Shorts are back

They won't be trying that again. On Thursday, the US market was the first to lift its ban on the short selling of financial stocks. Most five-year-olds would conclude that the idea did not work. From the day before the ban came into effect on September 19, the banking sector has lost a quarter of its market value. More institutions have disappeared off the map. If anything, the severity of the meltdown has increased.

The idea was intellectually and practically flawed. But the authorities should not be blamed for trying. That the market had its biggest rally of the crisis on the day following the announcement of the ban shows there were plenty of others who thought it might help.

And the world was different back then. Sure, bank share prices were under attack – rightly so as it turned out – but there was still a feeling that a small boost to confidence might be enough to turn things round. There was also political pressure to punish those nasty speculators thought to be making a fortune out of others' suffering.

So it was an ineffective move. But did the ban make matters worse? Some suggest it caused volumes on the New York stock exchange to fall, thereby increasing volatility. Yes, trading dropped immediately, but it came off a peak. Volumes over the period were no lower than the average for the year before the ban. On slower and more volatile days, it is more likely that other investors were either staying firmly on the sidelines or panicking like mad as the crisis unfolded.

There is no doubt that short sellers are now back in business. Yesterday, Morgan Stanley's share price fell 25 per cent and the sector by more than a 10th. But it would be a mistake if other countries read that as a warning not to lift their own bans eventually rather than as a sign that banks are still floundering.

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