The Great Stampede: One Year On
Government investment in financial institutions in 2008 was unprecedented in modern history and constituted a radical political shift. Since then, as far as market supervision is concerned virtually nothing has changed, with no progress made in plugging gaps in the regulatory system. Mervyn King, governor of the Bank of England, summarised this in October 2009: “To paraphrase a great wartime leader, never in the field of financial endeavour has so much money been owed by so few to so many. And, one might add, so far with little real reform.”
Conflicts of interest that contributed to the crash still abound: the Wall Street regulator is still chosen by the banks it is required to regulate; rating agencies are still paid by the sponsor they are rating - a rated bond could still be AAA today and junk tomorrow! The authorities have followed a path of containment, wary of yet another unforeseen blow-up. The accounting rules have been changed so banks can now hold what would have previously been considered lower grade assets on their balance sheets without impairment, in order to minimise the short term cost of clean-up to the government.
The US Fed is market maker for a number of botched financial products that were proven to be flawed when the market failed and has become the repo investor of last resort. The US government is the owner of billions of dollars of toxic securities which it prefers to hold to maturity rather than sell at a discount now, oblivious to the wider erosion this may bring to the economy in the interim.
The 2008 recession is not a once in decade downturn. It has occurred at the end of a 30-year long period of gradually reducing interest rates which have served to continuously lower the cost of credit and thereby boost productivity and drive up wealth. Now we are at the end of the road; interest rates are close to zero and cannot drop any further in order to stimulate markets.
Production is down, and unemployment continues to rise. Public spending, already at an unprecedented level before the Great Stampede, looks set to double, which is likely to have a negative impact upon taxation for the next generation and will continue to adversely pressure the US dollar. When people or corporations are concerned about money they choose to delay purchases and borrowing, hold cash, distrust others and cautiously wait for new information to glean direction and motivation.
Banks started 2009 effectively paralysed, unable to lend money. By the middle of the year when things had improved they discovered that market appetite for borrowing had diminished. By the final quarter of the year banks were aggressively stockpiling cash in anticipation of worse things to come. All these actions are rational acts of self-preservation that not only give a disturbingly negative view of the future, but ultimately worsen an already bad situation.
