Business | Opinion
Irresponsible lending is to blame for financial turmoil
I have sent this report from Washington, a city watched closely for clues on solving the current global financial crisis. My visit to the city coincided with the annual meetings of the World Bank and International Monetary Fund. The global financial crisis overshadowed proceedings of the annual meetings.
- Dr Jasim Ali, Special to Gulf News
- Published: 00:03 October 19, 2008
I have sent this report from Washington, a city watched closely for clues on solving the current global financial crisis. My visit to the city coincided with the annual meetings of the World Bank and International Monetary Fund. The global financial crisis overshadowed proceedings of the annual meetings.
The trip gave me the opportunity to meet some delegates attending the event. For instance, during a reception party, I ran into Klaus Schwab, Executive Chairman of the World Economic Forum. He told me that the next annual forum, scheduled to start on January 28, 2009 in Davos, would focus on restoring confidence in the financial sector.
Through exchanges with a number of professionals, I reached the conclusion that irresponsible lending practices caused the extraordinary financial crisis encircling the global economy. More specifically, investment banks such as Lehman Brothers set the stage for the crisis through excessive lending practices. A sizeable portion of customers managed to obtain amounts of loans beyond their means. Some had difficulty paying the interest let alone returning the principal on their loans. Still, the investment banks succeeded in globalising the whole matter through issuing securities and selling them to investors worldwide by binding them to returns on loans. Hence, the problem turned into a global crisis when it emerged that a notable percentage of clients could not meet their financial obligations.
In return, clients offered their homes as collateral for the facilities. Failure to pay meant that banks had the right to auction the homes. The experience threatened making homeowners homeless with untold social consequences. I could easily spot signs of foreclosures while driving into several neighbourhoods in Virginia.
Talk of the town is that Bush Administration, a staunch supporter of market economy, possibly had no choice but to intervene and put forward a $700 billion rescue package. Failure to act could further increase bailout cost.
The deal includes setting aside $250 billion buying stakes of banks. Last week, the Treasury Department started buying stakes at nine major banks including Citigroup, JP Morgan, Chase, Wells Fargo and Bank of America, at the cost of $125 billion. An additional $125 billion was set aside to buying stakes at smaller banks. While welcoming the move, some felt that it should have come at a relatively faster pace.
The Gulf Cooperation Council (GCC) counties have a great lesson to learn from the financial crisis episode. The most important lesson relates to that of ensuring that central banks closely supervise lending practices of banks. Careless lending practices in several investment banks caused the problem, only hardened and attained international extension through securitising the loans, in effect financial derivates. However, financial institutions operating in the GCC tend to engage in marketing campaigns, as part of efforts to attract clients. Central banks should not overlook the dangers associated with the practice of commercial banks offering rewards while attracting deposits.
Going through the daily special newsletter the annual meetings of IMF/World Bank, I noted that many delegates blamed the crisis on financial derivates. Securitisation of banking facilities caused the sub-prime crisis to spread worldwide.
Istanbul, Turkey hosts the 2009 IMF/World Bank meetings, yet the country faces the challenge of producing a meeting that matches experiences of Dubai in 2003 and Singapore in 2006.
The writer is a Member of Parliament in Bahrain.
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