CRISIS!!!

I believe that the unfolding of the current events can be attributed, to a large extent, to the precipitous measures taken by governments to support faltering financial institutions and try to boost confidence in the stock market and ultimately prop the stock prices. They were, of course, looking at the 1929 events, when a series of uninspired governmental decisions did nothing but bad to the developing crisis. Well, 2008 is not 1929. The level of integration and coordination of economies worldwide is incomparably higher today and the cooperation of governments is at a different level now than back then. The smartest way to deal with the crisis today would have been to let the stock prices fall in an unprecedented manner, because in my opinion, prices would have bounced back once they have reached the psychological bottom. This, coupled with a slight alteration of the central banks’ interest rates would have certainly led to a quick recovery. What is happening today is that investors are still searching for the real bottom, after a series of false rallies each triggered by the various measures taken by governments. This has lead to an escalating uncertainty and people, rightly so, are looking for safe heavens, waiting for the crisis to consume itself. This waiting, of course, is translated in the real economy through suspended investments, postponed expenditure and decrease in consumption.
In any case, contrary to many pundits’ beliefs, I do think that, however deep, recession will be short in time and the recovery will be rather quick, bringing the world development to unprecedented levels. This would be so because today we have a much higher number of informed and eager consumers, all over the world, with increased purchasing power and with a willingness to increase their life standard. The only real risks ahead are an uneven spread of wealth, exhaustion of natural resources, depreciation of natural environment and climate change.

The gangs of..Wall Street

I am not a top-notch financier but let me tell you this: the current development on the financial markets stinks of fraud. And it stinks really badly: Picture this: my neighbor has a boat, or better yet: this guy Joe that lives in the other side of my town has a boat. I do not personally know him. He goes fishing from time to time, and some say that he has pretty good skills. Now, what interests me is the following business: I want to purchase an insurance that covers Joe’s boat. This means that if Joe’s boat sinks, I will be reimbursed the boat’s value. Remember: I do not have any interest in Joe’s boat and I hardly know him. Do you think that there will be any insurer willing to sell me this insurance policy? I guess not. But that is because I am not living on the Wall Street. Should I be living there, many companies would be more than happy to sell me this type of insurance. This is similar to what they call credit-default swaps. Moreover, it is not only me who would have bought this policy, but also my neighbors, my friends and many others. Now, what do you think the chances are that Joe’s boat will sink by this time next year? When Lehman Brothers was allowed to sink, it had triggered a series of claims for the purchasers of CDS related to its bond. This immediately destabilized AIG, one of the main issuers of CDS. It was very convenient for AIG to sell CDS, since they were not even required to set aside the capital needed to cover a potential loss, given their AAA rating and in accordance with the regulation in place at the time. The fact that Mr. Paulson decided to “save” AIG with taxpayer money had only closed the vicious circle of this extremely convenient situation for some. Sinking Joe’s boat seems easier than sinking such a powerful player as Lehman. But that is until the gangs of Wall Street come together to work for a common interest.

The crisis in the people’s mind

Let me put things in the right perspective. What we experience today it is a crisis. And it’s on its way to become a monstrous one. But it is not an economic crisis. Not yet, at least. However, the wide range of economic measures taken by political (!!?) leaders certainly have the potential to transform the whole crisis into an economic one, an unprecedented one.
The stock markets are falling because people’s confidence is falling. No economic measure will help people’s perception about crisis. We know that people’s mood makes a lot of the movements in the financial markets. Behavioral finance is an established field in the academia. But my opinion is that no particular economic decision can change the mood of the people. Sometimes the most comprehensive measures will not help, but other times remote and insignificant measures will trigger market rebounds. In is true that high-level financial arrangements have become a mess that clogs the natural flows in the banking industry and these have to be sorted out. However, my feeling is that many of today’s measures are taken with the specific purpose of propping up the stock market, and this is ultimately wrong. I believe that the markets should fall down to the level where investors will confidently feel that it is time to move back in and then .. up you go.
The wide range of political decisions, however coordinated, will solve nothing in the stock market. They will only undermine people’s confidence in the resilience of the system and its ability for self-healing. This is something serious. This is a belief that will be left in the people’s minds for a long period and it’s difficult to assess its consequences for the years to come.
I would not go so far as to claim that we do not and we will not experience an economic downturn. It is here already and many people feel it directly. But that is OK. People have since long learned that the capitalist economy has a cyclical evolution. Upturns are followed by downturns. It’s part of the game. Moreover, it’s something that the free-market system needs, in order to flush away laggards in terms of productivity and the flawed business practices. Some may not realize this, but one of the virtues of the free market system, aside from prices emerging out of the dynamics of supply and demand, and perhaps more important that that, is the famous Schumpeterian rule of creative destruction.

Weak leadership and corruption

In my exalted previous post I was expressing admiration towards the American people and their values. I also noted that the Americans have been blessed with inspired leaders who contributed to the fortune of their great country. The development of the events that followed showed that I was wrong in crediting today’s lawmakers with the vision that characterized their more famous predecessors. By passing the bill to save the troubled financiers, the US congressmen embarrassed themselves and the great country they represent. While the economic benefit of their vote is uncertain, what is certain is that America and the values it stands for, are seriously jeopardized. It is an indicator that today's political leaders are weak and easily to be confused. It is true that the circumstances are exceptional, but it is the difficult times that show the great virtues in men. I will be watching with great interest the unfolding of the crisis that many believe it is the greatest after the Great Depression and the very fundamental principles of the free market and of the western world are at stake. I would not go that far. If it will be a recession it will be short lived and it will not bring to peril anything but weak businesses and inefficient companies. It will probably set new standards for the way the banking business is conducted, which is an absolutely great thing. Overall, it could be the case that the benefits will out weight the losses. Before all this will end, I have draw attention to something related to weak leadership. When a society's leaders become weak and ineffective, there is a great danger that the core values of that society will fade out, and the corruption will invade at every level. This is something that even scholars failed to notice: not only corruption leads to ineffective government, but also a weak leadership will give birth to corruption. When people fail to see in their leaders the guarantors for the society's values, then they will turn to their own personal interests and the societal priorities will be disregarded. This means the corruption will become widespread and this phenomenon will further generate weak leadership, in a self-enforcing loop. Beware, congressmen!