Mr. King Comes Clean and the Market Seems to Like It

Key News

  • India’s economy will grow 6.5 percent this fiscal year, with strong industrial output making up for declines in agriculture because of poor rains, the Prime Minister’s office said Wednesday.
  • China on Wednesday urged banks to be more alert to risks from their breakneck lending and also warned them to brace for a policy shift. (Reuters)
  • South Korean exports this month will probably fall between 11 percent and 13 percent from a year earlier, the customs agency said, steeper than in September and raising doubts about the pace of the global recovery. (Reuters)

Quotable

“A year ago, at the height of the financial panic, the world yearned for a profitable and confident financial sector. It now has what it wants, but hates it. As joblessness soars and the hopes of hundreds of millions of people are blighted, the financial sector’s survivors are thriving. Even bonuses are back. Policymakers have made a Faustian bargain. Success feels like failure.”

                             Martin Wolf

FX Trading – Mr. King Comes Clean and the Market Seems to Like It
Mervyn King delivered a speech yesterday on banking reform, and the market seemed to like it—as the pound has surged:

GBPUSD Daily:

The pound is surging against the euro too…

EURGBP Daily:

There is no indication monetary policy is changing anytime soon i.e. no one expects a hike in interest rates or change to quantitative easing from the Bank of England. Yet the pound surged on Mr. King’s speech.

And risks still abound for UK banking:

“According to the IMF, writedowns on UK bank assets are going to be $604bn, against $814bn for the eurozone and $1,025bn for the US. Yet the US economy is roughly six times as large as the UK’s. The UK’s cuckoos are too big. Regulation must take these differences into account,” writes Martin Wolf in the Financial Times.

We know Mr. King knows these numbers, thus his urgency. Maybe Mr. Market is rewarding the first to reform; but it could also be rewarding the fact that Mr. King has added the right degree of nuance to how reform should proceed if it’s going to succeed. From Mr. King’s speech [our emphasis]:

“It is important that banks in receipt of public support are not encouraged to try to earn their way out of that support by resuming the very activities that got them into trouble in the first place. The sheer creative imagination of the financial sector to think up new ways of taking risk will in the end, I believe, force us to confront the ‘too important to fail’ question. The belief that appropriate regulation can ensure that speculative activities do not result in failures is a delusion.”

“…Before the financial crisis, a generation of households and businesses had accepted that the discipline of a market economy was the most promising route to prosperity. Uncomfortable though it seemed, the importance of more flexible labour markets, greater competition in product markets, regulation of privatised utilities and allowing unsuccessful businesses to fail, came to be widely understood. Then, out of what must have appeared to many of you to be a clear blue sky of economic stability, arose a financial firestorm that wreaked substantial damage to the real economy, and we have not yet seen its full consequences. The case for market discipline is no less compelling for banking than for other industries.

Mr. Market is rewarding the pound accordingly!

Despite UK politicians trying to play down the role financial play in the UK economy, in their attempt to exploit populist anger (as has been done everywhere)—and for good reason in many cases no doubt—it seems Mr. King is signaling how clearly he understands the benefits which flow to the UK economy from its competitive advantage in financial services, as his proposed reforms gives politicos a little of what they want and don’t throw the baby out with the bathwater.

That said we can never underestimate the ability of the political class to snatch defeat from victory—stay tuned.