'Occupy' must understand there is nothing fundamentally wrong with banking

It is all too easy to dismiss the Occupy Wall Street protests in the United States and elsewhere over the past month.

After all it was almost inevitable that the assorted groups, ranging from communists to environmentalists and every other professional grievance movement in between, would tend to lack focus about what they're marching and camping out about.

Even so, it does appear that some of the anti-market sentiments expressed by their loudest protesting mouthpieces do reflect some ingrained, but mistaken, beliefs about the nature of the economy.

Some of the angered messages uttered by the occupiers are in fact similar to those one might occasionally come across in conversations with decent, hardworking, non-protesting kinds of folks in the outer suburbs.

A key criticism from some spokespeople in the protest movement concerns the workings of the financial system, and the bank bailouts during the 2008-09 global financial crisis.

There is no doubt that the financial system and its participants, including banks and traders of financial securities, have long been the subject of antipathy. Even the Bible says that 'the love of money is the root of all evil.'

The economist Friedrich Hayek reckoned that hostile attitudes towards market activities are especially prominent in cases in which intangible services, rather than the exchange of physical goods, are being rendered.

Financial market services in particular tends to agitate those who believe that because a transaction is of an intangible nature, such as the lending of money at interest or the purchase of securities with the promise of a return later, then it is worthless at best or the product of black arts at worst.

Furthermore, it is claimed that any profits gained from such financial transactions must be underhanded in a zero sum manner in which the creditor or financier gains and the debtor or purchaser loses.

Perhaps to a great extent some of these hostile feelings towards the financial system might be due to a misunderstanding, or lack of comprehension, about the beneficial role of a functioning financial system for economic prosperity.

Fundamentally, the role of the finance sector in the modern economic system is to connect those in the economy who have saved part of what they earned with those who desire to borrow funds to invest in various ventures.

In other words banks and other financial institutions, when they function normally, play a constructive role in transferring financial assets to more highly valued uses.

And the beauty of a truly global financial system is that borrowers may tap into a greater pool of savings therefore securing credit at lower interest rates, while lenders have greater opportunities to diversify their financial portfolios that secure healthy financial returns.

That innumerable private sector operators, large and small, had to borrow funds to fill their financing gaps before producing the everyday conveniences we enjoy today is a point that seems to be lost on the Wall Street occupiers, and many non-occupiers for that matter.

And just like any other business, financial intermediaries have an occasional tendency to go bust. While no financial institution or investment broker in Australia ceased operations during the 2008-09 global financial crisis episodes of bank failures, including as far back as the 1890s, have been a recurring feature in Australian economic history.

There is little question that the closure of any business, whether they be a corner store grocer to a bank with a multinational presence, is of great inconvenience to those personally involved in the venture.

That said the exit of firms usually acts as something of a cleansing process, in which private entities that cannot generate sufficient value get driven out of the market in favour of those who more effectively please their customers and thereby generate economic value.

It is from this perspective that the bailout of firms by governments, at taxpayer expense, is particularly reprehensible and should be opposed at every turn.

By preventing the closure of financial institutions on grounds that they were 'too big to fail,' governments effectively rewarded the practices of bank managers who engaged in overly risky financial practices prior to the GFC as well as shareholders who selected the managers who caused the banks to get into trouble in the first place.

The implicit transfer of wealth from poor taxpayers to rich bankers, who are prevented from being rendered poor as a consequence of bailouts, is another aspect of the bailouts that have not been lost on the Occupy Wall Street protestors.

Arguably the greater problem is what might occur down the track.

Having been rescued from almost certain insolvency by governments in the recent past, financial market participants expect that future governments will repeat a similar bailout strategy should another global economic downturn or significant episode of financial market dysfunction materialise.

And so an element of 'moral hazard' becomes ingrained into the financial system whereby financiers are prepared to finance riskier economic ventures or purchase more securities of dubious financial backing, than would otherwise be the case, safe in the knowledge that a future government will rescue them anyway.

While it is convenient for the occupiers, with an inherent bias against market capitalism, to sheet home the entire blame for these unwelcome developments to the financial sector lobbyists who no doubt secured bailout arrangements much to their liking, they seem to miss the point.

As Germany's post-war Finance Minister, Ludwig Erhard, once said it is imperative for functioning markets to have strong-willed governments that are impervious to rent-seeking pressures from all vested interests who seek to transform the state into nothing more than booty to be ransacked at the expense of the general public.

To put simply the private sector banks and investment houses would not have received assistance, through the US government's Troubled Asset Relief Program (TARP) or other GFC bailout packages introduced throughout the OECD, if politicians credibly maintained a position not to negotiate with rent seekers and lobbyists.

In the United States, the epicentre of the GFC, there was precious little evidence of this stance being held by the Bush administration in any event. In September 2008 then Treasury Secretary Henry Paulson hastily cobbled together a plan for legislative approval, including obligating the US Treasury to purchase up to US$700 billion of risky mortgage-backed financial securities.

Despite the confidence of President Bush that the bailout package would pass Congress, the House of Representatives initially rejected the plan on 29 September 2008. With two-thirds of Democrats voting in favour of the plan the outcome hinged on the refusal by Tea Party Republicans to support the move.

Although the 2008 Tea Party position on this specific issue was virtually indistinguishable from the position of the 2011 occupiers, the Tea Party were nonetheless severely criticised for not bending to a strategy that rewarded financial market failures and extended the interference of the state in economic affairs.

Unsurprisingly the most trenchant critics of the Tea Party Republicans at the time were the political and business establishment that stood to gain from the deal.

The hysterical commentary in response to the initial fall in the Dow Jones share market index (which incidentally occurred just before the actual 29 September vote took place) only emboldened the rent seekers and weakened the resolve of politicians to reject, as a matter of principle, the socialisation of private sector financial losses.

There is certainly merit in the arguments that the responses by governments to the GFC not only consigned ordinary citizens to confront the overhang of unsustainable levels of public sector indebtedness, but it corrupted the integrity of the market process which is essential for the promotion of improved living standards and not to mention the amelioration of poverty.

But because of their prior disposition against markets, elements of the protest movement are not only arguing against bank bailouts but, on some accounts, for the abolition of private sector financial institutions and money itself.

If there is any example of throwing the baby out with the bathwater, this would be it. For example if money as the medium of exchange were abolished then how could the coincidence of wants between individuals be reconciled? Would the protestors successfully be able to barter their hand-woven baskets and hemp shirts for food, iPods, mobile phones or computers?

For some reason, that's perhaps little more than a hunch, I don't like their chances.

That the Sydney arm of Occupy Wall Street recently asked for state and local taxpayers to fund coal-fired electricity, wi-fi internet connectivity, motor vehicle parking spaces, tents, umbrellas and other paraphernalia would suggest even they realise they'd have a hard time in a world without money or capitalism.

While the denigration of the role of the financier in economic life represents something of a sport for the protest arm of the political left, a policy acceptance of the Occupy Wall Street positions on many aspects of capitalism would do nothing but cause irreparable damage to the lives of millions.