Why the pillars wont crumble

John M Green believes that Australian politicians have outwitted global economists with their four pillars policy.

David Murray AO, the former Commonwealth Bank chief now heading the nation’s financial system inquiry, recently voiced a personal opinion that the federal government would “lock in” the four pillars policy. That’s the ban on mergers between any of the four major trading banks or a foreign takeover.

Many economists are aghast at this, seeing the long-time veto as outdated and anti-competitive.

But is all competition “good” competition? For example, what would these economists say if even bigger banks exercised their newfound muscle by strong-arming their rivals by lowering credit standards rather than price?

Economists are a bit like celebrities. (Some are celebrities.) When they speak, we tend to listen. But with economists, we rarely understand what we’ve just heard.

Instead, we often engage in a kind of groupthink, soaking up their every word and prediction, as if they’re the new Oracles of Delphi.

But beware! Those ancient Oracles were truly bad role models.

They talked in tongues for a reason: they were so stoned that even Greek was Greek to them.

Modern scientists say it was because the Oracles sat on top of a geological fissure, cracks that leaked ethylene from below the earth’s surface.

So the Oracles weren’t channelling the gods, as we all thought. They were sniffing petrol.

Economists don’t sniff ethylene, but they still see things weirdly.

Take the three economists who went kangaroo hunting. After spotting a large red, the first economist fired, but missed by a metre to the left. The second one fired, missing by a metre to the right. The third economist lowered his rifle and shouted in triumph: “We got it! We got it!”

Not only do economists not see things like the rest of us, sometimes they don’t see anything at all. Take the global financial crisis (GFC).

They didn’t see it coming and their predictions of how it would turn out have been woefully wide of the mark.

If you don’t believe me, check with the Organisation for Economic Co-operation and Development. In its recent report, OECD forecasts during and after the financial crisis: A Post Mortem, the OECD confessed how it got the post-GFC “recovery” so wrong, wildly undercooking the extent of the euro area crisis and seriously overestimating projected GDP growth across 2007-12.

This was not a costless mistake because governments and business made decisions based on these projections.

But what has this to do with Australia’s four pillars policy? A lot, because the OECD’s mea culpa contains a highly relevant gem as you will see shortly.

Those who argue for a relaxing of the four pillars policy will often say it’s the only way our majors can compete with the global players.

That line wears a bit thin given the recent history of our “uncompetitive” banks not only surviving but prospering, compared to some of the global “competitive” giants who have gone from Mr Universe to relying on life-support.

If a pre-GFC federal government had allowed a foreign bank to snap up one of our four majors, two things would probably have happened.

First, according to Murray, four would probably have shrunk to two.

As soon as the foreign takeover was on foot, two of the remaining Aussie trio would have cried foul, demanding the government let them merge so they could “stay competitive” against the foreign interloper.

After that, Murray sees “some unforeseen circumstance” dictating that we’d finish up having to go to two.

“At two,” he says, “there’s definitely a too big to fail question. From a prudential regulation point of view, four is miles better than three and three miles better than two.”

Second, we might have faced the troubling post-GFC problem highlighted in the OECD paper.

It states: “At the start of the crisis, foreign-owned banks, an increasingly important pre-crisis presence in domestic banking markets, often cut credit extensions or reduced new lending in their host economies in order to meet lower risk targets imposed by their parent banks.”

In other words, when the GFC hit, global banks were under such pressure that if the wrong one had owned an Australian major, a big source of credit could have dried up in this country.

With the foreign parent of one of our majors barely breathing in the intensive care ward in some far-flung capital city, it’s not too hard to imagine an even greater disruption to our economy than we’ve suffered, let alone a fracturing of faith in our banking system.

When these big banks were haemorrhaging at home, cutting an arm off at the other end of the world would be the last thing to worry them, their domestic regulators or their national politicians.

But it would be the first thing to worry us.

That’s why I suggest four pillars will stay, regardless of its anti-competitive effect.
If you don’t agree, fine. As the singer Madonna says: “Listen, everyone is entitled to my opinion.” Maybe she should be an economist.

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