For a state bank

In the FT, Gerry Holtham - one of Wales’ most celebrated economists - is arguing for a National Investment Bank. I’m inclined to side with him and Duncan on this, and against the idea that it is a clinching argument against such a bank that it will lead to politically-directed lending. I say so for six reasons:
1. It’s quite possible to organize such a bank to be at least a little autonomous of government. The Bank of England and BBC aren’t politicians’ playthings, so why must a National Investment Bank be?
2. In our current pickle, any lending at all would be a help in macroeconomic terms.
3. Yes, many of the lending decisions of state bureaucrats are likely to be poor ones. But this is an inevitable consequence of the fact that the future is inherently unknowable. The relevant benchmark against which to judge a state bank is not some mythical counterfactual of perfect decisions but rather the real world of banking in which lending is also systematically misdirected. Would over-lending to “green” companies really be worse than booms in property lending, which is what the private sector gives us, when it gives generous loans at all?
4. Many of the costs of misdirected lending are second-order (the diversion of resources towards bad companies) whereas the costs of insufficient lending are first-order (lower GDP). It takes a lot of Harberger triangles to fill an Okun gap.
5. Yes, many western countries have gotten rich through free market institutions. But these are get rich slow schemes. We are rich because we’ve had 200 years of 1-2% growth. Societies that have enjoyed a few decades of 6-7% growth, such as the more successful Asian tigers, have done so with state involvement. See the work of Ha-Joon Chang, such as this paper.
6. Yes, it is easier for nations to grow fast if they are behind the technological frontier than if they are near it. But it‘s not clear that being near the frontier argues against state banking. We don’t know how the technological frontier will move - technical progress is by definition unpredictable. So, surely one reasonable strategy is to throw money at lots of different ventures and see what works. In a climate in which the private sector is unwilling or unable to lend to new firms, this provides a potential role for the state.

Comments

[Leftoutside]

"5. Yes, many western countries have gotten rich through free market institutions. But these are get rich slow schemes. We are rich because we’ve had 200 years of 1-2% growth. Societies that have enjoyed a few decades of 6-7% growth, such as the more successful Asian tigers, have done so with state involvement. See the work of Ha-Joon Chang, such as this paper."

I hope you don't mind but in response to this fifth point, I'm going to quote an e-mail you sent me last year.

"There's perhaps a big difference between the policies needed to drag countries up to the GDP of others, and policies needed to promote growth when you are rich. For the former, investment, and emulating others, will do. For the latter, we need genuine technical progress. It is quite plausible that the former requires central direction but the latter requires more freedom."

Having forced you to argue with yourself, I have to say that I agree with the thrust of the above.

I'm not sure state direction when you're an advanced economy is going to help us reach Korean growth levels, but I think there's a solid argument for state directed investment and that the arguments against such a bank (I'm sure Tim will be along soon) are weaker than is assumed.

[Adam Bell]

I'm going to strongly disagree with you on this one - I recently blogged about the low capitalisation of the GIB being a non-issue for the industry here: http://declineofthelogos.wordpress.com/2010/10/20/greenies-object-to-government-not-giving-bankers-more-money/

I would also point out your own previous post in which you discussed the relative decline in investment opportunities in the West. A state-backed bank would encounter exactly the same issue.

[Jackart]

You're really clutching at straws to demonstrate that it's not a totally stupid idea.

It's not going to do much good though is it?

[SimonF]

Even if we accept that bureaucrats are equally as good as their private industry counterparts at selecting winners, that isn't the problem. The problem comes when those schemes that are failing and obviously aren't going to work need shutting down.

This is when politicians intervene and we get calls for jobs to be protected and claims of short termism.

[Jim]

SimonF nails it. There will always be a political imperative to keep failing/loss making investments going, when a commercial lender would pull the plug. The history of UK govt directed lending to industry is littered with 'last chance saloon' injections of new capital, to facilitate 'restructuring', which inevitably fails, resulting in the next 'last chance'. Rinse and repeat.

The only solution I can see, if you are that keen to throw taxpayers money at pet political projects, is that while the State can make the initial investment, it must sell the loan on to commercial interests, thus removing any chance of political interference if the project goes t1ts up.

[Agog]

Plenty of nay-sayers, of course (the propaganda on these issues has been floating around for decades after all). So take the best objections and build some checks and balances into the proposal.

Hardly rocket science, is it?

[CharlieMcMenamin]

Item: investment in a new infrastructure isn't going to make any money (or at least, will only do so accidentally). If it was predictably going to make money, the private banks would already being investing. Manifestly, they are not.

So the conclusion is surely that either the state does it or it doesn't get done. You choose.Personally, the only question for me is whether a state *bank* is the right mechanism.

[Left Outside]

Already quoted this elsewhere, but it remains relevant.

One finds evidence of the government’s cold-bloodedness towards poorly managed firms in distress in a variety of otherwise prosperous industries. For example, a company named Shinjin had a larger market share in the Korean automobile industry in the 1960s than Hyundai Motors. Shinjin’s owner, however, could not survive competition from Hyundai’s “Pony” and the oil shock in the 1970s. The company went bankrupt and the government, as banker, transferred Shinjin’s holdings to Daewoo Motors. Another early automobile manufacturer, Asia Motors, was also abandoned (Amsden and Kim, 1985). In the cement industry, the largest producer in the 1970s went bankrupt because it tried to optimize an old technology rather than switch to a new one. Its production facilities were transferred by the government to a chaebol, the Ssangyong group, owned by one of the ruling party’s elders. The Taihan group, a pioneer in the electronics industry, had an ailing consumer electronics division which failed. Eventually the government oversaw its transfer to Daewoo Electronics. Construction firms such as Kyungnam (merged into the Daewoo group) and Samho (acquired by Daelim Engineering) are typical cases of firms that although they once enjoyed government support, were abandoned after going bankrupt—when other firms in their industry were prospering—for reasons which observers generally agree were related to incompetence. A badly managed chaebol of considerable size that the government recently punished with dismemberment was the Korea Shipbuilding and Engineering Company. The Kukje-ICC group has also been pilloried.

Although it is important to point out that developing economies and developed economies are different, S Korea dropped losers where necessary, so it is possible.

http://www.oxfordscholarship.com.gate2.library.lse.ac.uk/oso/private/content/economicsfinance/9780195076035/p021.html

You will probably need an academic login to get access to this, full text of Amsden’s “Asia’s Next Giant.”

[rogerh]

Surely a rational investor would go for the maximum deliverable capability/dollar - wherever it could be found.

Which is why a state investment bank is a nono - to be effective its decisions will be unpopular and probably bring down the government. For a start the bank would have to sweep away our sclerotic planning and regulatory processes and replace them with - YES.

Eventually this process will happen naturally. Once the UK is poor enough the middle classes will be clamouring for an ugly factory in Esher, only then will we be on the up (from a low base).

Alternatively the bank could invest in destroying the value-creating capabilities of our competitors - or buying them up. Which brings us full circle.

[Jimmy Hill]

Do any other advanced western economies have state investment banks?

If so how how have they done compared to private institutions?

[Dipper]

There's one obvious reason why the government should invest in selected industries.

If I'm a science graduate, and the kind of science graduate who can play a role in developing a major industry, then I have opportunities in other professions and other countries. If the government doesn't think an industry is worth investing in, then why should I bother going into it? What's the point of having a career depending on capricious investor sentiment when I can choose professions with much more stability?

[Left Outside]

"If I'm a science graduate, and the kind of science graduate who can play a role in developing a major industry, then I have opportunities in other professions and other countries. If the government doesn't think an industry is worth investing in, then why should I bother going into it? What's the point of having a career depending on capricious investor sentiment when I can choose professions with much more stability?"

Ah, but a state investment bank need not guarantee stability. A state investment bank would need to let losers go, what a state investment bank should be about is allowing more businesses to be started than would other wise be the case.

So you wouldn't be guaranteed stability by a state bank, but you might get a loan to start a business which you wouldn't otherwise receive. If your business is crap in the medium term, then yeah, the state bank should let you fail, and it should not be there just for stability. Right Chris?

[Carl]

I really can't see how this will hurt (re comments made by Jackart etc) - what it really chimes with is the need to properly monitor lending, since this will spur on growth, but is posion when lending goes nuts (ie housing bubble and 100-odd% mortgages). I'm going to try and develop the idea of the social enterprise bond for all small businesses - where a company receives quotas and criteria to prove their lendworthiness based on such things as a) how much they give back to local community; salary/expenses transparency etc etc.

[Picking Losers]

Nice spoof. That really is what the morons think, isn't it? You've even managed to suck a few out into the open, so we can see who the fools are. Well done.

Or did you actually mean this...?

By the way, I run a "green business" and the opportunities for wealth destruction through mis-direction of capital in this sector are as great as any previous bubble target. See CCS, for instance, for the purest destructive investment yet devised, yet one loved by many investors with the limited knowledge required to talk like an expert. There is more BS in this sector than there was in the dotcom sector in 1999.