Defining Our Terms Carefully and In Context: Thoughts on Reading (And In One Case, Rereading) Three Books

Abstract

In preparing to write this paper, I read again Walter Bagehot’s Lombard Street: A Description of the Money Market , Perry Mehrling’s The New Lombard Street: How the Fed Became the Dealer of Last Resort and John Authers’ The Fearful Rise of Markets: Global Bubbles, Synchronized Meltdowns, and How to Prevent Them in the Future. . Bagehot, of course, was the Governor of the Bank of England when he wrote what Mehrling calls his “magisterial” treatise in 1873 on how a central bank must react to a financial crisis. Mehrling is an economist and an economic historian. Authers is a financial journalist.

I begin this piece with the legal perspective on the definition of “bank” and follow with an analysis of Bagehot, Mehrling and Authers. As I explain, this analysis should have consequences for crisis prevention and crisis mitigation: I suggest that attempting to analyze the recent financial crisis in terms of the legal description of the various economic actors in the financial sector (“banks” as opposed to “shadow banks,” for example) is not very helpful. Instead, the key issues for crisis prevention and mitigation is understanding (1) how credit intermediation works; (2) how in any particular period, that credit intermediation is accomplished; and, above all, (3) the effects of fear (also called “loss of confidence”) on that process.