Perhaps Shakespeare should have written...

Let’s kill all the bankers. Martin Wolf has hit the proverbial nail but sadly not on a banker’s head:

My interpretation of the Libor scandal is the obvious one: banks, as presently constituted and managed, cannot be trusted to perform any publicly important function, against the perceived interests of their staff. Today’s banks represent the incarnation of profit-seeking behaviour taken to its logical limits, in which the only question asked by senior staff is not what is their duty or their responsibility, but what can they get away with.

And if I’m reading this right a call to return to the Glass-Steagall days.

By misreporting lower LIBOR rates the banks (and I won’t be surprised if it’s limited to Barclay’s) have potentially raised borrowing costs for multiple entities including countries. Banks and the financial sector as a whole are causing negative externalities which are not being internalized by each individual bank.

The Coasian approach would be to ask whether property rights are well defined and if this is the case then private transactions or the tort system would be one way to realign the interests. If property rights are not well-defined then the legal system can be used to define them.

Consider the subprime crisis. I take out a subprime loan and think that I have partially owned my house. Unfortunately, the shenanigans of the financial sector have made it difficult for me to make my payments. Perhaps the recourse should have been not to repossess the delinquent property by the bank but for the homeowner to sue the bank. (I wonder Shakespeare would have said to having both lawyers and bankers solve each other’s problems.)

Unfortunately, doing so puts the entire financial system and the economy in jeopardy by weakening the balance sheet of the banks. Property rights cannot be assigned here. If systemic risk could be accurately measured then perhaps a market of tradable systemic risks could be created. As much as free-market advocates would like to believe that the sector can discipline itself it is more than apparent now that it cannot. The financial sector should be treated as a public good and regulated as such - countercyclical capital requirements are a start and some type of externality tax would perhaps be the way to go although this would be extremely difficult to get right.