AIG, the prominent sponsors of arguably the most successful football club of the decade, have not mirrored their protege's success themselves. Having had 3 serious injections of cash to try and shore up their rotting balance sheets, they have gone back begging for a fourth hand out. This time their argument is not so strong - it's plain and simple; help us out or the whole money market could get crippled causing major effects in Europe and amongst other insurance companies - doom is the alternative.
It's the equivalent of a financial gun to the head and it is also an invite to pile in good money after bad. In the UK we have had a similar problem with RBS and Lloyds - to the tune that more money has been ploughed into RBS than its entire worth in terms of shares meaning it will be a long, long time before the taxpayers' shareholding sees any return on the investment - if any.
So what is the mentality behind so much money going into these companies? What is the predicted outcome? And when does it all stop?
Finance For Dummies
The financial crisis has sobered us all up - and at least we know some more about the mechanics than before. Over the past 10 years or so, we have believed in the competency and skills of the slither of elite population occupying the banking world and given them credit for creating a period of prosperity which has seemed greater and more sustainable than at any other time in history. I was among the few people who did not believe in the Brown-Blair mantra on the economy and it was obvious to many that the prosperity was not coming from fantastic Corporate performance and the corresponding general increase in disposable household income from salary and benefits. It was clear that an awful lot of money was 'created' by leveraging assets which flowed to a comparatively small number of people and made them incredibly wealthy.
In the world of zero sum economics, there is a belief that not money is never created or destroyed, it just flows somewhere. That is true to a point. The fact is that those who have leveraged the increase in the value of their homes have effectively just increased their debt - money was created and lost as asset values plummeted.
It is very hard to see how people of fabulous intelligence could get this so horribly wrong. The whole financial system had been grown in size and complexity well beyond the fundamental value that underpinned it and it was easy for outsiders to see - so why was it so hard for insiders to understand this?
And why did Politicians ignore repeated warnings from places like the IMF about Britain's National Debt but, more importantly, the unprecedented growth in personal, unsecured debt? These numbers are not hidden nor are they hard to understand. Whilst many would point to the judgement of bankers being clouded by their own greed, this could hardly be aimed at Politicians who, apart from consuming ever larger amounts in unwarranted expenses, were not on some superb bonus scheme should they keep the economy growing.
What Caused The Errors Of Judgement?
The one thing I never thought about Gordon Brown in the run up to the financial meltdown was that he was unintelligent. His academic credentials are fairly awesome and his textbook language of the economy certainly seemed to demonstrate he knew the terminology if not the mechanics of the economy. I definitely disagreed with his assessment that Britain's fundamental economic position was good - it was clear to me that our economy was underpinned by over valued assets and that had to give at some point. I did believe, though, that he must have an infinitely better grasp of the situation than I so there was probably a great deal more to the situation than I knew about.
It appeared that was not the case. What has certainly been proven in the last year is that Gordon Brown has little more grasp on the mechanics of the economy than the average guy in the street. Even now, as he surrounds himself with very highly paid and some very dodgy bankers, he still seems to have little clue as to how to solve the problems.
The Catalogue Of Errors
I could go on but here are just a few.
Firstly, I think character judgement has been poor. Already we have seen people like Glen Moreno and Sir James Crosby at the heads of watchdogs and members of the inner-circle of advisers be from businesses with dubious backgrounds. In Crosby's case, HBOS were using over zealous selling tactics and later got into suicidal corporate lending, mostly via Crosby's protege Andy Hornby - but HBOS was on a path to go bust, be rescued, clock up massive losses and have over £200bn in toxic debt. How on earth did Crosby get a place at the advisory table is beyond comprehension. Moreno sat at the head of several dodgy tax avoiding companies in Liechtenstein and yet was part of the inner-circle too. Then there was the man that Gordon Brown held up as the pinnacle of banking genius so much so he befriended him personally had him knighted - I am talking about Sir Fred Goodwin of RBS.
Secondly, the long term belief that the economy was working fine despite the severely over-heated house prices was bad enough, but the belief that the financial system was not using a flawed model was unforgivable. Down-toning the methods of the watchdog, the FSA, was symptomatic of foolhardy judgement that the business model would somehow keep fuelling itself when all logic pointed to it imploding if some small spanner got in to the works. The spanner was small - it was just a realisation that any one part of the financial system could have a mismatch between actual worth and estimated brought the whole thing to a shuddering halt. And not just an 'adjustment' as George W Bush famously called it, but a massive implosion as everyone realised they had been trading in debt until they were far beyond knowing who held what and how much it was worth, and that this alone, not deposits, was making the whole banking system work. The funding gaps together with the concern over asset values, blew the whole system apart.
Yet it was visible all the time - a system built on such a house of cards that any one corner could give way and cause the total to collapse.
Thirdly, the reaction to the collapse has been extraordinary. Far from trying to assess how much toxic debt was at the heart of the problem - for some reason it was believed that pumping a significantly large amount into the system would restore the Utopian view of the economy once again. Yet the total amount of outstanding derivative positions was over $500 trillion, over $900 trillion if you included the associated insurance positions. This was the total extent of traded debt in the market - somewhere between zero and that total figure was the answer to the question - how much? Yet the accumulated wisdom of the banking fraternity at the heart of all this and the Politicians who believed them, started to pump what now appears to be huge yet inconsequential sums of money into the system. The recession has only exacerbated the problem - global demand has dropped significantly and even the budget positive Chinese is now plummeting into debt. As Politicians try to apportion blame to some amorphous body of energy called 'globalisation', they also try to make us believe that without this globalisation the world will be far worse off - yet we were not that bad off beforehand and without it.
Fighting Fire With Fire
The end result sees plenty of talk, some big action and then some total inaction with the associated ineptitude. While Ministers tell us that the car industry needs to £2.3bn to survive in January, we are now in March and nothing has been done as Vauxhall teeters on the edge of oblivion. The failed New Labour experiment in commerce has brought us at the brink of the abyss of nationalisation and how sad that we have red-carpeted their path to it by giving them two terms in office and such powerful mandates that makes it impossible for us to get them out within two years. By that time, the detrimental effect on our economy will be something that future generations will have to pay.
In reality, all the upside of the last 10 years will be paid in the form of a 30 year mortgage on the people, which will be paid off, if we can afford it, in future rises in tax.
At some point, commerce has to kick in. In the world of business, there is little room for sentimentality and idealism. If you run your business badly, you pay the price - seeking bail outs to survive is a fantasy world in which people who are most affected by the mess actually foot the bill for the mistakes made by people who became amazingly wealthy on their stupid business ideas.
If you had written it as a novel - no one would have read it for its lack of reality.
Yet this is what is going on. In the US, AIG and Citicorp, have collapsed to mere shrivelled shells of once great companies, but that is the law of business. You play with fire, you get burnt. Giving you more fire to play with only means you get more burnt.
What If We Did Not Bail Out?
It is hard to say or know what would have happened had we let many of the banks fail - certainly the likes of Northern Rock. There would have been mass defaulting on debt, but in the long run it may have been quicker and less expensive in exposing the actual value of the problem, to then deal with it and then move on. Instead, we have attempted to maintain the status quo and it has been a horrible and expensive series of mistakes which may yet prove to be far more costly than could ever have been imagined. To some extent, it could even be argued that we may still yet have a system which completely fails and we may yet have to go back to some starting point and suffer the wide-scale collapse of the banking system. By that time, all the money we have put in so far will have been lost and Britain would stand on the edge of the cliff of bankruptcy with only the IMF left to turn to as our bonds will be junk.
As we try to pick our path out of the mess, there are more than financial systems which need to change - I would argue that the Political system needs an overhaul too. One of the most disempowering aspects of this whole crisis is that no one has been in a position to effectively challenge and stop the Government from making more mistakes or for them to only listen to the advice of the idiots who caused the mes in the first place - that should teach us a grim lesson as this second Labour Government had a 100+ seat majority based on only 34% of the popular vote.
It is at times like these that you understand that our democracy, as we know it and try to impose on other nations, is very flawed indeed as is our knowledge of finance.
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