A Financial System We can Trust

J. Kotlikoff and Edward Leamer, professors of economics at Boston University and UCLA, discuss in this Forbes column Wall Street’s so-called ‘expertise’ and its ‘gambling enterprise’ mentality. The authors offer their views and solutions on the proper functionality of the financial sector. Here are a few excerpts:

Forbes: Before throwing more money at Wall Street, let’s understand what our financial system was supposed to deliver, what it did deliver and what price it charged.

The system was supposed to channel our hard-earned savings into the best real investments: new homes, offices, factories, equipment and research. And it was supposed to correctly price our assets.

It did neither. Instead, Wall Street morphed into a vast gambling enterprise, generating massive trades of existing securities without, in fact, raising the investment rate or growing the economy….This “expertise”….was delivered by the best and brightest…
…
We need a financial sector but not one like this. Nor do we need Wall Street hitting us up for its gambling debts. What we need is Limited Purpose Banking (LPB), which would transform all financial corporations, including insurance companies and hedge funds, into mutual funds. They would, henceforth, be called banks.

Under this system, banks would never fail for a simple reason. They’d never hold any financial assets and they’d never borrow except to finance their mutual fund operations…

A new Federal Financial Authority (FFA)–would rate, verify, supervise custody, disclose and clear all securities purchased, held and sold by LPB mutual funds. Private rating companies could stay in business, but no one would need to trust them ever again.
…
Limited Purpose Banking would enhance liquidity, since all funds would trade in the market even if their underlying assets are illiquid. It would permit the extension of as much credit as the public–which is the ultimate source of credit–wishes to provide by buying mutual funds that purchase household and business loans. And it would force banks to charge fees and pay their employees based on their mutual fund performances as determined by the market… In other words, it would be a system we can trust.

emphasis added

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