WEBVTT

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Zermatt Summit

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Changing hearts and minds

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Humanizing Globalisation

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Now Paul Jorion will come up and speak.

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Paul is by initial training a social anthropologist,

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but he moved from social anthropology to finance.

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and he tells me that there was no great transition,

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because at the time he made the transition

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he was working on artificial intelligence.

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So perhaps we will have a bit of natural intelligence,

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as well as artificial intelligence,

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as we got through your presentation.

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May I ask you please to welcome Paul Jorion

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[applause]

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I was blessed by the most inspirational introduction.

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Preparing my little presentation,

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I though Let's try to make something good.

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But after having watched Malika, and listened to Elisabeth,

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what crosses my mind is:

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Let's try and make it even better.

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I worked from 1999 to 2002 for a company called Indymac.

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Indymac had a specialty of homeloans, as we call them,

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and it's more usually called mortgages.

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Indymac had 2 specialties:

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Reverse Mortgages where the person who has the mortgage

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is the owner of the house

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and little by little, the house goes back to the bank.

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The other one was called Alt A (Alternative A).

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I won't be going into any details,

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but Alt A is just one notch above Subprime.

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Indymac was the third major bank run

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in the history of American finance.

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A bank run is when people start lining up in the streets

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asking for their money to be returned to them.

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That happened all in July 2008, on a Thursday.

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Things got worse on the Friday.

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On the Monday, the bank re-opened.

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It was previously called Indymac bank,

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and on the main entrance,

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there was a banner now between the two words,

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It was Indymac Federal Bank.

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The FDIC had taken over the bank in the name of the American government,

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and it was from now belonging to the American government.

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From 2002 to 2004, I worked for Wells Fargo.

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Wells Fargo is a well-known bank in San Francisco.

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And it's doing well,

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fortunately for its business, it's doing very well.

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I was working in what was called "Consumer Credit".

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And what was Consumer Credit was doing was essentially...

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[A microphone issue needs to be fixed.]

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- Just give me a second.

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Try it on.

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- Louder?

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Alright ok.

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In 2002, I moved working for Wells Fargo,

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which as I said is still a major bank.

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I was working in a division which is called 'Consumer Credit'.

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and our specialty was called HELOC.

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HELOC stands for Home Equity Line Of Credit.

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And essentially, on home, if you're not familiar with that,

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it's a second lean as we called it,

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a second mortgage that you can get on a house.

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The difficulty with the second mortgage is that

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the first one comes first,

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that's why it's called the first lean.

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So when things turned sorer, in 2008,

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what happened is that HELOC had no value whatever.

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People hired up on HELOC as I was had lost rapidely their jobs.

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From 2005 to 2007, I worked for CountryWide.

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CountryWide as you know is the major corporate

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in the disaster of the subprime industry.

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A number of companies did worse and they fell earlier than did CountryWide,

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but CountryWide is the main corporate.

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In 2008 it was taken over by Bank of America.

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So these 3 experiences made me think about finance.

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I imagine that you think that justifies to have come to some thoughts.

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It was not just on my own. We had conversations at lunchtime, between colleagues.

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And we though: We are running into some major disaster

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but what can we do?

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M. Greenspan, who was, as you know,

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Head of the Federal Reserve (the central bank of US)

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for nearly 20 years from 1986 to 2006,

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said at that time:

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"The head of these companies did not think of their self interest, and did not work towards it."

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assuming that if the head of these companies had worked for their self interest,

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that would have produced "auto-regulation"

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meaning that the system would go bad

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and then would recover on its own.

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And as you know from what you have seen in the news

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there's been a lot of discussions lately in 2010 and 2011

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about what some companies,

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and particularly highlighed in that respect Goldman Sachs and Deutsche Bank,

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that when it came to saving the whole mortgage industry

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or try to save their own bank,

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these companies chose to save their own bank

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even at the detriment of the whole industry.

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So what I started thinking at that time,

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and as I said, in discussions with colleagues,

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what can we do to prevent from within finance

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that such a disaster happens again.

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And I started thinking about different ideas.

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In September 2008, which is just literally

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one month before I got dismissed by CountryWide,

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I was part of the first load, the first batch of people that were let go.

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At that point I think about 30% of the people in the company were let go.

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And maybe 4 or 5 months later, the company was simply taken over by Bank of America.

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And I though at that time:

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What should we do?

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And one month before I was let go, I wrote a piece,

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an opinion piece for the French daily "Le Monde".

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I called that piece "A Constitution for the Economy".

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My idea was that we needed to find an exit out of the situation.

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Let say at the highest possible level.

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Let me here pause a little

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to tell you exactly what I started thinking about.

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A long time ago,

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a person who is historical,

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or maybe he's not... but anyway, the stories are beautiful,

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a person called Moses came down from the Mount,

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and he was holding the Tables of the Law.

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And I'll just take one of the 10 commandments of these Tables of the Law:

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“Thou shalt not kill"

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To hook up what I'm saying

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with some earlier discussions today,

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there was an alternative here:

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The first alternative was to wait patiently for people to reform themselves,

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unless there was no danger anymore that anybody would ever be tempted

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to murder his neighbour or part of his family or whatever...

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Or, there was the alternative of maybe having a prohibition about it.

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Personally I think that the idea of Moses,

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or God if he was directly inspired by God,

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I think it was a great idea.

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I think we really saved a lot of time.

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A little other historical anecdote,

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during the French revolution in 1792,

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a person called Saint-Just,

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one historical figure in the French revolution,

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came up with the idea at some point.

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In 1792, it was the worse of the French revolution,

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there was a civil war in France, nearly everywhere,

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in Nantes, in Lyon.

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There were external wars on all the borders of the country.

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And Saint-Just had prepared a speech, where he said:

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"What we need to do is to reform the individuals

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(which was essentially the line that had been taken by the French revolution until then),

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but at the same time, we have to do that in parallel with changing the institutions".

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He started speaking.

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He was booed.

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It was the end of Robespierre, who was his friend,

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it was finished: he never read this particular piece.

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He was arrested on the following day,

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and he was decapitated a couple of days later.

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The idea was essential but it came pretty late.

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So what I was thinking was the following:

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Finance is extremely useful.

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It provides the bloodstream of the economy.

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It has 2 functions which are essential:

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one that we call 'Price Discovery' which is essentially

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finding people who need money in order to start a business, do something,

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or even sometimes just to consume, and bring these people together

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with other people who have some capital they can dispense of for a period of time,

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make these people meet,

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make it possible to work that way.

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Another function which is essential for finance is the insurance principle.

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A large institution like a bank can actually dump

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the individual shocks of some little drama

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happening here and there,

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and paying a premium,

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you can actually spread that risk over the whole system.

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These are essential.

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But there are other parts in finance that went really wrong.

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So what I was thinking is not like some people say:

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"Let's close all stock exchanges."

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or "Let's eliminate all derivatives." (which are particularly useful financial instruments).

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or "Let's tax every possible financial transaction".

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I was thinking of something more specific.

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Let's find a way to carve out very delicately,

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Let's carve out exactly the part which is

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useless and dangerous

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and remove that part from the rest.

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What makes this part in finance dangerous?

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One is what we call systemic risk.

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Systemic risk is the fragility of the whole system.

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Making the contagion effects multiplied

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and not enhanced by the whole way the system works.

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The other danger is the following

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and here I'll give you an example.

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This example will explain exactly what I've got in mind.

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In 2008 in the first half of the year,

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at the very beginning of the period,

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the price of a barrel of oil was $45.

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On the 1st of July, it hit during one particular day, $147.

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That was more than treble the price.

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There was a major crisis.

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Nobody much in American Government bothered except one party.

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And that party asked for an investigation to be started.

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That party, and it's a bit surprising if I tell you,

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it was the Pentagone. Why was it the Pentagone?

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Because the Pentagone had to make reserves of fuel

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for the boats, for the planes, etc.

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and the Pentagone wanted to find out what happened.

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Investigation found out who were the corporates.

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The corporates were not dark people in dark clothes...

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They were pension funds.

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They were deans from universities.

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They were hospitals.

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They were museums.

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Why did they go into that business of going into the market

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and making all these price being lifted?

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Because they feared for the dollar.

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They had some assets,

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they feared that the value of these assets would depreciate.

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So they moved in massively into the markets.

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And the instruments which helped them doing that were of a special nature.

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They are called baskets.

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Baskets why?

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Because it's not only oil you find

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that you can buy in that particular perspective.

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They make baskets, meaning that they add:

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metals, like copper,

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there's some food,

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there are cereals like wheat,

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there's coco,

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there's coffee,

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there's cotton,

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whatever you want to think of.

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And when the price of oil was lifted,

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the price of all these commodities was going up simultaneously.

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Why? Because people would buy these baskets.

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What did it lead to in summer 2008?

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That lead to some anger driven riots

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in some countries in the world:

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in Indonesia, in Haiti, in some parts of Africa, and so on.

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When the Senate Commitee hold these people to explain what was going on,

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they moved out of these markets. Why?

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Because of the stigma.

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They didn't want to be in the limelight.

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They didn't want to be called there to testify about what was going on.

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They all moved out. What happened?

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All the prices dropped suddenly.

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They dropped so low,

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that in the process, the producers in Africa, of coco,

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the producers of coffee all over the world, etc.

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were hit by that. Why?

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Because the prices at that point were going too low.

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So what does that mean?

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It means that prices going up were killing the consumers

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because you and I at the filling station who were paying

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for the price of the fuel going up.

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When it comes down, it's the producers who are being hit

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by the process of going down.

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There was something even more I would say tragic

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in terms of what we are concerned with today

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in the process of coming down.

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When the prices of oil comes up, it's interesting financially

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to have startups on renewal energy.

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The price of oil goes up, and it becomes more interesting

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to go into research to see how to replace oil.

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When the price of oil drops suddenly back to the level of $45 from $147,

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a lot of these startups who were working on renewal energy were eliminated.

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I hope you understand what I've got in mind when I'm talking about this.

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What I though about what would be one of the essential, major, central principle

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of the idea of a Constitution of Economy.

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When I say Constitution of Economy,

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I mean indeed something that applies to the world as a whole.

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I think that's where we need to go.

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You can call it Tables of the Law,

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and you can think of adding an eleventh commandment

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or maybe a twelfth and so on...

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What I thought is one thing you need to do is to

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prohibit these wagers on the evolution of price.

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It is one part of finance,

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it is a very essential part of finance nowadays.

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In 2007, 47% of the GDP in the US was constituted of financial operations.

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Out of these financial operations, on the commodities markets, the proportion varies:

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it varies between 80% and 90% of the activity on these commodities markets

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currently being done in the perspective of these wagers about fluctuations of prices,

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which is one aspect of what we call speculation.

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So what I was thinking is the part to carve out from finance

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to go back to a financial market which serves the economy,

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The part to carve is that part which is useless, dangerous,

00:16:29.280 --> 00:16:32.551
which takes a lot of money out of the economy.

00:16:32.551 --> 00:16:33.929
Just one remark:

00:16:33.929 --> 00:16:37.240
some people criticize this idea I've been expressing,

00:16:37.240 --> 00:16:39.575
saying "If you do what you say,

00:16:39.575 --> 00:16:44.251
too much money will go back into the economy, maybe leading to inflation."

00:16:44.251 --> 00:16:47.583
I think that it's a risk we can take.

00:16:47.583 --> 00:16:50.197
The objection to what I propose as that

00:16:50.197 --> 00:16:54.991
prohibition of bets, wagers on the evolution of prices,

00:16:54.991 --> 00:16:58.686
the main objection is saying "it's impossible to implement,

00:16:58.686 --> 00:17:02.895
it's too complicated, not everybody will agree to do it at the same time."

00:17:02.895 --> 00:17:07.338
The main response is the following:

00:17:07.954 --> 00:17:17.609
FASB 133 (Financial Accounting Standards Board of the United Nations, rule 133)

00:17:17.609 --> 00:17:22.726
is doing that curving out that I'm telling you about right now.

00:17:22.726 --> 00:17:25.080
It is there in that particular text.

00:17:25.080 --> 00:17:26.449
What's the purpose there?

00:17:26.449 --> 00:17:29.625
To make a difference between people that are useful to the economy

00:17:29.625 --> 00:17:31.388
and people that are detrimental.

00:17:31.388 --> 00:17:32.807
What is the purpose of the rule?

00:17:32.807 --> 00:17:34.929
To make a difference in taxation.

00:17:34.929 --> 00:17:37.901
People who are doing those parts

00:17:37.901 --> 00:17:40.040
(that I suggest to be removed all together)

00:17:40.040 --> 00:17:41.543
are taxed more.

00:17:41.543 --> 00:17:45.858
When I'm being told it's impossible just to define what needs to be done,

00:17:45.858 --> 00:17:49.523
it's already there, it's already in FASB133.

00:17:49.523 --> 00:17:52.560
And something more:

00:17:52.560 --> 00:17:56.126
A prohibition of wagers on the evolution of prices

00:17:56.126 --> 00:18:02.320
was part of the law of the majority of countries in the world in the 19th century.

00:18:02.320 --> 00:18:03.785
It was removed.

00:18:03.785 --> 00:18:08.138
The article in Penal Law in France is article 421.

00:18:08.138 --> 00:18:10.120
And it says exactly what I'm saying.

00:18:10.120 --> 00:18:15.652
It's forbidden to make wagers on the evolution of prices.

00:18:15.652 --> 00:18:18.376
It's been removed in 1885.

00:18:18.376 --> 00:18:23.012
I've been going into the History of this evolution.

00:18:23.012 --> 00:18:24.856
It's always the same explanation.

00:18:24.856 --> 00:18:29.815
Under the pressure of the business community, these rules were removed.

00:18:29.815 --> 00:18:33.840
And at some point when some countries started removing it,

00:18:33.840 --> 00:18:37.738
business communities in the other countries said:

00:18:37.738 --> 00:18:41.363
"we have a disadvantage now, we can't do this anymore."

00:18:42.394 --> 00:18:43.778
I'll close on that.

00:18:43.778 --> 00:18:46.720
I think it's not only possible,

00:18:46.720 --> 00:18:48.658
it's already in the text in some way.

00:18:48.658 --> 00:18:50.231
Some articles in the Law were there,

00:18:50.231 --> 00:18:53.345
they have been removed, they can be reinstituted.

00:18:53.345 --> 00:18:55.044
What I'm suggesting, what we need to do,

00:18:55.044 --> 00:18:57.683
and that doesn't mean that we shouldn't reform individuals.

00:18:57.683 --> 00:19:00.200
It needs to go together.

00:19:00.200 --> 00:19:02.631
What I'm suggesting is only possible

00:19:02.631 --> 00:19:05.800
if a large number of individuals reform themselves enough

00:19:05.800 --> 00:19:09.847
in order to say we need to take a measure like that.

00:19:09.847 --> 00:19:11.484
What I'm suggesting is:

00:19:11.484 --> 00:19:16.428
"Thou shalt not wager on the evolution of prices."

00:19:16.428 --> 99:59:59.000
Thank you.