Early in 2016, Mervyn King, the former Bank of England governor released a new book. In his new book, he says the most recent financial meltdown showed that these emergency facilities often “failed to penalize banks that took advantage of such support”, offering “inadequate haircuts [on collateral] and low or zero penalty rates” as panic gripped markets.
Lender of last resort:
Lord King says the financial crisis of 2008 shows the concept of a central bank acting as “lender of last resort” when financial institutions have run out of options is “in need of updating. It is time to replace the lender of last resort by the pawnbroker for all seasons,” he writes. He goes onto explain during the 2008 crisis, banks would come to the Central bank looking for a loan once they were already deep in trouble, not only that they would offer very complex (sub-prime loans) or nearly worthless collateral for the loan.
Pawnbroker for all season:
Lord king explains “A pawnbroker is someone who is prepared to lend to almost anyone who pledges collateral sufficient to cover the value of a loan – someone who is desperate for cash today might borrow $25 against a gold watch. In 2008, banks had very few ‘gold watches’ and plenty of broken ones, and central banks were forced to lend against inadequate collateral in order to save the system.” this shows us the insanity of the system at the time, with banks getting loans with almost no collateral.
The solution proposed is a tough one, but seems fair to the layman, banks would be forced to guarantee any money deposited in savings, less than 12 months old, or be able to borrow from the Central bank with set collateral.