If you thought there was one lesson from the financial crisis of the last 5 years, it would likely be that governments need to have the ability to cut themselves loose from large financial institutions, meaning that they have the power to liquidate or restructure them without incurring massive fiscal obligations. And when people look around for a model of how this process might actually work, they cite the US Federal Deposit Insurance Corporation (FDIC).

It may be worth noting therefore that in the spending cuts bill (H.R. 6684) hastily assembled by US Congressional Republicans on Thursday to drum up votes for their fiscal cliff solution, the FDIC would have lost its expanded 2010 Orderly Liquidation Authority to liquidate or restructure bank holding companies, bank affiliates, or non-bank financial intermediaries (like AIG) — its power prior to then only included banks that it directly insured. It’s not like the bill proposed a better alternative — had it passed, it would have been simply a reversion to the 2008 situation, which worked out so well with Lehmans and AIG. And this was being presented as a solution to the country’s long-term economic problems. Lesson: the fiscal cliff isn’t just about fiscal policy. There are other very damaging agendas being pursued under its cover.

Two seemingly unrelated news stories … or are they?

1. New York Times —Each country [Iran & Argentina] has domestic reasons to reach out to the other. As Argentina’s economic growth slows, it is finding in Iran a robust client for its agricultural commodities, with trade volumes between the two nations surging more than 200 percent over the last five years to more than $1.2 billion. Iran, meanwhile, is seeking to blunt its diplomatic isolation, expanding on the warm ties it has forged with other nations in Latin America, notably Venezuela, Bolivia and Ecuador.

2. Wall Street Journal —Turkey on Friday acknowledged that a surge in its gold exports this year is related to payments for imports of Iranian natural gas, shedding light on Ankara’s role in breaching U.S.-led sanctions against Tehran. The continuing trade deal offers the most striking example of how Iran is using creative ways to sidestep Western sanctions over its disputed nuclear program, which have largely frozen it out of the global banking system … In Turkey, state-run lender Turkiye Halk Bankasi has been responsible for processing the payments, since the U.S. adopted a measure in January to stop dealing with financial institutions working with Iran’s central bank, freezing out private Turkish banks from facilitating payments.

Iran and Argentina have at least one thing in common. As a result of its mishaps in US Circuit Court in New York in the long-running bond default litigation with Elliot Management and Aurelius Capital, Argentina could find itself needing ways to make payments to people (its bondholders who took the restructuring) while bypassing the global payments system. Iran knows how to do that and the Turkey deal shows it can made to work even for multi-billion dollar payments. Could there be some technical information sharing going on between Tehran and Buenos Aires?

Statement from Central Bank of Ireland —

In 2009, the Central Bank imposed an obligation on the Firm [RBS Irish subsidiary, Ulster Bank] to hold €339 million in additional Pillar II capital as a buffer against the risks (over and above credit, market and operational risk) to which the Firm was exposed. In the Firm’s regulatory return submitted to the Central Bank on 31 March 2011, the Firm reported a capital shortfall in relation to its Pillar II requirement of €313 million. The Firm immediately received a capital injection from its parent company Royal Bank of Scotland Group plc (“RBS”) to rectify the issue. The Firm made significant amendments to its Capital Management Programme following a review of the issues which highlighted that the primary cause of the failures was due to inaccurate capital forecasting and other capital management control issues.

The Regulations seek to ensure that credit institutions have sufficient capital to support all material risks they are exposed to. Credit institutions are obliged to hold capital for credit, market and operational risk (Pillar I Requirements). The Regulations set out a framework for the assessment of additional risks relevant to a particular credit institution over and above credit, market and operational risks (Pillar II Requirements). The contraventions identified in this case relate to the Firm’s Pillar II Capital Requirements.

This is part of an announcement that Ulster Bank has settled claims relating to contraventions of capital and liquidity requirements via correction of the lapses, beefing up procedures, and a fine of, er,  €2 million. Now, the first read-through of the statement has something of the flavour of those moments in Inception when you think they’ve exited from a nightmare only to find that they’re still in one: Irish banks, mismanaged liquidity and capital requirements, lax controls, inadequate information submitted to the supervisor … and it happened in 2011!

One reason CBI went relatively easily on Ulster Bank was “the Firm had access at all times to sufficient liquidity and capital during the period as part of RBS.” Which sounds a lot like an implicit cross-border subsidy at a time when banks are supposed to local in life and not just in death. RBS management hasn’t made much secret at their frustration about the way Ulster Bank caused large losses for the overall group. Is there a point at which they decide to get out entirely?

From the IMF’s Global Financial Stability Report. There’s a recurring controversy in Ireland as to whether the country was somehow bounced into a bailout by the European Central Bank in November 2010. The ECB’s reluctance to release all its communications with the Irish Department of Finance in that month has fed the suspicions, but the chart above should lay to rest to notion that Ireland was singled out by the ECB for special treatment. Ireland singled out itself. Exposure to the central bank system (ECB + Central Bank of Ireland) was rocketing from late summer 2010, as the 2 year blanket guarantee of September 2008 expired and Irish banks could find nowhere else but central banks to refinance their bond cliff of September 2010. Add to that the inability to convincingly upper bound the Anglo losses, and you had seemingly open-ended central bank exposures unlike other peripheral then or since. Incidentally, if spikes in this variable (central bank borrowing as share of GDP) are a leading indicator, the dashboard is flashing for Spain now.

Speech by Benoît Cœuré, Member of the Executive Board of the ECB, at the Institut d’études politiques in Paris yesterday —

… from an institutional design perspective, central bank independence and a clear focus on price stability are necessary but not sufficient to ensure that the central bank can provide a regime of low and stable inflation under all circumstances – in the economic jargon, ensuring “monetary dominance”. Maintaining price stability also requires appropriate fiscal policy. To borrow from Leeper’s terminology, this means that an “active” monetary policy – namely a monetary policy that actively engages in the setting of its policy interest rate instrument independently and in the exclusive pursuit of its objective of price stability – must be accompanied by “passive” fiscal policy. A passive fiscal policy means that the fiscal authority must be ready and willing to adjust its policy stance (revenues and primary spending) in such a way as to stabilise its debt at any level of the interest rate that the central bank may choose. … The creation of the EFSF/ESM in charge of providing support to euro area Member States in difficulties and enforcing appropriate conditionality has filled this gap. It provides the euro area with a means to restore “Ricardianess”, thereby minimising the risk of “fiscal dominance”.

Although this section of the speech is steeped in references to technical literature, it puts at least one major question up for debate: is what ails the Eurozone a need to reassert monetary dominance? The now seemingly widely accepted diagnosis of Professor Paul de Grauwe was that the Eurozone had excessive monetary dominance: precisely because the ECB was not a national central bank, none of the fiscal authorities within it had the ultimate backstop of monetary financing of debt, and therefore some face punishingly high yields or complete lock out from bond markets.

So although what M. Cœuré describes may be pleasing to Bundesbank ears, the underlying interpretation is somewhat different. What’s happening now is not a switch back from fiscal dominance to monetary dominance. It’s a kinder, gentler monetary dominance where the discipline comes not from a binge and purge fiscal cycle, but more active support to keep the would-be fiscal dominators from finding out the hard way what happens at the end of the alternative path. In so doing, it also makes old style Bundesbank monetarism easier: tight money now doesn’t force countries to the point where inflation is eventually the only option.