Review: The End of Alchemy by Mervyn King

The End of Alchemy

By Mervyn King, W.W. Norton & Company, 448 pages, $29

“For many centuries, money and banking were financial alchemy, seen as a source of strength, when, in fact, they were the weak link of a capitalist economy,” writes Mervyn King in his new book. As governor of the Bank of England for a decade from 2003, and before that as a leading academic economist, Baron King of Lothbury has long been at the heart of British policymaking. Despite that, and belying his mild manners, “The End of Alchemy” is a fearlessly honest explanation of the 2007-08 financial collapse, providing disturbing insights into what sparked “the worst banking crisis the industrialised world has ever seen”.

Rather than finger-pointing, King focuses on collective failure before and after a collapse that caused Britain and America to “’lose’ around 15 per cent of national income relative to the pre-crisis growth path”. Even though the “largest banks in the biggest financial centres failed, triggering a worldwide collapse of confidence and the deepest recession” since the 1930s, he insists that “nothing much has really changed in terms of the fundamental structure” of the Western banking industry.

“Without reform of the financial system, another crisis is certain sooner rather than later,” King asserts. “It is the young of today who will suffer from the next crisis — and without reform the economic and human costs of that crisis will be bigger than last time.”

Part-memoir, part-policy missive, King’s 448-page volume isn’t just an elegant guide to the history of economic ideas. It also gives a genuine insider’s account of how, following relative prosperity before Western banks began imploding in 2007, it took just over a year for “what had been viewed as the age of wisdom [to be] seen as the age of foolishness”.

Written, for the most part, in clear, jargon-free prose — and avoiding tables and graphs — “The End of Alchemy” showcases the author’s ability to convey complex analysis effectively. And while the narrative sometimes gets bogged down in descriptions of academic debates non-economists may find tangential, that’s more than offset by those passages where King allows himself to write from the heart, combining his vast technical knowledge and experience with genuine passion to see meaningful post-crisis reforms.

“The consequences of the events of 2007-08 are still unfolding, and anger about their effects on ordinary citizens is not diminishing,” he writes. “That disaster was a long time in the making, and will be just as long in the resolving. But the cost of lost output and employment from our continuing failure to manage money and banking and prevent crises is too high for us to wait for another crisis before we act to protect future generations.”

King asserts that before 2007 “hubris — arrogance that inflicts suffering on the innocent — ran riot, changing the culture in financial services to one of taking advantage of the opportunity to manage other people’s money, rather than acting as a steward on behalf of clients”. He describes the hair-raising expansion of the US and UK banking industry: how over the past 30 years banks’ balance sheets have exploded, as have the associated risks.

He also criticises the regulators for taking “an unduly benign view”. Using words that will incense the titans of the City and Wall Street, King insists the merging of risk-taking investment banking with retail and commercial banks handling the taxpayer-guaranteed deposits of ordinary households and firms changed the business model and fundamental ethos of the large banks during the 1980s and 1990s. “Size became an objective, with banks that were clearly too important and too big to fail able to borrow more cheaply.”

He rails against the ongoing use of quantitative easing (or virtual money) — despite having greenlighted it during his time as governor of the Bank of England — saying that “continued reliance on monetary policy as the ‘only game in town’ constitutes an error as much of theory as of practice, and is the cause of weak growth today”.

The Bank of England’s recent attempts under King’s successor Mark Carney to provide “forward guidance” — by highlighting forthcoming interest rate decisions — also get short shrift. “To retain credibility, it is important central banks do not claim to know more than they in fact do.” He pillories the single currency, which he says has imposed vast costs on citizens in the form of stagnation and unemployment, describing it as “the most divisive development in post-war Europe”.

He also can’t see an easy solution to the euro crisis: “It cannot be resolved without confronting either the supranational ambitions of the EU or the democratic nature of sovereign national governments. One or other will have to give.”

The thrust of the book, though, remains King’s clarion call for an intellectual revolution, to bring reforms that stop banks being “the Achilles’ heel of capitalism”. He outlines a scheme requiring them to do less, be far more transparent and post much greater collateral with central banks.

The conclusion, as you might expect, is that reforming the banking system will not be easy because financial institutions “and the political interests they support”, will not just roll over and allow themselves to be dictated to. This is a most significant book — one that, I believe, will be read years from now. It will no doubt provoke scorn from the powerful institutions that King has had the audacity to challenge, but it should win the broader public’s gratitude.

–The Telegraph Group Limited, London 2016