environmentalresearchweb blog

« Denmark: good or bad for wind power? | Main | How thick is this (Himalayan) glacier? »

The weak and strong sustainability of banking

Is banking, as practiced today, sustainable? Does it become more sustainable with Basel III regulation? An article by Mark Joob in the Financial Times Deutschland from 16 September 2010, claims: no. 

Basel III requires banks - among other measures - to retain more core equity capital, limiting banks ability to hand out credits they cannot cover themselves. It has been critized from a variety of perspectives (e.g. that administrative complexity crowds out small banks and gives big banks an additional edge).

The FTD article is more fundemental in its criticism - credit growth itself is the problem. The argument follows Binswanger’s book “Die Wachstumsspirale”, literately, the spiral of growth. Companies borrow money to invest into production. To cover the opportunity costs of money, and to compensate for the risk of bankruptcy, creditors ask for interests. To pay back credits, companies, hence, need to earn profits. As the credits enter the exchange flow as additional money, more products can be bought from already existing production, guaranteeing the profits of companies. Crucially, the total amount of money grows along - otherwise, no net profits are possible.

The author of the FTD article and Binswanger now suggest that this growth dynamic is sort of a large scale Ponzi scheme, because the additional income is derived from the income of natural (finite) capital.

How does this claim relate to concepts of sustainability? Sustainability is a normative perspective that tries to care of the well-being of both current and future generations. There are two dominant frameworks: weak and strong sustainability. Weak sustainability assumes that one has to consider aggregrate well-fare only, and that in particular natural resources can be substituted with men-made capital. More precisely, if we know the (marginal) shadow prices of natural resources, services and sinks, and price them in, there is nothing to worry about. Strong sustainability assumes that substitutability between natural and men-capital is rather limited, and hence, that we have to  strictly protect sources and sinks.

Clearly, the growth spiral argument belongs to the camp of strong sustainability. Assume the opposite view: growth is based on real added value (and not substantially based on natural capital), then the growth spiral is not so much of a problem - at least from an ecological point of view.

Whatever one precisely thinks about weak and strong sustainability - it is interesting to see that these sustainability perspectives have their natural correlate in monetary policies.

Posted by Felix Creutzig on September 17, 2010 4:48 PM | Permalink