James McAndrews: Modern recipes for financial crises Remarks by Mr James McAndrews, Executive Vice President and Director of Research of the Federal Reserve Bank of New York, at the University of Iowa, Iowa City, 4 December 2015. *  *  *  Original presentation is on the Federal Reserve Bank of New York’s website: Slides (PDF). The author wishes to thank Tobias Adrian and Thomas Eisenbach for helpful discussions and comments on the text of the speech. The views expressed are those of the author and do not necessarily represent the views of the Federal Reserve Bank of New York or of the Federal Reserve System. Introduction Franklin Delano Roosevelt, in his first fireside chat on March 12, 1933, cogently explained the mechanisms that led to the complete collapse of the banking system in the United States earlier that month: “First of all, let me state the simple fact that when you deposit money in a bank, the bank does not put the money into a safe deposit vault. It invests your money in many different forms of credit – in bonds, in commercial paper, in mortgages and in many other kinds of loans. In other words, the bank puts your money to work to keep the wheels of industry and of agriculture turning around. A comparatively small part of the money that you put into the bank is kept in currency – an amount which in normal times is wholly sufficient to cover the cash needs of the average citizen.
The main role of private equity is to fill the gap between internally generated financing and conventional market sources, such as bank loans and public equity. Unlike most stock market investments, equity investment enables shareholders to adopt a long-term and hands-on approach in their investee companies, fostering sound corporate governance and transparency, making appropriate contributions to business strategy and optimizing management. Crucially, however, it also contributes to the transfer of skills and has positive demonstration effects in terms of the development of local capital markets and competitive market-oriented behavior10. These modalities such 10  EBRD Transition report 2015-2016. 12  as, venture capital, crowdfunding, business angels, are relatively modest in the CESEE, although the same holds for the EU as well, where private equity has a share of around 0.3% in GDP. Debt market in the region is larger compared to the equity, averaging around 50% of GDP, which is still much lower compared to the EU-28 average of close to 160%. Yet, dominant part of this market segment is related to government securities, while the corporate issuance remains modest. In fact, in most CESEE countries, corporate bond markets remain small, or even nonexistent. Chart 14: Stock and debt market capitalization  Source: ECB and central bank websites. To recap, the region needs to mobilize finance, which amidst burdened government financing and structurally difficult access to bank finance for new and innovative companies, requires further development of the capital markets and more diversified portfolio of financial instruments.