Business | Features
Too much money chasing too few good causes
Allowing oceans of excess liquidity on which to float a house (or housing market) of cards appears to have been seriously negligent
- By Andrew Shouler, Editor, Gulf News Quarterly Financial Review
- Published: 01:18 September 30, 2008
- Image Credit: Gulf News
At the risk of overdoing the copious commentary on the global credit crunch, amid all the rancour and recrimination, it may be worth reminding ourselves that the real source of this immense difficulty was not 'rocket science', even if we now have a nightmare scenario of astronomical proportions in our midst.
Since the economic 'decoupling' thesis has been fairly well debunked, it's become plain enough that we may all be touched by the global financial crisis. We've all noticed, then, that they've been talking round the clock about bailing out the American banking system, with others elsewhere implicated too.
But let's look away from the market gyrations and the threats of 'the end of the world as we know it, Bob', and identify a certain kernel of truth in this poisonous vortex.
The essential ingredient. In fact, the bit we can all understand, regardless of the intimidating world of complex equations of derivatives, and derivatives of derivatives.
In that respect, never has the expression 'you do the math(s)' been so compelling in its complicated magnitude and yet fundamentally straightforward.
You could reasonably say that the root cause of the massive systemic crisis in global finance was excessive monetary growth. You might fairly say that the volatile and apparently routinely speculative behaviour of the financial markets, and the excessive leveraging of the participating institutions, was a cause of this crisis.
You might even, at a stretch, say that the lack of adequate regulation, in the face of such excesses, was a proximate cause of the crisis, inasmuch as that markets are known to test themselves occasionally to the limit and beyond when they become hysterical and unchecked.
However, what I really don't think you can say, with at least a modicum of intelligence and common sense in your being, not to mention decency, is what US Treasury Secretary Henry Paulson said in testimony on Capitol Hill last week.
His extraordinary remark, precisely, was: " ... the root cause is the housing correction which has resulted in illiquid mortgage-related assets ...".
Preceded and followed by the blah, blah, blah of "unprecedented times" and "performing the mission of supporting future prosperity and growth". That, surely, is what the Americans themselves call 'baloney'.
OK. Markets go up and down. If they didn't they would hardly be markets, because markets require buyers and sellers, and markets which only ever trade on momentum (i.e. that the next in line will pay even more for what you just paid for) must believe that booms go on forever, and that the concept of bust has been abolished.
Needless to say, history is littered with episodes where, just as it seemed things really were 'different this time', events went on to prove that they weren't. Night follows day. The sun rises in the East.
Sometimes, even in the Gulf, it rains. So, the US government has been engaged in an exercise to try to bail out the banks and related institutions, with hundreds of billions of taxpayers' dollars: the 'socialising' of losses in the wake of privatised
profits.
Layers of disguise
Furrowed brows all round. It's making the little guy subsidise to the hilt the 'fat cats' and 'greed-is-good' merchants who have exploited the conditions of laissez- faire on Wall Street - the guys who have made literally millions, and in some cases billions, for themselves by shovelling bits of paper between each other, on the back, ultimately, of the brainwave that creating innumerable layers of disguise for subprime mortgages and dependent instruments made them appear safe, when in fact they were 'toxic'. Or at least potentially so.
Open the bottle and taste that exotic mixture when the time comes, upon a modest downturn in the US economy (because it happens now and again), and you discover that the feel good liquid is snake oil: mislabelled, worthless, downright dangerous.
Now we know all that. Some had the gumption already.
There were those in the system itself, but particularly who watch the system, even play the system (like Warren Buffett), and who commentate on the system (some realistic and capable journalists) who predicted the increasing risk of what lay in wait.
Subsequently, the market-oriented philosophy of the US government seems to be that of supporting its friends in the market rather than the 'rise-and-fall', 'win-and-lose' rationale of the market. It has seemed to show that Wall Street has a licence to print money, or have it printed, for itself. Which leaves a very nasty taste in the mouth - even signs of frothing.
So far, so righteously indignant.
Some are salivating another way. They sense the moment for 'anti-capitalism', that sleeping monster which was administered the mother-of-all tranquillising doses by the prosperity induced in the 80s and 90s on both sides of the Atlantic upon the rejection of the collectivist norms of the mid-20th Century.
Some will and do spout the socialist credo that the state has to be in charge again, must return to centrestage, not because it's own record is good, but because people are in shock now, because capitalism appears to have wounded itself mortally by its behaviour, and because (yet again) 'something must be done to stop this kind of thing ever happening again'.
The nationalisations of Fannie and Freddie, deftly reinvented as 'conservatorship', are a step, albeit reluctantly under force majeure, in that direction.
So, sympathetic pundits are prognosticating about regulation, in fact 're-regulation' as the necessary antidote to 'deregulation'.
Apart from the fact that the number of operators in the markets who understood the intricacies of what they were doing in financial reinvention and marketing was limited - and therefore the devising of regulation to some extent is arcane and technical - that can be done, and almost certainly should.
The reasoning there is that, even if no individual institution is 'too big to (be allowed to) fail' - AIG seemed to have characteristics in this respect, warranting government intervention, while Lehman Brothers did not - the banking system is simply too important to any country to be allowed to collapse.
It's not just any other industry or sector, which might have become uncompetitive in the world economy.
It would be collapsing on all of us. It is the conduit of money between lenders and borrowers, savings and consumption and investment - the basic intermediary facilitating the exchange of goods and services by means of the transactional instrument known as cash.
It's the container for the oil in the economy's engine, and it pretty much has to be there.
And yet. What we have witnessed is undoubtedly an inexcusable exorbitance, an excess. One manifested by the symptoms of hubris that tend to overwhelm all markets, and all performances, which succeed too well for too long. It's not new.
In fact, the morality tales stretching back to the ancients tell us that the crashing to earth, the come-uppance, the star fallen from grace, are a phenomenon actually all too familiar.
The simple point remains, and it should be in the limelight, not lurking in the periphery. Interest rates were (kept) too low for too long, a condition traceable in the US to the immediate aftermath of '9/11', the systemic threat of 2001.
It is truly ironic, putting it mildly, that Alan Greenspan can make even more of a living pontificating on how to get out of the hole which, essentially, he and his colleagues dug.
But that vital point for future reference has been relatively sidelined in the maelstrom of events and political fighting.
Defining regulation
An interview on the BBC's current affairs flagship 'Newsnight' recently illustrated the confusion. The esteemed 'Rottweiler' presenter, Jeremy Paxman, entertained the calls emanating from his panel of guests that the lesson to be taken was that banking had to be reined in from its 'law-of-the-jungle' rudiments. It had to be tamed and punished.
An analyst from a London think-tank touched gently upon the monetary case, and blamed the central banks, the ultimate source of credit.
Paxman blinked disbelievingly, and applied his famed condescension: "well, it's a point of view, anyway".
He just didn't understand that there might be a centralised essence to the topic which did not rely on the grotesque wickedness of the financial sector - and thereby showed the same arrogance as those he was helping to lambast.
The literally 'right-on-the-money' guest smiled, bemused.
Yet she could have punched him!
For, the ultimate guardian of money is the government itself, though it tends to act through an agent, the central bank. It defines what is legal tender (money itself is nationalised), and it defines the terms of its operation.
But it had 'lost the plot', through inattention, wilful or not. Regulation may indeed have been ill-defined. But the negligence in allowing oceans of excess liquidity on which to float a house (or housing market) of cards was, one could suggest, verging on the criminal.
It had suited governments that cheap Chinese exports had artificially suppressed inflation in the 90s, according to distorted indexes which governments themselves devise.
Interest rates thereupon spent too much time in the nought to five per cent range, not enough between five and 10 per cent, where it pays to save rather than consume, to speculate and otherwise to search desperately for means of preserving real income and wealth.
People have instinctively made property their pension, and 'guaranteed' investment, rather than mainly the roof over their head, although a commitment usually with more upside than downside risk.
Had interest rates been higher all along, the housing market would still have appreciated, as the basic supply-demand dynamics of growing populations, and the prosperity that freedom of choice and stability assist, would have determined.
But the risk of massive boom and massive bust would have been massively alleviated. We would not be in the shocking situation we are. Growth would have been slower, and the cost-of-living version of inflation lower.
Self-serving bankers strayed, but so too did self-serving governments - those whose individuals flatter themselves with the responsibility of ultimate authority and power - via their representatives the central banks. Badly.
The securities markets might still have overreached. The engineers and the salesmen have their jobs to do, to make money for the banks.
But they and their activities were symptoms too as much as cause. As one senior banker in Dubai put it to me, that entire domain was simply "leverage upon leverage", building on the shaky foundations to which we have all been condemned.
Their blame and shame is limited, even though the sense of outrage, and the news of the bailout blues, have persisted. There is a moral in the story. It is a good one, on excess.
And it applies in the Gulf, with a tilt, just the same as anywhere else. If you're in any doubt about that, consider the liquidity injection being devised by the UAE central bank.
With real interest rates prevailing of -8.8 per cent this year, according to the Economist Intelligence Unit. With a building boom filling the air with dust, in a country emerging fast from sand, whose economy appears already to be overheating.
With inflation already in double-digits, a sure enough sign. For now, it's probably necessary. For the medium term it's as well to remember an underlying truth.
You can have too much money, it can have very bad effects, and blame has to be very carefully apportioned when that happens.
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