The End of Alchemy is the most comprehensive book on financial crises that has been published since the Great Recession. Mervyn King headed up the Bank of England during the 2008 Financial Crisis. However, unlike Timothy Geithner and Ben Bernanke, he doesn’t set out to defend his actions during the crisis or make excuses for questionable decisions. Instead, King criticizes the system that allowed the crisis to happen, allowed the crises before it, and will inevitably create future crises if it is not changed.
King defines financial alchemy as the transformation by banks of illiquid real assets into liquid financial assets. Banks finance long term lending with short-term borrowing, a risky practice that–when pushed to its limits–can result in financial ruin for the bank and its depositors if the short-term lending ever dries up. A run on the bank is often blamed on a lack of liquidity, but the real problem is often a lack of capital.
Banks put themselves in these risky positions because there is an economic incentive for them to do so. Central banks have acted as the “lender of last resort” for over a century. King argues that they should instead function as the “pawnbroker for all seasons.” If you don’t have the capital to use as collateral, we let you fail.
King avoids politics and sticks to economics. He talks about changing our perception from the economics of “stuff” to the economics of “stuff happens.” This is an approach we should take in managing the macroeconomy, but also in our households and businesses. We have a whole world revolving around a system of “robbing Peter to pay Paul.” It is unsustainable and puts virtually all our assets at risk. Mervyn King is the only banker willing to talk about it.