BarCampBankLondon Peak Credit

Peak Credit A Flight to Simplicity Chris Cook – BarCampBank London 5th July 2008

It is a “Credit Institution”

It creates Interest-bearing Credit (or “Debt”)

… which is >97% of the Money we use

Money created as interest-bearing loans……

… is immediately deposited into the system

A Bank is also a Credit Intermediary – or “Middleman” Bank Borrower Lender £ £

… .but what does a Bank really do?

A Bank guarantees borrowers’ credit…

......and charges “Interest” for their use of this Guarantee…

… deducts from that the Interest paid to Depositors…

… plus its operating costs and any defaults by borrowers..

… and aims to make a profit…

The Credit Pyramid Bank Credit Capital

Demand for Credit has been high…

… .from property buyers and investors..

… from hedge funds and “Private Equity”..

… .and Banks started to “outsource” their implicit Guarantee….

… .“freeing up” and making best use of their Capital….

… totally – by “securitising” debt and selling it to investors….

… temporarily – using “Credit Derivatives”….

… and partially – using “Monoline” credit insurers

Result- a Bigger Credit Pyramid Investor Capital Credit Bank Capital

… with Risk “Diced and Sliced”… Investor Capital Credit Bank Capital

… so that no one knew where the risk lay…

Credit is an IOU and comes in two flavours…

… .“Trade” Credit from a Seller to Buyer backed by Value….

… .and Bank-created Credit supported by their Capital….

Credit is “Deficit-based” finance

… .essential for the creation of productive assets……

… .such as buildings, wind turbines, and software……

The problem comes when credit is created to buy existing assets……

… .typically secured by a legal claim over the asset……

… .resulting in “deficit-based” but “asset-backed” credit….

… .such as loans secured against property (ie mortgages)….

… .which are the source of over two thirds of dollars and sterling ever created…..

… and therefore of asset price “Bubbles”….

John Law created the first such Bubble in 1718

… and they have never stopped since…

… until last year we saw the culmination in the US of the “Mother of all Bubbles”….

… since when Banks have been asking themselves….

… .or with the hedge fund I dealt with?

… .if this is what OUR balance sheet looks like…..

… what does everyone else’s look like…..?

So Banks now charge more for their implicit guarantees…..

… .and are much more discriminating in relation to counterparty risk…..

… .based upon the Capital they have left…

… .so that “wholesale” lending to other banks has all but dried up…..

… meanwhile investors have gone on strike

… so securitisation and credit derivatives have dried up too….

… while “monoline” credit insurers are also in deep trouble…….

… so no Capital there either…

The Result is that the pool of Capital supporting the credit pyramid….

… ..has shrunk….. Capital Credit

… interest rates set by Central Banks are irrelevant….

… .and credit is both in short supply….

… .and increasingly expensive….

If Peak Credit is behind us….

I believe the answer is “Peer to Peer”…..

… and ”dis-intermediation”….

What does “Peer to Peer” Credit look like?

Introducing the “Guarantee Society”

“ Trade” credit is extended “peer to peer” when Seller gives Buyer “time to pay”….

… credit is subject to a mutual guarantee….

… through membership of a “community of interest”…….

… which may be geographic in scope…

Credit is interest-free, but not cost-free…

… .since provisions are made into a “default fund”…

… .and system costs shared…

… .by both sellers and buyers, since all benefit…

… .and with the sellers agreement….

… .settlement may be in money or in “money’s worth”….

… .such as units of energy or property rental value….

Banks no longer risk their capital….

… creating credit based upon it…..

… .but manage “peer to peer” credit creation…

… as credit “service providers”

“ Peer to Peer” Investment

“ Equity” consists of “ownership” of property…

… .“asset-based” rather than “deficit-based” finance

The kind of “Equity” finance Capital we are used to…

… is “stocks” or “shares” in a “Corporation”….

… the “Joint Stock Limited Liability Company”….

… which is what makes the “Private Sector” Private

But while we have all been looking the other way….

… at the financial revolution based upon credit innovation…

… there have been interesting developments “under the radar”….

… in “asset-based” finance.

In Canada we have seen “Income Trusts”….

… .where part of the gross Corporate revenues are “unitised”….

… .and sold to long term investors…

… .such as pension funds....

… who love Income Trusts because…

… they are getting their hands on corporate revenues….

… . before the management does….

… there are lots of other new ways to “invest” in assets…

… such as “Exchange Traded Funds”…

…“ Real Estate Investment Trusts”…

… and not forgetting Islamic finance “Sukuks”

“ You don’t know what you’ve got ‘til it’s gone”

… and you don’t know what you haven’t got ‘til you see it

… in 2001 the UK inadvertently made “the Corporation” redundant..

… when they introduced the UK Limited Liability Partnership (“LLP”)

An LLP can do anything a Corporation can do..

… own property; enter into contracts etc….

… and you can’t lose more than you put in..

… .and.…errr….that’s it…..

… there need not even be an agreement in writing…

I call it an “Open Corporate”

… .the US LLC is a close cousin…

… and both make possible a “Capital Partnership”

Introducing the Capital Partnership Capital Partnership Investors Users Revenues Managers % % Custodian Ownership

… .property is held by a “Custodian”..… Capital Partnership Investors Users Revenues Managers % % Custodian Ownership

… .and Investors put in money, or “money’s worth” Capital Partnership Investors Users Revenues Managers % % Custodian Ownership

… .which Managers use to fulfil the agreed purpose… Capital Partnership Investors Users Revenues Managers % % Custodian Ownership

… and revenue or production is shared…

… ..within a consensually agreed framework

The “Capital Partnership” enables new forms of Equity…

… .proportional (%age) ”n’ths” such as billionths..

… ..which may be bought and sold…

… ..because there must always be 100%

“ Units”, such as kilowatt hours

… .or the use of an acre for a year

… and with a value in exchange…

… but carry no rights to income…

… because they are based on value..

… and not a claim over value..

… .issued by a “Credit Institution”

So the possibility is there..….

… to affordably refinance housing debt…

… with simple new pools of land and property rentals…

… to keep assets in public ownership..

… but finance development by issuing non –redeemable “units” to investors…

… .carrying a reasonable index-linked return

The result could be a National Equity…

… and a shrunken National Debt.

This is not Rocket Science…

… .but it is a Flight to Simplicity…

… .which, as it happens, is Islamically sound…..

…… maybe Ethical is Optimal?

BarCampBankLondon Peak Credit

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