5 Years On: Making Money in the New World We passed an interesting anniversary this week. It’s exactly 5 years since the collapse of Lehman Bros. in the US, and the date that the GFC went viral. The GFC certainly shook things up a bit. And there was an expectation in the years that followed that we’d see a new economic order emerge from the rubble. There was a curious chorus, with angry US Senators joining with shaggy Occupy Wall Street protestors to demand that ‘the system must change!’ So has it? Is the global economy safer and more secure? Do Aussie or even American investors face a radically different world? If you ask me, I’d say the game hasn’t changed at all. And if anything, the system corrupt features that got us into the mess in the first place have only gotten worse. This is not some conspiracy theory about our governments being controlled by reptiles from outer space. It’s just what happens when powerful self interest (and mountains of money) meet with a poorly defined and mis-informed public interest. So what has changed? Well it’s true that there’s been a crack down on the dodgy mortgage-backed securities market. There’s much less room now for some of the dodgier practices that murkied those waters. So, does that mean we’re safe? Well, maybe for now. But only until the next financial sector ‘innovation’ that allows banks to start recklessly throwing money all over the place again. But the heart of the problem is with the financial sector itself (I’m talking about the US in particular here, but the same is true of Australia). And the crux of it is just that we’ve allowed the banks to become so big. In modern economies the supply of credit has become an essential service – on par with electricity and running water. Without credit, and therefore the banks, there is no economy. And in places like America, where the government is up to the eyeballs in debt, no public service either. It’s an apocalyptic scenario. But at the same time, we’ve allowed the provision of this service to become more and more concentrated in fewer and fewer hands. And those hands all have their hands in each other’s pockets. Are they your car keys? A complex web of refinancing and repackaged financial products means the banks are all tied up together – like mountain climbers up a cliff. And this means that we now have banks that are ‘too big to fail.’ If one of them goes over then they all go over together. And for government, total financial system collapse is a scarier scenario than outright war. Add altruistic desires to avoid social and economic ruin aside, no government would last the next election if they were seen to have ‘let it happen’. And so what can a government do but throw money at the problem? Try to prop up the bank and hope that it gets its house in order. And the scary truth of it is, that this is still as sophisticated a strategy we have for trouble in the financial sector. There is no clear strategy anywhere in the world for how you might take down a major financial institution in an orderly manner. Say one of the big 4 here, ANZ, CBA, Westpac, NAB, found themselves in a mess of their own making. How would you let them face the consequences? How could you bring down a bank of this size in an orderly way with out devastating fall-out? No one knows. And so the best strategy we’ve got is still to just throw money at it. But can you see the problem here? Imagine you ran a business where the government said no matter how badly you stuff it up, no matter what kind of foolish decisions you make, I’m not going to let you go to the wall. You’re too big to fail. Here’s a bag of cash. Why wouldn’t you take risky gambles? If you win, you win big. If you lose, the government picks up the bill. And so we’ve seen banks effectively hold governments to ransom. Like Allied Irish Bank, during the Irish banking Crisis. They just said, “We’re going under. What are you going to do about it?” The government gave them a big bag of cash. And so following the GFC, there were a lot of calls to break the strangle hold of the banks – to unwind the concentration and expose them to more competition. But things have gone in exactly the opposite direction. The big banks have gotten bigger (though in part this was due to people fleeing to the perceived safety of the big boys). But regulations have done nothing to bring us back from the brink. And quantitative easing, which is effectively about force-feeding the banks with cheap credit in the hope that they’ll start lending it out, perversely only encourages exactly the kind of risky lending that started the crisis. And at the same time, the rich have gotten richer. There was a lot of anger directed towards the Wall St fat cats, but they’re still laughing. Quantitative easing has pumped up asset prices, pumping up the wealth of the asset-rich elites. The Bank of England calculates that 40 per cent of the QE benefit has gone to the top 5 per cent, including those bankers who started the trouble. Not bad, hey? Start a crisis because you know the government will clean up your mess. Direct a large share of the recovery money into your own pockets. Complain about red tape. Genius. So what can we do? It is a sad state of affairs, and I have to believe that humans can do better, but maybe the best we can hope for is to muddle on through. In the mean time, we need to know that the game is rigged, and see it for what it is. Government instincts will always be to throw money at the problem, and ‘grow’ their way out of trouble. This is exactly the play-book that QE comes from. Pump up asset prices. Make asset-owners wealthier. Hope that some of that wealth trickles down through the economy. And so until the game changes, for my money the best strategy is to try to be one of the asset-rich, rather than one of those at the bottom getting trickled on. The best wealth-protection strategy is wealth itself. We’ve got to take the opportunities to build our wealth while we can, where we can. If your plan is to sit around and hope that the system takes care of you, you’re on a hiding to nothing. When opportunities are ripe, like they are now, we need to act decisively. It is a crazy old world. But disengagement is not an option. The last 5 year have taught us that!
Posted on: Tue, 01 Oct 2013 23:07:46 +0000