In his book, ‘Other people’s money’ John Kay argues that the expansion of the financial sector over the last 40 years has resorted to damaging the economy and the society. He states that a well functional financial system is inevitable for a country’s economic prosperity, however, that does not imply that if a country has a larger financial system, then it is most likely to be prosperous. He acknowledges the difficulties involved in assessing the economic contribution of the financial industry. Such difficulties according to Kay, is because of the complexities involved in interpreting the reports on financial activities regarding output profitability of those activities. Never the less, Kay believes that the profitability of the financial sector has always been overstated and that its production value too, has always been misreported. He, therefore, declares that the industry contributes little to bettering the people’s lives and creating efficiency of businesses. He asserts that the sector can do a lot to advance economic and social goals of the individuals and businesses but apparently, the sector has done little.
In assessing the function of finance, Kay recognises that the modern financial sector has focussed on trading with one another at the expense of it original purpose or serving as trusted intermediaries of household borrowers, savers and even the businesses in the world’s economies. He also argues that financial intermediaries are not able to create wealth hence today’s financial markets realistically, do not raise capital for any emerging productive enterprise (Kay, p88). He notes that the causes of global financial crises are directly linked to the structure of the financial industry. He also ties the collapse of the real values of the financial sector to the era of financialisation and the transition from focussing on customers and the economy to trading-based and transactional financial entities. This subsequent shift in values, behaviours and institutions affected the corporate sector. He also claims that financial institutions fund political campaigns. It is the reason the political leaders are propagating the propaganda that Wall Street is critical and unique hence it should be protected. Kay, therefore, proposes a set of reforms. The reforms include shortening the chains of intermediation of the financial institutions, create a more specialised financial institutions that prioritises into the interests of its customers, restructuring of the sector, employing new regulations and appalling all the political forces that are keen to obstruct reforms.
In reference to 2008, financial crisis, Kay is concerned with the change of culture. He fathoms that the culture of the financial enterprises and their structures have worsened. Financiers have moved away from the sole purpose of serving customers to focusing on using their customer’s money to make short-term profits. Kay refers to this process as ‘financialization’ (Kay, Pg. 67). In this process, the financial sector is always keen to increase its the salaries of its members. It is evidenced that the financial sector has grown excessively at the expense of its purpose that is required from them by the businesses and the household (Kay, p 34). Eventually, the institutions and the money that make up the financial sector are so conjoined that a failure of one institution causes a severe risk to the overall economy. By tolerating such, level of high risk through allowing financial firms to grow too large, the governments across the world have rubberstamped the notion that the sector is typical of extraordinary profits.
Certainly, it is not in order to assume that reducing complexity and decreasing interconnection of the financial system is feasible. One has to note that 2000 collapsing of Internet bubble that led to a slight economic distress was because a margin debt did not finance the stock bubble. Hence, was not because of its less interconnectedness with the world. However, there is a considerable truth regarding Kay’s criticism against the impact of the financial sector on the economy. The Little growth of the financial sector in the last decades has benefited the society. The little benefit is because of too many bad financial players who are only interested in profits. However, it is critical for Kay to acknowledge that financial innovations have always been linked to economic growth; therefore, it is improper to oppose financial innovations (Kay, p.129).
One of the other Kay’s key arguments on the profitability of the financial sector is that bank accounts are so lengthy and impenetrable. It is, therefore, difficult to ascertain their annual profitability per the banking system. He asserts the proliferation of misunderstanding such complexity in the financial sector has been intentional. Kay’s point is right. Former Federal Reserve Board (FED) Kevin Warsh concurs with Kay’s assertion. He states that there is still no approach of comparing financial institutions’ exposure to each other in an efficient and timely way. He concludes that the rules by Securities and Exchange Commission’s on financial disclosures of financial institutions are only obfuscating more than they inform. It is because of such confusion that Kay declares that bankers are smart but not that smarter to understand their actions. What the bankers know is the value of the financial industry and its complexity that even the public and regulators cannot comprehend (Kay p.101). It is the reason he wonders why financial sector is so profitable. He compares the illusion of its profitability to the passing around bits of papers, which in real sense does not add value to the paper. Therefore, going by Kay’s metaphor, the financial system is complex and its complexity is intentional thus made to serve the interest of its owners (Kay, p. 161).
He is adamant to state that the growth of the financial sector is just a representation of wealth appropriated outside the financial industry. However, unexpected of him, Kay echoes a populist statement by acknowledging the critical role of the market, profit and proper functioning financial system for the modern economy to prosper. Hence, begs the question, what need to be done? According to Kay, in reaction to the financial crisis, so much regulation have been made. Unfortunately, the regulations have been ineffective. In his view, the prescriptive rules have only undermined the ethical standards rather than enhancing them. He, therefore, proposes regulatory philosophies that are presented in the form of principles. These principles should be related to the financial structures. His recommended principles include financial institutions dealing with customers more than they deal with each other, sanctions against those break the set financial ethic. Finally, the government must treat the financial industry just like any other industry (Kay, p.119). His reason for suggesting these principles is that regulations are expensive because they involve much compliance costs. Therefore, the change of culture as the main principle will be significant in enhancing ethics in the financial industry.
Therefore, it is imperative to conclude that the modern financial institutions do not serve the interest of the customers but rather using the customers’ money to make quick profits by trading among each other. The financial sectors have also complicated the financial system to their understanding thus making it difficult to evaluate the profitability of the sector. It is also true to state that financial institutions do not contribute to the growth of the economy. However, its strong finance is derived from what customer deposits, which prompts Kay to term it as people’s money. Unfortunately, according to Kay, the interconnectedness of financial institutions is a risk to the world economy in a case where one financial institution fails. Though Kay acknowledges the importance of the financial sector, he recommends that its effectiveness depend upon the principles but not regulations. The central principle according to Kay is the change of culture.
Top of Form
Top of Form
Kay, J A. Other People’s Money: The Real Business of Finance. , 2015. Print.
Bottom of Form
Bottom of Form