it-hurt-banks_d3227540-en

Interest rate pass-through in the low interest rate environment

Average net interest margin of banks in the United States from 1995 to 2019

https://www.statista.com/statistics/210869/net-interest-margin-for-all-us-banks/

Effective Federal Funds Rate (FEDFUNDS)

https://fred.stlouisfed.org/series/FEDFUNDS

https://www.newyorkfed.org/markets/obfrinfo

How low interest rates can hurt competition, and the economy

They help big companies more than small ones, depressing investment and productivity

https://review.chicagobooth.edu/economics/2019/article/how-low-interest-rates-can-hurt-competition-and-economy

Monetary Policy Report

June 12, 2020

Federal Reserve

The Long Decline of Global Interest Rates

Posted On :  Published By : BER staff

GLOBAL FINANCIAL STABILITY REPORT:

Markets in the Time of COVID-19

Chapter 4

April 2020

IMF

https://www.imf.org/en/Publications/GFSR/Issues/2020/04/14/global-financial-stability-report-april-2020

Low Interest Rates and Bank Profits

Katherine Di Lucido, Anna Kovner, and Samantha Zeller

Liberty Street Economics

2017

https://libertystreeteconomics.newyorkfed.org/2017/06/low-interest-rates-and-bank-profits.html

Bank’s Non-Interest Income to Total Income for United States (DDEI03USA156NWDB)

https://fred.stlouisfed.org/series/DDEI03USA156NWDB

Net Interest Income for Commercial Banks in United States

Net Interest Margin for all U.S. Banks (USNIM)

https://fred.stlouisfed.org/series/USNIM

Commercial Banks in the U.S. (USNUM)

https://fred.stlouisfed.org/series/USNUM

Loans and Leases in Bank Credit, All Commercial Banks (TOTLL)

https://fred.stlouisfed.org/series/TOTLL

Bank Credit, All Commercial Banks (TOTBKCR)

https://fred.stlouisfed.org/series/TOTBKCR

Commercial and Industrial Loans, All Commercial Banks (BUSLOANS)

https://fred.stlouisfed.org/series/BUSLOANS

Consumer Credit

https://fred.stlouisfed.org/categories/101

Real Estate Loans, All Commercial Banks (REALLN)

https://fred.stlouisfed.org/series/REALLN

Consumer Loans, All Commercial Banks (CONSUMER)

https://fred.stlouisfed.org/series/CONSUMER

Low Interest Rates and Business Investments – Update October 2020

Low Interest Rates and Business Investments – Update October 2020

There has been several new research on the topic of Low Interest Rates and Business Investments since my last post.

Decision Making by Firms in Low Interest rates environment

  • Invest and Grow
  • Merge / Consolidate
  • Pay Dividends
  • Buyback Shares
  • Divestures
  • Acquisitions
  • Horizontal Mergers (Market Share)
  • Vertical Mergers (Costs)
  • Innovation M&A (New Tech, New Product)

Key Terms

  • Business Investments
  • Monetary Polcy
  • Zero Lower Bound
  • Interest Rates
  • Fed Funds Rate
  • Corporate Finance
  • Hurdle Rates
  • Capital Budgeting
  • Internal Rate of Return IRR
  • CAGR Compond Annual Growth Rate
  • Cost of Capital
  • Discounted Cash Flow
  • Net Present Value
  • Mergers vs Investments
  • Organic Growth
  • Inorganic Growth
  • State of the Industry
  • State of the Economy
  • Liquidity Financial
  • Bank Lending
  • Capital Markets
  • Economic Growth
  • Corporate Planning
  • Strategic Planning
  • Strategic Management

My Related Posts

Increasing Market Concentration in USA: Update April 2019

Rising Market Concentration and Declining Business Investments in the USA – Update June 2018

Low Interest Rates and Business Investments : Update August 2017

Business Investments and Low Interest Rates

Cash and Investments: Corporate Savings Glut in USA

Low Interest Rates and Monetary Policy Effectiveness

Low Interest Rates and Risk taking channel of Monetary Policy

Low Interest Rates and International Investment Position of USA

Low Interest Rates and Bank’s Profitability – Update May 2019

Low Interest Rates and Banks’ Profitability : Update July 2017

Low Interest Rates and Banks Profitability: Update – December 2016

Impact of Low Interest Rates on Bank’s Profitability

The Decline in Long Term Real Interest Rates

Cash and Investments: Corporate Savings Glut in USA

Why do Firms buyback their Shares? Causes and Consequences.

Short term Thinking in Investment Decisions of Businesses and Financial Markets

Key Sources of Reserach

Lengthy era of rock-bottom interest rates leaving its mark on U.S. economy

Weak demand in U.S. and other rich nations explains historic shift

Washington Post

https://www.washingtonpost.com/business/2020/10/03/low-interest-rates/

Do Interest Rates Affect Business Investment? Evidence from Australian Company-level Data

Jonathan Hambur and Gianni La Cava

Low Interest Rates Have Benefits … and Costs

Kevin L. Kliesen

October 1, 2010

https://www.stlouisfed.org/publications/regional-economist/october-2010/low-interest-rates-have-benefits–and-costs

Low for Long?
Causes and Consequences of Persistently Low Interest Rates

Geneva Reports on the World Economy 17 Charles Bean

London School of Economics and CEPR

Christian Broda

Duquesne Capital Management

Takatoshi Ito

SIPA Columbia University and CEPR

Randall Kroszner

Booth School of Business, University of Chicago

2015

Low Interest Rates, Market Power, and Productivity Growth∗

Ernest Liu

Princeton University

Atif Mian
Princeton University and NBER

Amir Sufi
University of Chicago Booth School of Business and NBER

August 18, 2020

The Economic Effects of Low Interest Rates and Unconventional Monetary Policy

17 September 2020

Rochelle Guttmann, Dana Lawson and Peter Rickards

RBA

https://www.rba.gov.au/publications/bulletin/2020/sep/the-economic-effects-of-low-interest-rates-and-unconventional-monetary-policy.html

Firms’ Investment Decisions and Interest Rates

Kevin Lane and Tom Rosewall

RBA

Has Business Fixed Investment Really Been Unusually Low?

By François Gourio

Chicago Fed Letter, No. 418, 2019

https://www.chicagofed.org/publications/chicago-fed-letter/2019/418

Fiscal Policy with High Debt and Low Interest Rates

William Gale

July 1, 2019

The impact of negative interest rates on banks and firms 

Carlo Altavilla, Lorenzo Burlon, Mariassunta Giannetti, Sarah Holton  

08 November 2019

https://voxeu.org/article/impact-negative-interest-rates-banks-and-firms

Global Trends in Interest Rates

Marco Del Negro Domenico Giannone Marc P. Giannoni Andrea Tambalotti

Staff Report No. 866 September 2018

Financial stability implications of a prolonged period of low interest rates

Report submitted by a Working Group established by the Committee on the Global Financial System

The Group was co-chaired by Ulrich Bindseil (European Central Bank) and Steven B Kamin (Board of Governors of the Federal Reserve System)

July 2018

BIS

Eight centuries of global real interest rates, R-G, and the ‘suprasecular’ decline, 1311-2018.

Paul Schmelzing

https://economics.rutgers.edu/downloads-hidden-menu/news-and-events/workshops/money-history-and-finance/1823-paulschmelzing/file

Low Interest Rates and Risk Taking: Evidence from Individual Investment Decisions

Review of Financial Studies

49 Pages Posted: 14 Jul 2016 Last revised: 29 Aug 2018

Chen Lian

Massachusetts Institute of Technology (MIT)

Yueran Ma

University of Chicago – Booth School of Business

Carmen Wang

Harvard University – Department of Economics; HBS Negotiations, Organizations and Markets Unit

Date Written: August 22, 2018

https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2809191

MONETARY POLICY, CORPORATE FINANCE AND INVESTMENT

James Cloyne Clodomiro Ferreira Maren Froemel Paolo Surico

Determinants of the real interest rate

Remarks by Philip R. Lane, Member of the Executive Board of the ECB, at the National Treasury Management Agency

Dublin, 28 November 2019

https://www.ecb.europa.eu/press/key/date/2019/html/ecb.sp191128_1~de8e7283e6.en.html

Understanding Weak Capital Investment: the Role of Market Concentration and Intangibles∗

Nicolas Crouzet and Janice Eberly

Prepared for the Jackson Hole Economic Policy Symposium Federal Reserve Bank of Kansas City

August 23 – 25, 2018 This version: May 14, 2019

Monetary policy in advanced economies

Low policy rates are here to stay

https://www2.deloitte.com/us/en/insights/economy/monetary-policy-low-interest-rates-advanced-economies.html

Have low interest rates led to excessive risk taking?

https://www.aeaweb.org/forum/311/have-low-interest-rates-led-to-excessive-risk-taking

The Policy Perils of Low Interest Rates

The consequences of prolonged low interest rates in Europe

https://www.gisreportsonline.com/the-consequences-of-prolonged-low-interest-rates-in-europe,economy,2465.html

Low Interest Rates and Bank’s Profitability – Update May 2019

Low Interest Rates and Bank’s Profitability – Update May 2019

My last post on this important topic was in 2017.  Since then several new articles and research papers have been published. I have compiled them in this post.  Please see references.

In my posts I have shown how many trends in economics for the last thirty years can be explained by unintendend consequences of US Federal Researve monetary policy of lowering interest rates to boost economic growth.

  • Rise of Shadow Banking – MMMF
  • Rise of International capital flows in USA
  • Growth of Consumer credit – Credit Cards and Housing Loans
  • Decline in Net Interest Margins of the Banks
  • Risk taking by banks to maintain and increase their profits
  • Rise of Non interest income of Banks
  • Rise of Non core business of banks
  • Rise of Mergers/Acquisitions/Consolidation in Banking sector

Related to these are:

  • Business Investments by Production side of economy
  • Increase in Market concentration of Products
  • Increase in Mergers and Acquisitions/consolidation among Product market businesses
  • Decreasing monitory policy effectiveness
  • Wrong economic growth forecasts
  • Secular Stagnation Hypothesis
  • Rise of Outsourcing and global value chains
  • Free Trade agreements
  • Increase in Ineqality of wealth and Income
  • Increase in corporate profits and equities market
  • Increase in corporate savings
  • Increase in share buybacks, and dividends payouts

 

 

and this one,

Increasing Market Concentration in USA: Update April 2019

Key Sources of Research:

Monetary policy and bank profitability in a low interest rate environment

Click to access ecb-wp2105.en.pdf

The “Reversal Interest Rate”: An Effective Lower Bound on Monetary Policy∗

Markus K. Brunnermeier and Yann Koby

This version: May 3, 2017

Click to access 16f_reversalrate.pdf

Click to access 26d_rir_bankofcanada.pdf

Interest Rate and Its Effect on Bank’s Profitability

Muhammad Faizan Malik1,2, Shehzad Khan1,2, Muhammad Ibrahim Khan1, Faisal Khan

https://www.researchgate.net/publication/318648785_Interest_Rate_and_Its_Effect_on_Bank’s_Profitability

Bank performance under negative interest rates

VOXEU

https://voxeu.org/article/bank-performance-under-negative-interest-rates

How low interest rates impact bank

BBVA

https://www.bbva.com/en/how-low-interest-rates-impact-bank-profitability/

Negative-nominal-interest-rates-and-banking

Money and Banking

https://www.moneyandbanking.com/commentary/2018/10/21/negative-nominal-interest-rates-and-banking

Monetary policy and bank equity values in a time of low interest rates

Miguel Ampudia, Skander Van den Heuvel

 

Click to access ecb.wp2199.en.pdf

 

Bank Profitability and Financial Stability

Prepared by TengTeng Xu, Kun Hu, and Udaibir S. Das1

IMF

January 2019

 

https://www.imf.org/~/media/Files/Publications/WP/2019/wp1905.ashx

 

Financial stability implications of a prolonged period of low interest rates

Report submitted by a Working Group established by the Committee on the Global Financial System

The Group was co-chaired by Ulrich Bindseil (European Central Bank) and Steven B Kamin (Board of Governors of the Federal Reserve System)

July 2018

 

Click to access cgfs61.pdf

 

Monetary policy and bank profitability in a low interest rate environment

Carlo Altavilla Miguel Boucinha José-Luis Peydró
Economic Policy, Volume 33, Issue 96, October 2018, Pages 531–586,
Published: 09 October 2018

 

https://academic.oup.com/economicpolicy/article/33/96/531/5124289

 

 

Determinants of bank profitability in emerging markets

by E. Kohlscheen, A. Murcia and J. Contreras

Monetary and Economic Department

January 2018

BIS

Click to access work686.pdf

 

 

 

The Risk-Taking Channel of Monetary Policy Transmission in the Euro Area

 

Matthias Neuenkirch, Matthias Nöckel

4/2018

 

Click to access cesifo1_wp6982.pdf

 

 

 

 

ADAPTING LENDING POLICIES WHEN NEGATIVE INTEREST RATES HIT BANKS’ PROFITS

Óscar Arce, Miguel García-Posada, Sergio Mayordomo and Steven Ongena

2018

Click to access dt1832e.pdf

 

 

Banks, Money and the Zero Lower Bound

Michael Kumhof

Xuan Wang

Click to access 2018-16.pdf

 

 

 

Banking in a Steady State of Low Growth and Interest Rates

by Qianying Chen, Mitsuru Katagiri, and Jay Surti

IMF

https://www.imf.org/~/media/Files/Publications/WP/2018/wp18192.ashx

 

 

 

Changes in Monetary Policy and Banks’ Net Interest Margins: A Comparison across Four Tightening Episodes

Jared Berry, Felicia Ionescu, Robert Kurtzman, and Rebecca Zarutskie

Federal Reserve

2019

https://www.federalreserve.gov/econres/notes/feds-notes/changes-in-monetary-policy-and-banks-net-interest-margins-a-comparison-20190419.htm

 

 

 

Monetary Policy and Bank Profitability, 1870 – 2015

47 Pages Posted: 8 Feb 2019

Kaspar Zimmermann

University of Bonn

Date Written: January 25, 2019

https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3322331

 

 

The effect of falling interest rates and yield curve to banks’ interest margin and profitability: cross-country evidence from the EU banks in the aftermath of 2008 financial crisis

Giorgi Chagoshvili

MS Thesis

 

https://repository.ihu.edu.gr/xmlui/bitstream/handle/11544/29306/The%20effect%20of%20falling%20interest%20rates%20and%20yield%20curve%20to%20banks%20%20interest%20margin%20and%20profitability%20cross%20country%20evidence%20from%20the%20EU%20banks%20in%20the%20aftermath%20of%202008%20financial%20crisis.pdf?sequence=1

 

 

 

 

Bank Performance under Negative Interest Rates

 

by Jose A. Lopez, Andrew K. Rose, and Mark M. Spiegel

 

Click to access VOXNNIR.pdf

Determinants of bank’s interest margin in the aftermath of the crisis: the effect of interest rates and the yield curve slope

  • Paula Cruz-García
  • Juan Fernández de GuevaraEmail author
  • Joaquín Maudos

https://link.springer.com/article/10.1007/s00181-017-1360-0

 

 

 

 

Key Determinants of Net Interest Margin of Banks in the EU and the US

MS Thesis

Charles University

Bc. Petr Hanzlík

 

https://dspace.cuni.cz/bitstream/handle/20.500.11956/99546/120297262.pdf?sequence=1

 

Concentration, Investment, and Growth

Concentration, Investment, and Growth

 

Recent Economic Policy Symposium at Jackson Hole Wyoming (August 23-25) where economists, central bankers, policy makers gather together annually discussed issues of Rising Market Concentration, Declining Business Investments, and Declining Economic Dynamism.

2018 Economic Policy Symposium, Jackson Hole, Wyoming

https://www.kansascityfed.org/publications/research/escp/symposiums/escp-2018

 

 

Richmond Federal Reserve Bank published an article on Market Concentration.

Are Markets Too Concentrated?

Industries are increasingly concentrated in the hands of fewer firms. But is that a bad thing?

 

Click to access cover_story.pdf

Click to access full_issue.pdf

 

 

Washington Post published a story on market concentration in US companies.

Are U.S. Companies Too Big and Powerful? The Fed Wants to Know

https://www.washingtonpost.com/business/are-us-companies-too-big-and-powerful-the-fed-wants-to-know/2018/08/23/35891356-a6b0-11e8-ad6f-080770dcddc2_story.html?noredirect=on&utm_term=.9cb83dadde89

 

 

 

OECD held a joint conference with the World Bank and the IMF on Product Market Concentration, Inclusive Growth, and Regulation at OECD HQ, Paris, France. 11 June, 2018.

http://www.oecd.org/eco/reform/joint-imf-wb-oecd-conf-structural-reform-2018/

 

 

Please see my related posts

Rising Market Concentration and Declining Business Investments in the USA – Update June 2018

Shareholder Capitalism: Rising Market Concentration, Slower Productivity Growth, Rising Inequality, Rising Profits, and Rising Equities Markets

 

Low Interest Rates and Monetary Policy Effectiveness

Low Interest Rates and Monetary Policy Effectiveness

 

World economy is stuck in low interest rates environment.   Euro area, japan have even negative interest rates.  US Fed Reserve since December 2016 has started raising interest rates.

Attempts by Central Banks have not been effective in increasing economic growth.  Many Economists now are presenting counter intuitive reasons for low growth.

 

Please see my earlier related posts.

Business Investments and Low Interest Rates

Mergers and Acquisitions – Long Term Trends and Waves

 

Since 2016, there are several new studies published exploring effectiveness of monetary policy in low interest rates environment.

 

Is monetary policy less effective when interest rates are persistently low?

by Claudio Borio and Boris Hofmann

April 2017

Is Monetary Policy Less Effective When Interest Rates are Persistently Low?

 

In March 2017, Brookings Institution published the following study by the economists of the US Federal Reserve.

Monetary policy in a low interest rate world

 

Fed Reserve of Chicago published speech given by Charles Evans in 2016.

Monetary Policy in a Lower Interest Rate Environment

 

Lecture by Vítor Constâncio, Vice-President of the ECB, Macroeconomics Symposium at Utrecht School of Economics, 15 June 2016

The challenge of low real interest rates for monetary policy

 

Journal of Policy Modeling published a paper by Ken Rogoff.  Paper was presented at American Economic Association, 2017.

Monetary policy in a low interest rate world

 

Eight BIS CCA Research Conference on “Low interest rates, monetary policy and international spillovers”, hosted by the Board of Governors of the Federal Reserve System, Washington DC, 25-26 May 2017

Low interest rates, monetary policy and international spillovers

 

Economist Magazine published an article on views of Bill Gross and others.

November 2015

Do ultra-low interest rates really damage growth?

 

Bloomberg Business Week published an article describing views of Charles Calomiris and others.

June 2017

Is the World Overdoing Low Interest Rates?

 

Claudio Borio and Boris Hofmann

The Paper was prepared for the Reserve Bank of Australia conference
“Monetary Policy and Financial Stability in a World of Low Interest Rates”,

16-17 March 2017, Sydney

Is monetary policy less effective when interest rates are persistently low?

 

Monetary policy and bank lending in a low interest rate environment: diminishing effectiveness?

Claudio Borio and Leonardo Gambacorta

February 2017

Monetary policy and bank lending in a low interest rate environment: diminishing effectiveness?

 

Negative Interest Rate Policy (NIRP):
Implications for Monetary Transmission and Bank Profitability in the Euro Area

Prepared by Andreas (Andy) Jobst and Huidan Lin

IMF

August 2016

Negative Interest Rate Policy (NIRP): Implications for Monetary Transmission and Bank Profitability in the Euro Area

 

James Bullard, President and CEO of Federal Reserve Bank of St. Louis

March 24, 2009

The Henry Thornton Lecture, Cass Business School, London

Effective Monetary Policy in a Low Interest Rate Environment

 

Federal Reserve Bank of New York

Monetary Policy, Financial Conditions, and Financial Stability

Tobias Adrian
Nellie Liang

Monetary Policy, Financial Conditions, and Financial Stability

 

Monetary policy, the financial cycle and ultra-low interest rates

Mikael Juselius of Bank of Finland

DNB Workshop on “Estimating and Interpreting Financial Cycles”

Amsterdam, 2 September 2016

Monetary policy, the financial cycle and ultra-low interest rates

BIS Paper

Monetary policy, the financial cycle and ultra-low interest rates

 

The dynamics of real interest rates, monetary policy and its limits

Philippe d’Arvisenet

May 2016

The dynamics of real interest rates, monetary policy and its limits

 

Output Gaps and Monetary Policy at Low Interest Rates

By Roberto M. Billi

Output Gaps and Monetary Policy at Low Interest Rates

 

The insensitivity of investment to interest rates: Evidence from a survey of CFOs

Steve A. Sharpe and Gustavo A. Suarez

2014-02

The insensitivity of investment to interest rates: Evidence from a survey of CFOs

 

Does Prolonged Monetary Policy Easing Increase Financial Vulnerability?

Prepared by Stephen Cecchetti, Tommaso Mancini-Griffoli, and Machiko Narita

February 2017

Does Prolonged Monetary Policy Easing Increase Financial Vulnerability?

 

The Microeconomic Perils of Monetary Policy Experiments

Charles W. Calomiris

Cato Institute

The Microeconomic Perils of Monetary Policy Experiments

 

Why Have the Fed’s Policies Failed to Stimulate the Economy?

Mickey D. Levy

Cato Institute

Why Have the Fed’s Policies Failed to Stimulate the Economy?

Low Interest Rates and Banks’ Profitability : Update July 2017

Low Interest Rates and Banks’ Profitability : Update July 2017

 

Please see my previous posts.

Impact of Low Interest Rates on Bank’s Profitability

Low Interest Rates and Banks Profitability: Update – December 2016

 

Since December 2016, there are several new studies published which study low interest rates and Banks profitability.

 

 

Liberty State economics – a Blog of New York Federal Reserve has published a new column in June 2017.

Low Interest Rates and Bank Profits

 

 

Reduced Viability? Banks, Insurance Companies, and Low Interest Rates

CFA Institute

2016

CFA Institute Blog: Low Interest Rates and Banks

 

 

Changes in Profitability for Primary Dealers since the Financial Crisis

Benjamin Allen

Skidmore College

2017

Changes in Profitability for Primary Dealers since the Financial Crisis

 

 

Deloitte Consulting has published a new report in 2017 on Bank Models viability in environment of low interest rates.

Business model analysis European banking sector model in question

 

THE EFFECT OF NEGATIVE INTEREST RATES ON EUROPEAN BANKING
July 7, 2016
International banker

 

https://internationalbanker.com/banking/effect-negative-interest-rates-european-banking/

 

 

Low interest rates place a strain on the banks

bank of Finland

2016

https://www.bofbulletin.fi/en/2016/2/low-interest-rates-place-a-strain-on-the-banks/

 

 

The profitability of EU banks: Hard work or a lost cause?

KPMG

October 2016

 

https://assets.kpmg.com/content/dam/kpmg/xx/pdf/2016/10/the-profitability-of-eu-banks.pdf

 

 

The influence of monetary policy on bank profitability

Claudio Borio

2017

http://onlinelibrary.wiley.com/doi/10.1111/infi.12104/abstract

 

 

Can Low Interest Rates be Harmful: An Assessment of the Bank Risk-Taking Channel in Asia

2014

Asian Development Bank

 

https://www.adb.org/sites/default/files/publication/31204/reiwp-123-can-low-interest-rates-harmful.pdf

 

 

Determinants of bank’s interest margin in the aftermath of the crisis: the effect of interest rates and the yield curve slope

Paula Cruz-García, Juan Fernández de Guevara and Joaquín Maudos

 

http://www.uv.es/inteco/jornadas/jornadas13/Cruz-Garcia,%20Fernandez%20and%20Maudos_XIII%20Inteco%20Workshop.pdf

 

 

Dutch Central Bank has published a new study in November of 2016 on Banks’ Profitability and risk taking in a prolonged environment of Low Interest Rates.

Bank profitability and risk taking in a prolonged environment of low interest rates: a study of interest rate risk in the banking book of Dutch banks

 

 

Net interest margin in a low interest rate environment: Evidence for Slovenia

Net interest margin in a low interest rate environment: Evidence for Slovenia

 

Global Financial Stability Report, April 2017: Getting the Policy Mix Right

IMF

2017

IMF Global Financial Stability Report April 2017

 

 

Negative Interest Rates: Forecasting Banks’ Profitability in a New Environment

Stefan Kerbl, Michael Sigmund

Bank of Finland

Negative Interest Rates: Forecasting Banks’ Profitability in a New Environment

 

 

Low Interest Rates and the Financial System

Remarks by Jerome H. Powell
Member Board of Governors of the Federal Reserve System
at the 77th Annual Meeting of the American Finance Association
Chicago, Illinois
January 7, 2017

Click to access powell20170107a.pdf

 

 

Bad zero: Financial Stability in a Low Interest Rate Environment

Elena Carletti  Giuseppe Ferrero

18 June 2017

Click to access paper%20Carletti_Ferrero_18June2017_tcm47-360758.pdf

Short term Thinking in Investment Decisions of Businesses and Financial Markets

Short term Thinking in Investment Decisions of Businesses and Financial Markets

 

When companies buyback shares and pay dividends rather than investing in new capacity, it leads to low economic growth and low aggregate demand.

Central Banks respond by cutting interest rates.  Yet Businesses do not invest in new capacity.

Many studies attribute this to short term thinking dominant in corporate investment decisions.  Pressures from shareholders push corporate managers to be short term oriented.

Many economists and thinkers have criticized this recently as advanced economies are suffering from anemic growth.

Larry Summers has invoked Secular Stagnation.  He says one of the reason for Secular Stagnation is short term thinking.

Andy Haldane of Bank of England has criticized short term thinking as it prevents investments and causes low economic growth.

Key Terms:

  • Quarterly Capitalism
  • Secular Stagnation
  • Short Term Thinking
  • Low Economic Growth
  • Business Investments
  • Real Interest Rates
  • Monetary Policy
  • Income and Wealth Inequality
  • Aggregate Demand
  • Productive Capacity
  • Productivity growth
  • Long Term Investments
  • Share Buybacks
  • Dividends
  • Corporate Cash Pools

 

Capitalism for the Long Term

The near meltdown of the financial system and the ensuing Great Recession have been, and will remain, the defining issue for the current generation of executives. Now that the worst seems to be behind us, it’s tempting to feel deep relief—and a strong desire to return to the comfort of business as usual. But that is simply not an option. In the past three years we’ve already seen a dramatic acceleration in the shifting balance of power between the developed West and the emerging East, a rise in populist politics and social stresses in a number of countries, and significant strains on global governance systems. As the fallout from the crisis continues, we’re likely to see increased geopolitical rivalries, new international security challenges, and rising tensions from trade, migration, and resource competition. For business leaders, however, the most consequential outcome of the crisis is the challenge to capitalism itself.

That challenge did not just arise in the wake of the Great Recession. Recall that trust in business hit historically low levels more than a decade ago. But the crisis and the surge in public antagonism it unleashed have exacerbated the friction between business and society. On top of anxiety about persistent problems such as rising income inequality, we now confront understandable anger over high unemployment, spiraling budget deficits, and a host of other issues. Governments feel pressure to reach ever deeper inside businesses to exert control and prevent another system-shattering event.

My goal here is not to offer yet another assessment of the actions policymakers have taken or will take as they try to help restart global growth. The audience I want to engage is my fellow business leaders. After all, much of what went awry before and after the crisis stemmed from failures of governance, decision making, and leadership within companies. These are failures we can and should address ourselves.

In an ongoing effort that started 18 months ago, I’ve met with more than 400 business and government leaders across the globe. Those conversations have reinforced my strong sense that, despite a certain amount of frustration on each side, the two groups share the belief that capitalism has been and can continue to be the greatest engine of prosperity ever devised—and that we will need it to be at the top of its job-creating, wealth-generating game in the years to come. At the same time, there is growing concern that if the fundamental issues revealed in the crisis remain unaddressed and the system fails again, the social contract between the capitalist system and the citizenry may truly rupture, with unpredictable but severely damaging results.

Most important, the dialogue has clarified for me the nature of the deep reform that I believe business must lead—nothing less than a shift from what I call quarterly capitalism to what might be referred to as long-term capitalism. (For a rough definition of “long term,” think of the time required to invest in and build a profitable new business, which McKinsey research suggests is at least five to seven years.) This shift is not just about persistently thinking and acting with a next-generation view—although that’s a key part of it. It’s about rewiring the fundamental ways we govern, manage, and lead corporations. It’s also about changing how we view business’s value and its role in society.

There are three essential elements of the shift. First, business and finance must jettison their short-term orientation and revamp incentives and structures in order to focus their organizations on the long term. Second, executives must infuse their organizations with the perspective that serving the interests of all major stakeholders—employees, suppliers, customers, creditors, communities, the environment—is not at odds with the goal of maximizing corporate value; on the contrary, it’s essential to achieving that goal. Third, public companies must cure the ills stemming from dispersed and disengaged ownership by bolstering boards’ ability to govern like owners.

When making major decisions, Asians typically think in terms of at least 10 to 15 years. In the U.S. and Europe, nearsightedness is the norm.

None of these ideas, or the specific proposals that follow, are new. What is new is the urgency of the challenge. Business leaders today face a choice: We can reform capitalism, or we can let capitalism be reformed for us, through political measures and the pressures of an angry public. The good news is that the reforms will not only increase trust in the system; they will also strengthen the system itself. They will unleash the innovation needed to tackle the world’s grand challenges, pave the way for a new era of shared prosperity, and restore public faith in business.

1. Fight the Tyranny of Short-Termism

As a Canadian who for 25 years has counseled business, public sector, and nonprofit leaders across the globe (I’ve lived in Toronto, Sydney, Seoul, Shanghai, and now London), I’ve had a privileged glimpse into different societies’ values and how leaders in various cultures think. In my view, the most striking difference between East and West is the time frame leaders consider when making major decisions. Asians typically think in terms of at least 10 to 15 years. For example, in my discussions with the South Korean president Lee Myung-bak shortly after his election in 2008, he asked us to help come up with a 60-year view of his country’s future (though we settled for producing a study called National Vision 2020.) In the U.S. and Europe, nearsightedness is the norm. I believe that having a long-term perspective is the competitive advantage of many Asian economies and businesses today.

Myopia plagues Western institutions in every sector. In business, the mania over quarterly earnings consumes extraordinary amounts of senior time and attention. Average CEO tenure has dropped from 10 to six years since 1995, even as the complexity and scale of firms have grown. In politics, democracies lurch from election to election, with candidates proffering dubious short-term panaceas while letting long-term woes in areas such as economic competitiveness, health, and education fester. Even philanthropy often exhibits a fetish for the short term and the new, with grantees expected to become self-sustaining in just a few years.

Lost in the frenzy is the notion that long-term thinking is essential for long-term success. Consider Toyota, whose journey to world-class manufacturing excellence was years in the making. Throughout the 1950s and 1960s it endured low to nonexistent sales in the U.S.—and it even stopped exporting altogether for one bleak four-year period—before finally emerging in the following decades as a global leader. Think of Hyundai, which experienced quality problems in the late 1990s but made a comeback by reengineering its cars for long-term value—a strategy exemplified by its unprecedented introduction, in 1999, of a 10-year car warranty. That radical move, viewed by some observers as a formula for disaster, helped Hyundai quadruple U.S. sales in three years and paved the way for its surprising entry into the luxury market.

To be sure, long-term perspectives can be found in the West as well. For example, in 1985, in the face of fierce Japanese competition, Intel famously decided to abandon its core business, memory chips, and focus on the then-emerging business of microprocessors. This “wrenching” decision was “nearly inconceivable” at the time, says Andy Grove, who was then the company’s president. Yet by making it, Intel emerged in a few years on top of a new multi-billion-dollar industry. Apple represents another case in point. The iPod, released in 2001, sold just 400,000 units in its first year, during which Apple’s share price fell by roughly 25%. But the board took the long view. By late 2009 the company had sold 220 million iPods—and revolutionized the music business.

It’s fair to say, however, that such stories are countercultural. In the 1970s the average holding period for U.S. equities was about seven years; now it’s more like seven months. According to a recent paper by Andrew Haldane, of the Bank of England, such churning has made markets far more volatile and produced yawning gaps between corporations’ market price and their actual value. Then there are the “hyperspeed” traders (some of whom hold stocks for only a few seconds), who now account for 70% of all U.S. equities trading, by one estimate. In response to these trends, executives must do a better job of filtering input, and should give more weight to the views of investors with a longer-term, buy-and-hold orientation.

If they don’t, short-term capital will beget short-term management through a natural chain of incentives and influence. If CEOs miss their quarterly earnings targets, some big investors agitate for their removal. As a result, CEOs and their top teams work overtime to meet those targets. The unintended upshot is that they manage for only a small portion of their firm’s value. When McKinsey’s finance experts deconstruct the value expectations embedded in share prices, we typically find that 70% to 90% of a company’s value is related to cash flows expected three or more years out. If the vast majority of most firms’ value depends on results more than three years from now, but management is preoccupied with what’s reportable three months from now, then capitalism has a problem.

Roughly 70% of all U.S. equities trading is now done by “hyperspeed” traders—some of whom hold stocks for only a few seconds.

Some rightly resist playing this game. Unilever, Coca-Cola, and Ford, to name just a few, have stopped issuing earnings guidance altogether. Google never did. IBM has created five-year road maps to encourage investors to focus more on whether it will reach its long-term earnings targets than on whether it exceeds or misses this quarter’s target by a few pennies. “I can easily make my numbers by cutting SG&A or R&D, but then we wouldn’t get the innovations we need,” IBM’s CEO, Sam Palmisano, told us recently. Mark Wiseman, executive vice president at the Canada Pension Plan Investment Board, advocates investing “for the next quarter century,” not the next quarter. And Warren Buffett has quipped that his ideal holding period is “forever.” Still, these remain admirable exceptions.

To break free of the tyranny of short-termism, we must start with those who provide capital. Taken together, pension funds, insurance companies, mutual funds, and sovereign wealth funds hold $65 trillion, or roughly 35% of the world’s financial assets. If these players focus too much attention on the short term, capitalism as a whole will, too.

In theory they shouldn’t, because the beneficiaries of these funds have an obvious interest in long-term value creation. But although today’s standard practices arose from the desire to have a defensible, measurable approach to portfolio management, they have ended up encouraging shortsightedness. Fund trustees, often advised by investment consultants, assess their money managers’ performance relative to benchmark indices and offer only short-term contracts. Those managers’ compensation is linked to the amount of assets they manage, which typically rises when short-term performance is strong. Not surprisingly, then, money managers focus on such performance—and pass this emphasis along to the companies in which they invest. And so it goes, on down the line.

Only 45% of those surveyed in the U.S. and the UK expressed trust in business. This stands in stark contrast to developing countries: For example, the figure is 61% in China, 70% in India, and 81% in Brazil.

As the stewardship advocate Simon Wong points out, under the current system pension funds deem an asset manager who returns 10% to have underperformed if the relevant benchmark index rises by 12%. Would it be unthinkable for institutional investors instead to live with absolute gains on the (perfectly healthy) order of 10%—especially if they like the approach that delivered those gains—and review performance every three or five years, instead of dropping the 10-percenter? Might these big funds set targets for the number of holdings and rates of turnover, at least within the “fundamental investing” portion of their portfolios, and more aggressively monitor those targets? More radically, might they end the practice of holding thousands of stocks and achieve the benefits of diversification with fewer than a hundred—thereby increasing their capacity to effectively engage with the businesses they own and improve long-term performance? Finally, could institutional investors beef up their internal skills and staff to better execute such an agenda? These are the kinds of questions we need to address if we want to align capital’s interests more closely with capitalism’s.

2. Serve Stakeholders, Enrich Shareholders

The second imperative for renewing capitalism is disseminating the idea that serving stakeholders is essential to maximizing corporate value. Too often these aims are presented as being in tension: You’re either a champion of shareholder value or you’re a fan of the stakeholders. This is a false choice.

The inspiration for shareholder-value maximization, an idea that took hold in the 1970s and 1980s, was reasonable: Without some overarching financial goal with which to guide and gauge a firm’s performance, critics feared, managers could divert corporate resources to serve their own interests rather than the owners’. In fact, in the absence of concrete targets, management might become an exercise in politics and stakeholder engagement an excuse for inefficiency. Although this thinking was quickly caricatured in popular culture as the doctrine of “greed is good,” and was further tarnished by some companies’ destructive practices in its name, in truth there was never any inherent tension between creating value and serving the interests of employees, suppliers, customers, creditors, communities, and the environment. Indeed, thoughtful advocates of value maximization have always insisted that it is long-term value that has to be maximized.

Capitalism’s founding philosopher voiced an even bolder aspiration. “All the members of human society stand in need of each others assistance, and are likewise exposed to mutual injuries,” Adam Smith wrote in his 1759 work, The Theory of Moral Sentiments. “The wise and virtuous man,” he added, “is at all times willing that his own private interest should be sacrificed to the public interest,” should circumstances so demand.

Smith’s insight into the profound interdependence between business and society, and how that interdependence relates to long-term value creation, still reverberates. In 2008 and again in 2010, McKinsey surveyed nearly 2,000 executives and investors; more than 75% said that environmental, social, and governance (ESG) initiatives create corporate value in the long term. Companies that bring a real stakeholder perspective into corporate strategy can generate tangible value even sooner. (See the sidebar “Who’s Getting It Right?”)

Creating direct business value, however, is not the only or even the strongest argument for taking a societal perspective. Capitalism depends on public trust for its legitimacy and its very survival. According to the Edelman public relations agency’s just-released 2011 Trust Barometer, trust in business in the U.S. and the UK (although up from mid-crisis record lows) is only in the vicinity of 45%. This stands in stark contrast to developing countries: For example, the figure is 61% in China, 70% in India, and 81% in Brazil. The picture is equally bleak for individual corporations in the Anglo-American world, “which saw their trust rankings drop again last year to near-crisis lows,” says Richard Edelman.

How can business leaders restore the public’s trust? Many Western executives find that nothing in their careers has prepared them for this new challenge. Lee Scott, Walmart’s former CEO, has been refreshingly candid about arriving in the top job with a serious blind spot. He was plenty busy minding the store, he says, and had little feel for the need to engage as a statesman with groups that expected something more from the world’s largest company. Fortunately, Scott was a fast learner, and Walmart has become a leader in environmental and health care issues.

Tomorrow’s CEOs will have to be, in Joseph Nye’s apt phrase, “tri-sector athletes”: able and experienced in business, government, and the social sector. But the pervading mind-set gets in the way of building those leadership and management muscles. “Analysts and investors are focused on the short term,” one executive told me recently. “They believe social initiatives don’t create value in the near term.” In other words, although a large majority of executives believe that social initiatives create value in the long term, they don’t act on this belief, out of fear that financial markets might frown. Getting capital more aligned with capitalism should help businesses enrich shareholders by better serving stakeholders.

3. Act Like You Own the Place

As the financial sector’s troubles vividly exposed, when ownership is broadly fragmented, no one acts like he’s in charge. Boards, as they currently operate, don’t begin to serve as a sufficient proxy. All the Devils Are Here, by Bethany McLean and Joe Nocera, describes how little awareness Merrill Lynch’s board had of the firm’s soaring exposure to subprime mortgage instruments until it was too late. “I actually don’t think risk management failed,” Larry Fink, the CEO of the investment firm BlackRock, said during a 2009 debate about the future of capitalism, sponsored by the Financial Times. “I think corporate governance failed, because…the boards didn’t ask the right questions.”

What McKinsey has learned from studying successful family-owned companies suggests a way forward: The most effective ownership structure tends to combine some exposure in the public markets (for the discipline and capital access that exposure helps provide) with a significant, committed, long-term owner. Most large public companies, however, have extremely dispersed ownership, and boards rarely perform the single-owner-proxy role. As a result, CEOs too often listen to the investors (and members of the media) who make the most noise. Unfortunately, those parties tend to be the most nearsighted ones. And so the tyranny of the short term is reinforced.

The answer is to renew corporate governance by rooting it in committed owners and by giving those owners effective mechanisms with which to influence management. We call this ownership-based governance, and it requires three things:

Just 43% of the nonexecutive directors of public companies believe they significantly influence strategy. For this to change, board members must devote much more time to their roles.

More-effective boards.

In the absence of a dominant shareholder (and many times when there is one), the board must represent a firm’s owners and serve as the agent of long-term value creation. Even among family firms, the executives of the top-performing companies wield their influence through the board. But only 43% of the nonexecutive directors of public companies believe they significantly influence strategy. For this to change, board members must devote much more time to their roles. A government-commissioned review of the governance of British banks last year recommended an enormous increase in the time required of nonexecutive directors of banks—from the current average, between 12 and 20 days annually, to between 30 and 36 days annually. What’s especially needed is an increase in the informal time board members spend with investors and executives. The nonexecutive board directors of companies owned by private equity firms spend 54 days a year, on average, attending to the company’s business, and 70% of that time consists of informal meetings and conversations. Four to five days a month obviously give a board member much greater understanding and impact than the three days a quarter (of which two may be spent in transit) devoted by the typical board member of a public company.

Boards also need much more relevant experience. Industry knowledge—which four of five nonexecutive directors of big companies lack—helps boards identify immediate opportunities and reduce risk. Contextual knowledge about the development path of an industry—for example, whether the industry is facing consolidation, disruption from new technologies, or increased regulation—is highly valuable, too. Such insight is often obtained from experience with other industries that have undergone a similar evolution.

In addition, boards need more-effective committee structures—obtainable through, for example, the establishment of a strategy committee or of dedicated committees for large business units. Directors also need the resources to allow them to form independent views on strategy, risk, and performance (perhaps by having a small analytical staff that reports only to them). This agenda implies a certain professionalization of nonexecutive directorships and a more meaningful strategic partnership between boards and top management. It may not please some executive teams accustomed to boards they can easily “manage.” But given the failures of governance to date, it is a necessary change.

More-sensible CEO pay.

An important task of governance is setting executive compensation. Although 70% of board directors say that pay should be tied more closely to performance, CEO pay is too often structured to reward a leader simply for having made it to the top, not for what he or she does once there. Meanwhile, polls show that the disconnect between pay and performance is contributing to the decline in public esteem for business.

Companies should create real risk for executives.Some experts privately suggest mandating that new executives invest a year’s salary in the company.

CEOs and other executives should be paid to act like owners. Once upon a time we thought that stock options would achieve this result, but stock-option- based compensation schemes have largely incentivized the wrong behavior. When short-dated, options lead to a focus on meeting quarterly earnings estimates; even when long-dated (those that vest after three years or more), they can reward managers for simply surfing industry- or economy-wide trends (although reviewing performance against an appropriate peer index can help minimize free rides). Moreover, few compensation schemes carry consequences for failure—something that became clear during the financial crisis, when many of the leaders of failed institutions retired as wealthy people.

There will never be a one-size-fits-all solution to this complex issue, but companies should push for change in three key areas:

• They should link compensation to the fundamental drivers of long-term value, such as innovation and efficiency, not just to share price.

• They should extend the time frame for executive evaluations—for example, using rolling three-year performance evaluations, or requiring five-year plans and tracking performance relative to plan. This would, of course, require an effective board that is engaged in strategy formation.

• They should create real downside risk for executives, perhaps by requiring them to put some skin in the game. Some experts we’ve surveyed have privately suggested mandating that new executives invest a year’s salary in the company.

Redefined shareholder “democracy.”

The huge increase in equity churn in recent decades has spawned an anomaly of governance: At any annual meeting, a large number of those voting may soon no longer be shareholders. The advent of high-frequency trading will only worsen this trend. High churn rates, short holding periods, and vote-buying practices may mean the demise of the “one share, one vote” principle of governance, at least in some circumstances. Indeed, many large, top-performing companies, such as Google, have never adhered to it. Maybe it’s time for new rules that would give greater weight to long-term owners, like the rule in some French companies that gives two votes to shares held longer than a year. Or maybe it would make sense to assign voting rights based on the average turnover of an investor’s portfolio. If we want capitalism to focus on the long term, updating our notions of shareholder democracy in such ways will soon seem less like heresy and more like common sense.

While I remain convinced that capitalism is the economic system best suited to advancing the human condition, I’m equally persuaded that it must be renewed, both to deal with the stresses and volatility ahead and to restore business’s standing as a force for good, worthy of the public’s trust. The deficiencies of the quarterly capitalism of the past few decades were not deficiencies in capitalism itself—just in that particular variant. By rebuilding capitalism for the long term, we can make it stronger, more resilient, more equitable, and better able to deliver the sustainable growth the world needs. The three imperatives outlined above can be a start along this path and, I hope, a way to launch the conversation; others will have their own ideas to add.

The kind of deep-seated, systemic changes I’m calling for can be achieved only if boards, business executives, and investors around the world take responsibility for bettering the system they lead. Such changes will not be easy; they are bound to encounter resistance, and business leaders today have more than enough to do just to keep their companies running well. We must make the effort regardless. If capitalism emerges from the crisis vibrant and renewed, future generations will thank us. But if we merely paper over the cracks and return to our precrisis views, we will not want to read what the historians of the future will write. The time to reflect—and to act—is now.

 

Please see my other related posts.

Business Investments and Low Interest Rates

Mergers and Acquisitions – Long Term Trends and Waves

 

 

Key sources of Research:

Secular stagnation and low investment: Breaking the vicious cycle—a discussion paper

McKinsey

http://www.mckinsey.com/global-themes/europe/secular-stagnation-and-low-investment-breaking-the-vicious-cycle

Case Still Out on Whether Corporate Short-Termism Is a Problem

Larry Summers

http://larrysummers.com/2017/02/09/case-still-out-on-whether-corporate-short-termism-is-a-problem/

Where companies with a long-term view outperform their peers

McKinsey

http://www.mckinsey.com/global-themes/long-term-capitalism/where-companies-with-a-long-term-view-outperform-their-peers

How short-term thinking hampers long-term economic growth

FT

https://www.ft.com/content/8c868a98-b821-11e4-b6a5-00144feab7de

Anthony Hilton: Short-term thinking hits nations as a whole, not just big business

http://www.standard.co.uk/comment/comment/anthony-hilton-short-term-thinking-hits-nations-as-a-whole-not-just-big-business-10427294.html

Short-termism in business: causes, mechanisms and consequences

EY Poland Report

Click to access Short-termism_raport_EY.pdf

Overcoming the Barriers to Long-term Thinking in Financial Markets

Ruth Curran and Alice Chapple
Forum for the Future

Click to access long-term-thinking-fpf-report-july-11.pdf

Understanding Short-Termism: Questions and Consequences

Click to access Understanding-Short-Termism.pdf

Ending Short-Termism : An Investment Agenda for Growth

Click to access Ending-Short-Termism.pdf

The Short Long

Speech by
Andrew G Haldane, Executive Director, Financial Stability, and Richard Davies

Brussels May 2011

Click to access speech495.pdf

Capitalism for the Long Term

Dominic Barton

From the March 2011 Issue

https://hbr.org/2011/03/capitalism-for-the-long-term

Quarterly capitalism: The pervasive effects of short-termism and austerity

https://currentlyunderdevelopment.wordpress.com/2016/05/10/quarterly-capitalism-the-pervasive-effects-of-short-termism-and-austerity/

Is Short-Term Behavior Jeopardizing the Future Prosperity of Business?

Click to access IsShortTermBehaviorJeopardizingTheFutureProsperityOfBusiness_CEOStrategicimplications.pdf

Andrew G Haldane: The short long

Speech by Mr Andrew Haldane, Executive Director, Financial Stability, and Mr Richard
Davies, Economist, Financial Institutions Division, Bank of England,
at the 29th Société
Universitaire Européene de Recherches Financières Colloquium,
Brussels, 11 May 2011

Click to access r110511e.pdf

THE UNEASY CASE FOR FAVORING LONG-TERM SHAREHOLDERS

Jesse M. Fried

https://dash.harvard.edu/bitstream/handle/1/17985223/Fried_795.pdf?sequence=1

The fringe economic theory that might get traction in the 2016 campaign

https://www.washingtonpost.com/news/wonk/wp/2015/03/02/the-fringe-economic-theory-that-might-get-traction-in-the-2016-campaign/?utm_term=.932bc0b97758

FCLT Global:  Focusing Capital on the Long Term

Publications

http://www.fcltglobal.org/insights/publications

Finally, Evidence That Managing for the Long Term Pays Off

Dominic Barton

James Manyika

Sarah Keohane Williamson

February 07, 2017 UPDATED February 09, 2017

https://hbr.org/2017/02/finally-proof-that-managing-for-the-long-term-pays-off

Focusing Capital on the Long Term

Dominic Barton

Mark Wiseman

From the January–February 2014 Issue

Is Corporate Short-Termism Really a Problem? The Jury’s Still Out

Lawrence H. Summers

February 16, 2017

Yes, Short-Termism Really Is a Problem

Roger L. Martin

October 09, 2015

Long-Termism or Lemons

The Role of Public Policy in Promoting Long-Term Investments

By Marc Jarsulic, Brendan V. Duke, and Michael Madowitz October 2015

Center for American Progress

Click to access LongTermism-reportB.pdf

 

Overcoming Short-termism: A Call for A More Responsible Approach to Investment and Business Management

https://corpgov.law.harvard.edu/2009/09/11/overcoming-short-termism-a-call-for-a-more-responsible-approach-to-investment-and-business-management/

 

 

Focusing capital on the Long Term

Jean-Hugues Monier – Senior Parter – McKinsey & Company

Princeton University – November 2016

Click to access jean-hugues_j._monier_slides_final.pdf

Economics of Money, Credit and Debt

Economics of Money, Credit and Debt

Global Financial Crisis and subsequent Global recession ( Secular Stagnation) has invoked lot of research in the causes of GFC.  Post Keynesian Economists were particularly correct about predicting the GFC.  Main stream Neoclassical Economists and their DSGE models did not predict the crisis.  Great Moderation was the main explanation given by neoclassical economists.  Low volatility in economic growth was seen as calm waters with no turbulence ahead.  GFC proved them wrong.

There are several development prior to GFC.

  • Role of Financial Sector
  • Rise of Credit and Debt
  • Rise of Shadow Banking
  • Securitization
  • Financial Globalization
  • Income Inequality
  • Lowered Credit standards
  • Lowered ratings standards by Rating Agencies
  • Global Capital flows

There are several outstanding researchers who are developing new ideas and thinking about the Banks, Money, Credit and Debt, Shadow Banking, Income Inequality, Effective demand, Low Interest Rates, Endogenous money and others.

  • Hierarchy of Money and Credit
  • Institutionalism
  • Accounting Approach
  • Quadruple Entry system
  • Endogenous Sources of Instability
  • Credit is debt 
  • Inherent Instability of Credit
  • Endogenous Creation of Money
  • Effective Demand
  • Lender of Last Resort
  • Open Economies
  • Interlinkages among economic agents 
  • Effectiveness of Monetary Policies
  • Federal Reserve Open Market operations
  • Shadow Banking
  • Fiscal Policies
  • Global Coordination and Cooperation
  • International Lender of Last Resort
  • Swap Network Among Central Banks
  • Regulation of Banks
  • Liquidity and Solvency
  • Capital, Reserve, Liquidity Ratios
  • Capital Flows across borders
  • Linkages among Financial Markets
  • Cross border Spillovers
  • Impact of Low Interest Rates
  • Stock flow Consistency
  • Essential Hybridity ( Public vs Private Money, Local vs Global )
  • Interdependence among Markets, Institutions and Market Infrastructure
  • Payment, clearing and Settlement Systems
  • Interlinked Balancesheets, Credit Chains, Repo Chains

 

Key People:

  • Steve Keen
  • Marc Lavoie
  • Dirk Bezemer
  • Richard Werner
  • Perry Mehrling
  • Hyun Song Shin

Also see

  • Richard Koo
  • Adair Turner
  • Gennaro  Zezza
  • Wynn Godley
  • Hyman Minsky
  • Zoltan Pozsar
  • Claudio Borio

 

Key Sources of Research:

 

The Inherent Hierarchy of Money

Perry Mehrling

January 25, 2012

 

Click to access Mehrling_P_FESeminar_Sp12-02.pdf

 

 

Economics of Credit and Debt

Daniel H. Neilson†

18 November 2012

 

Click to access inet2012neilson_economicsofcredit.pdf

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The New Lombard Street How the Fed became the dealer of last resort

Perry Mehrling April 4, 2010

 

http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.461.6478&rep=rep1&type=pdf

 

 

Why central banking should be re-imagined

Perry Mehrling

 

Click to access bispap79i.pdf

 

 

A Money View of Credit and Debt

November 4, 2012

Perry Mehrling

Click to access inet2012mehrling_amoneyviewofcreditanddebt.pdf

 

 

Why is money difficult?

Perry Mehrling

BCRA, Buenos Aires

June 4, 2015

 

Click to access JMB_2015_Mehrling.pdf

 

 

Central Bank Deleveraging and Financial Sector Regulation

Perry Mehrling

Minsky Conference, DC

April 15, 2015

Click to access minsky2015_mehrling.pdf

 

 

Modern Money: Fiat or Credit?

Author(s): Perry Mehrling
Source: Journal of Post Keynesian Economics, Vol. 22, No. 3 (Spring, 2000), pp. 397-406

 

Click to access Mehrling%20Fiat.pdf

 

 

Shadow Banking, Central Banking, and the Future of Global Finance

Perry Mehrling

Shadow Banking: A European Perspective City University London
Feb 2, 2013

 

Click to access Mehrling_Future-Global-Finance-126sn0t.pdf

 

Five Key Features of Modern Monetary Systems

New Thinking in Finance, London February 12, 2014

Perry Mehrling

 

Click to access 20140212_0930_Perry_Mehrling.pdf

 

 

Elasticity and Discipline in the Global Swap Network

Perry Mehrling1∗

Working Paper No. 27 November 12, 2015

 

Click to access WP27-Mehrling.pdf

 

 

The Credit Money and State Money Approaches

L. Randall Wray

Working Paper No. 32

April 2004

 

Click to access wray_-_state_and_credit_theories_of_money.pdf

 

 

Bagehot was a Shadow Banker:
Shadow Banking, Central Banking, and the Future of Global Finance

Perry Mehrling, Zoltan Pozsar, James Sweeney, Daniel H. Neilson

February 22, 2013

 

Click to access Paper_Sweeney.pdf

 

 

The rise of asset management and capital market-based financing: a cyclical or a structural shift?

Perry Mehrling

ECMI, Brussels October 20, 2015

 

Click to access Perry%20Mehrling.pdf

 

 

 

Credit theory of money

http://research.omicsgroup.org/index.php/Credit_theory_of_money

 

 

The Credit Theory of Money

By A. Mitchell Innes

From The Banking Law Journal, Vol. 31 (1914), Dec./Jan., Pages 151-168.

https://www.community-exchange.org/docs/The%20Credit%20Theoriy%20of%20Money.htm

 

 

WHAT IS MONEY?

By A. MITCHELL INNES

From The Banking Law Journal, May 1913.

https://www.community-exchange.org/docs/what%20is%20money.htm

 

 

Schumpeter Might Be Right Again: The Functional Differentiation of Credit

 

Dirk J. Bezemer

 

Click to access the_functional_differentiation_of_credit.pdf

 

 

The post-Keynesian economics of credit and debt

Marc Lavoie
Department of Economics, University of Ottawa

November 2012

 

 

Click to access inet2012lavoie_post-keynesianeconomics.pdf

 

 

The role of State and the Hierarchy of Money

Stephanie Bell

2001

Click to access Bell%20The%20Role%20of%20the%20State%20and%20the%20Hierarchy%20of%20Money.pdf

 

 

THE HIERARCHY OF MONEY

Stephanie Bell

1998

 

Click to access 231.pdf

 

 

Towards a theory of shadow money

Daniela Gabor and Jakob Vestergaard

Click to access Towards_Theory_Shadow_Money_GV_INET.pdf

 

 

The economic consequences of “market-based” lending

Carolyn Sissoko

May 24, 2016

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2766693

 

 

Money creation in the modern economy

Michael McLeay, Amar Radia and Ryland Thomas

 

Click to access qb14q1prereleasemoneycreation.pdf

 

 

Money in the modern economy: an introduction

Michael McLeay, Amar Radia and Ryland Thomas

Click to access qb14q1prereleasemoneyintro.pdf

 

 

Banks are not intermediaries of loanable funds — and why this matters

Zoltan Jakab  and Michael Kumhof

Click to access wp529.pdf

 

 

Where Does Money Come From?

NEF

2012

http://www.neweconomics.org/publications/entry/where-does-money-come-from

 

 

Explaining money creation by commercial banks: Five analogies for public education

 

Ib Ravn

Click to access Ravn71.pdf

 

 

The Truth about Banks 

Michael Kumhof and Zoltán Jakab

2016

 

Click to access kumhof.pdf

 

 

How do banks create money, and why can other firms not do the same? An explanation for the coexistence of lending and deposit-taking 

Richard A. Werner

2014

http://www.sciencedirect.com/science/article/pii/S1057521914001434

 

 

Can banks individually create money out of nothing? — The theories and the empirical evidence 

Richard A. Werner

http://www.sciencedirect.com/science/article/pii/S1057521914001070

 

 

A lost century in economics: Three theories of banking and the conclusive evidence

Richard A. Werner

2016

http://www.sciencedirect.com/science/article/pii/S1057521915001477

 

 

Money and credit as means of payment: A new monetarist approach 

Sébastien Lotza, , Cathy Zhang

http://www.sciencedirect.com/science/article/pii/S0022053115001441

 

 

Head and Tail of Money Creation and its System Design Failures

– Toward the Alternative System Design

2016

Kaoru Yamaguchi, Ph.D.

Yokei Yamaguchi

Click to access Head-and-Tail-2016_WP__-_Japan_Futures_Research_Center.pdf

 

 

Applying the Quantity Theory of Credit: The role of the ECB in the propagation of the European financial and sovereign debt crisis and the policy implications

Professor Richard A. Werner

Click to access werner_qtc_ecb_and_policy.pdf

 

 

Towards a New Research Programme on ‘Banking and the Economy

Implications of the Quantity Theory of Credit for the Prevention and Resolution of Banking and Debt Crises

Richard A. Werner

Click to access Werner_IRFA_QTC_2012.pdf

 

 

ECONOMICS AS IF BANKS MATTERED: A CONTRIBUTION  BASED ON THE INDUCTIVE METHODOLOGY

RICHARD WERNER

 

Click to access 41_Man_Sch_2011_Werner_Disaggregated_Credit.pdf

 

 

The Quantity Theory of Credit and Some of its Applications

Richard Werner

 

Click to access RW301012PPT.pdf

 

 

Banks As Social Accountants And Social Controllers: Credit and Crisis in Historical Perspective

Dirk J Bezemer

 

Click to access MPRA_paper_15766.pdf

 

 

MONETARY POLICY AND FINANCIAL STABILITY IN THE MODERN ECONOMY

Adair Turner

2016

 

Click to access aturner_2016.pdf

 

 

Towards a New Monetary Paradigm: A Quantily Theorem of Disaggregated Credit evidence from Japan

Richard A. Werner

1997

 

Click to access KK_97_Disaggregated_Credit.pdf

 

 

Do shadow Banks Create Money?

Jo Michell

2016

 

Click to access PKWP1605.pdf

 

 

The political economy of repo markets

Daniela Gabor

 

Click to access gabor_political_economy_of_repo_markets_0.pdf

Bezemer, Dirk J.

 

 

“This is Not a Credit Crisis–It is a Debt Crisis.”

Economic Affairs 29.3 (2009): 95-97.

Click to access 0deec52ce89025980b000000.pdf

 

 

Explaining the Great Moderation: Credit and the Macroeconomy Revisited

D Bezemer

2009

 

Click to access MPRA_paper_15893.pdf

 

 

Understanding financial crisis through accounting models

Dirk J. Bezemer

2010

 

Click to access 00b4952ce88deab0d2000000.pdf

 

 

“No One Saw This Coming”

Understanding Financial Crisis Through Accounting Models*

Dirk J Bezemer

Click to access Study-Bezemer-No-one-saw-this-coming.pdf

 

 

Credit In Current Orthodoxy: An Appraisal

Dirk J Bezemer

Click to access Bezemer.pdf

 

 

From Boom to Bust in the Credit Cycle: the Role of Mortgage Credit

By DIRK BEZEMER AND LU ZHANG

September 4, 2014

Click to access 14025_GEM_def.pdf

 

 

A Monetary Minsky model of the Great Moderation and the Great Recession

Steve Keen

2011

Click to access JEBO_2672.pdf

 

 

Balance Sheet Recession as the Other-Half of Macroeconomics

Richard C. Koo

Chief Economist Nomura Research Institute

October 14, 2012

The World in Balance Sheet Recession: What Post-2008 West Can Learn from Japan 1990-2005

 

Richard C. Koo Chief Economist

2012
Central Banks in Balance Sheet Recessions: A Search for Correct Response

 

Richard C. Koo

Chief Economist Nomura Research Institute

March 31, 2013

 

 

 

DEBT, MONEY AND MEPHISTOPHELES: HOW DO WE GET OUT OF THIS MESS?

ADAIR TURNER

2013

Click to access DEBT-MONEY-AND-MEPHISTOPHELES-HOW-DO-WE-GET-OUT-OF-THIS-MESS.pdf

 

 

 

DEBT AND LENDING: A CRI DE COEUR

wynne godley and gennaro zezza

2006

Click to access pn_4_06.pdf

 

 

 

Are Housing Prices, Household Debt, and Growth Sustainable?
Dimitri B. Papadimitriou  Edward Chilcote  Gennaro Zezza

January 2006

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1833609

 

 

 

How Fragile is the U.S. Economy?

DIMITRI B. PAPADIMITRIOU, ANWAR M. SHAIKH, CLAUDIO H. DOS SANTOS

and GENNARO ZEZZA

2005

Click to access stratan-feb-05-draft.pdf