Global financial model. 1. Find rainbow. 2. Borrow against expectation of finding crock of gold.
Writing in Wilmott, Rudi Bogni argues that banker-bashing may be a convenient way to mask the inconvenient truth that the demands on our financial systems are unsustainable. Western productivity was not up to the task of generating sufficient wealth to fuel perpetual growth, nor is it likely to be. It required a collective suspension of disbelief to maintain the illusion that the global financial ecosystem could sustain rates of growth dependent upon credit supplies which far outstrip rates of GDP growth. When reality intervened, the rainbow evaporated, leaving behind a crock which contained anything but gold.
Governments, markets, institutions and scorekeepers – OECD, IMF, World Bank, EBRD – have long measured progress using the Key Performance Indicator (KPI) of percentage GDP growth. From the 1950s, 1 dollar of GDP growth required 1.5 dollars of credit expansion, a figure which was more or less stable until the late 1990s. By 2007 this had grown to 4.5 dollars of credit for every dollar increase in GDP. Real GDP equates to goods and services generated. Increasingly, in the US and Britain, the growth came from ‘financial products and derivatives.’ The real work was done elsewhere. Bankers worked tirelessly and notoriously lucratively to ‘create’ the debt mountain needed to prolong the illusion of perpetual growth. Low inflation, another KPI in the league of progressive nations, requires a reasonable assumption of fair value in the exchange of goods and services. Credit expansion was the ‘doped money’ which turbo-charged overheating economies, some of which didn’t necessarily print money, but instead wrote IOUs, maintaining the illusion of low inflation. This experiment in creating something out of nothing ended in hubris when the financial institutions ran out of ideas and the realisation dawned that the global economy was being run on a spreadsheet with fatal circular references.
A typical 1920s US banker
Bogni’s nightmare is that throwing more ‘doped money’ into a failed system will restore the illusion of legitimacy to this global Ponzi scheme. He need not worry. Thus far, banks have consumed billions in restoring their balance sheets to ‘allow’ them to lend. However, under new solvency constraints, they are frightened to lend against this ‘new money,’ provided in the form of ‘quantitative easing‘ – doped money with a different parentage. Contraction of credit on as dramatic a scale as its precipitate expansion will cause stagflation, a slump or both. We know from the Japanese experience of the 1990s that central bank intervention won’t work unless root causes are addressed and even if it did, the effects will be temporary at best – witness Japan today, back in the same trough. Over to Rudi Bogni:
” What a sorry mess! I am not sure what scares me more: the fear that all measures taken may not work and that the financial system as we know it may collapse, or the fear that they may work and that in a year or so we shall be busy building up the next bubble. At the root of it all is the idea that greedy bankers are solely responsible for this disaster and that it is the financial system failure which is now threatening the real economy. I put it to you that it might be exactly the opposite: that an unstable Western economic system, built on excessive social and political expectations, was buttressed for too long by the financial economy through the magic of ever-increasing leverage, until they both cracked under the sheer weight of it. I am convinced that until we come to terms with that, no real remedy will be possible and we shall continue to dope both our finance and our “real” economy, switching periodically from “cold turkey” treatment, as in October 2008, to a never ending supply of methadone to prevent us from facing the truth. The truth is that Western productivity is not sufficient to fund the social system we created and the expectations thereof, and that we cannot continue to stake a claim on the world’s resources well in excess of our contribution to the global economy. Does anyone expect German socialists or French conservatives to accept such a truth? Not in a million years. Why face the truth when a good prejudice is freely available? So, our politicians will just look for scapegoats like hedge funds or offshore financial centers, which had very little to do with our present crisis. It certainly beats self-examination. Where has all the money gone? Where bankers thought you wanted it!” (Rudi Bogni, Wilmott Magazine).
Conspicuous consumption was the KPI of progressive Western society. Bankers created mechanisms for consumers (individuals, cities, countries) to buy products and services before they could afford to pay for them. The cost of credit grew steeper as money stocks diminished in step with classic laissez-faire principles. Governments borrowed ever larger sums to finance modernisation, fight wars (the US spent upwards of a trillion dollars in the past eight years alone) and provide the means to keep people employed (profitably or otherwise) to give them money to spend on more things they couldn’t quite afford. The US Bush government lowered the rates of taxation for the rich, while the UK allowed hedge funders and other flim-flam men to treat their vast profits as capital gains, taxed as low as 10% at one stage. As money bled from the economy, they borrowed further to finance the debt. A vicious cycle became a toxic vortex.
A typical 2009 Scottish banker
Whoever is to blame – itself an unproductive exercise – the victims were, are and always will be the spectators at the dance – those at the bottom of the pile who make the products, mine the resources and provide the services which are sold and resold at inflated prices to maintain the illusion of progress. Some of the intermediaries were criminals, some were hedonists, some were selfish and others were deluded – the UK Prime Minister saved the world, of course, (Thus passim) but not so as you’d notice. But the bankers, including pantomime villain, the remarkably thick-skinned Fred Goodwin, were by and large ‘creating’ wealth in a game of virtual reality, ‘Grand Theft Planet’. The ‘great unwind’ may indeed be our first real encounter with planetary constraints.
John J Kelly (the good bits came from Rudi Bogni and Hamid Hakimzadeh).
2 Comments
As your conscience north of the border, the reference to “Jocks” jars a little.
I know Gordon and Alistair and Fred qualify as Jocks and financial culprits, but let’s not forget the barrow boys down the East End of the City (and the odd American thrown in for good measure).
Point taken, Jim, but I was referring to ‘Jocks’ in both the US sense of the term (well-educated, upper class ‘Skull and Bones’ Wall St guys and to the other Jocks to whom you allude. The “East End’ barrow boys are a bit of a red herring. They were and are mostly traders, some of whom may have become oligarchs but most of whom are admittedly well-paid foot soldiers rather than generals. (And a lot of them were in Edinburgh). Best, John
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