June 18 (Bloomberg) -- Governments are trying to remedy the ills of the global financial system with a series of salves, Band-Aids and bandages. Instead, they should be reaching for their policy scalpels and cutting deep. Here are some surgical suggestions for more radical change.

1) The Business of Central Banking Is Bust

You probably wouldn’t let a bunch of academic economists manage your pension money, so why do we put them in charge of monetary policy? While nobody wants to return to the days when politicians dictated the cost of money, the idea that unelected apparatchiks set borrowing rates will come to seem as anachronistic as spats and bowler hats.

Instead, the monetary policy reins should be at least partly in the hands of captains of industry, who know something about running companies and ensuring that their workers get paid on time. Every rate-setting committee in every country should have a mandated number of seats set aside for businesspeople. Sure, they might lean toward less stringent monetary conditions than their theory-driven colleagues; that mightn’t be bad.

The most recent central-bank appointment was by the Bank of England, which this week hired Adam Posen, a Harvard University graduate who is currently deputy director of the Peterson Institute for International Economics. As colorful and outspoken as Posen is on the financial-conference circuit, he is cut from identical cloth to his peers. A better mix of backgrounds among our economic guardians might make for better policies.

2) Ratings for Sale

The business model whereby the creators of financial products pay Moody’s Investors Service, Standard & Poor’s and Fitch Ratings for credit assessments has been shown to be corrupt and unsalvageable. Too much collusion between assayers and sellers has destroyed investor trust in the grading system.

Gretchen Morgenson at the New York Times unearthed a 1957 article in the Christian Science Monitor in which Edmund Vogelius, a Moody’s vice president, outlined the problem. “We obviously cannot ask payment for rating a bond,” Vogelius wrote half a century ago, according to a piece Morgenson published in December 2008. “To do so would attach a price to the process, and we could not escape the charge, which would undoubtedly come, that our ratings are for sale.” Vogelius was correct; ratings WERE for sale all through the credit boom.

The users of ratings, not those who commission them, should pay for their production. Ratings companies will either learn to live with the new framework or, if investors don’t value their work enough to pay for it, they will die; finance abhors a vacuum, and something will arise to meet the needs of money managers if the existing assessors of creditworthiness fail.

3) Payment in Kind

The bonus system that allows the banking community to make almost unlimited gambles and walk away unhurt if the bets backfire, yet wealthy if they get lucky, is untenable. The days of “pay now, discover the consequences later” have to end.

One solution is to give greater weight to the amount of risk taken to achieve profits, with more speculative business generating lower bonuses. Another is to implement claw-back mechanisms, forcing partial repayment of bonuses that turn out to be based on chimerical returns.

The change that would do most to align the interests of risk-takers with the stakeholders they serve, though, would be to pay bankers in kind. Had American International Group Inc. paid its traders and executives in so-called super senior credit-default swaps, it might have given more attention to analyzing whether they were as super as they seemed.

4) Sovereign Suffering

The ability to print money doesn’t exclude the possibility of creditworthiness deteriorating. The days when some nations could expect to automatically qualify for a AAA rating are over -- witness S&P’s decision to put the U.K.’s top grade on review for a possible reduction.

The rating companies, though, will have to find something more akin to backbone than they have displayed in recent years. Even big countries can’t be allowed to load up on debt and deficits without some sanction; just as bond vigilantes punish profligate borrowers with higher yields, spendthrift governments should have their grades cut.

5) Change You Can Bank On

The Glass-Steagall laws were enacted in 1933 to separate commercial from investment banking, on the basis that the Depression had revealed the dangers of commingling such activities. The rules were dismantled by President Bill Clinton’s administration in 1999. The ensuing decade, so promising for so long, didn’t turn out so well.

Former Federal Reserve Chairman Paul Volcker, who is now head of President Barack Obama’s Economic Recovery Advisory Board, said in April that while he wouldn’t want to bring the act back in full, he would divide commercial banking from the more risk-seeking ventures.

“I want to separate the service-oriented core of the system from capital market trading, which is of course very risky,” he said. “A lot of money is in markets, particularly in so-called proprietary trading, where people are out there trading things they have no intrinsic interest in. They’re trading to make money. And that I would leave away from the banks.”

It is undoubtedly difficult to distinguish which areas of banking should and shouldn’t rub shoulders with the commonplace taking of deposits. That’s no excuse for not making the effort. Maybe, though, the horrible truth is that the government is the only institution that can really be trusted to look after deposits, since that’s where they end up anyway in the event of a systemic disaster.

(Mark Gilbert is the London bureau chief and a columnist for Bloomberg News. The opinions expressed are his own.)

To contact the writer of this column: Mark Gilbert in London at magilbert@bloomberg.net

Last Updated: June 17, 2009 19:00 EDT