Saturday, 8 October 2011

The fear that paralyses

One evening back in June 2011, four people were discussing on Twitter the possibility of a second global financial crisis. They had been having similar conversations most evenings for several weeks. Now, anyone who knows Twitter will realise that tagging in three people to tweets all the time doesn't leave much room for comment. So those four people created a hashtag to enable them to discuss more easily using a TweetChat application.  That hashtag is the now-famous #gfc2 - Global Financial Crisis 2.0

I was one of those four people.  And in my post Black Thursday, on 5th August 2011, I told the world that the second Global Financial Crisis had started.

Since then, global markets have crashed again and again, banks and sovereigns have suffered ratings downgrades, yields on the debt of countries perceived as being "risky" have soared - together with CDS spreads.  Countries have introduced a range of monetary and fiscal measures to attempt to stabilise the financial system and reduce the market perception of risk, often causing considerable pain to their own people in the process and wrecking any prospect of economic growth in the foreseeable future. The interbank markets are nearly frozen and banks have become dependent for funding on central bank liquidity. Investors have progressively moved funds to "safe havens" such as government-insured deposit accounts, government bonds from countries perceived as "safe", traditional "safe haven" currencies such as the Swiss franc and Japanese yen - and for those investors that are actually banks, the safest of all safe havens, central bank deposit accounts.

In the last week there has been the first failure of a major bank since 2008. Dexia's failure caused panic in the marketplace, and although the immediate announcement of a rescue package by France and Belgium did much to calm investor fears to start with, subsequent squabbling over the spoils spooked them again. This is against the background of an abject failure of European leadership to come up with any sensible plan for resolving the sovereign debt crisis that now threatens to bring down the entire European banking system and with it, possibly, the global financial system. That failure underlies last night's credit rating downgrades of Italy and Spain by the credit rating agency Fitch.  Fitch raised concerns about Italy's debt level and the strength of its banks - but FT Alphaville and Zerohedge both pinned the reason for Italy's market woes on the ineptitude of its politicians, especially Berlusconi who seems to be becoming something of an international joke.  The reason for Spain's downgrade is less clear, but Fitch's statement suggests that the main issues are the weakness of Spain's economy in the light of general failure of the Eurozone to sort out its problems.

The UK is not immune to political ineptitude either.  On Monday the Chancellor, George Osborne, announced measures to improve corporate finance which in effect would reduce the Bank of England to the status of an SPV, enabling the Treasury to hide its largesse off balance sheet while keeping the notional risk. Not surprisingly the Bank was having none of it: when it recommenced Quantitative Easing on Thursday it adamantly refused to buy corporate bonds, leaving Osborne with only half a policy. Meanwhile the Prime Minister's speech had to be hastily rewritten after its suggestion that people should "pay off their credit cards" was leaked to the press. Economists everywhere pointed out that this would fatally undermine the government's austerity programme: unless there is a vast increase in exports, which is highly unlikely given that the imploding EU is still the UK's largest export market, concurrent public and private sector deleveraging makes growth impossible. "Is Cameron promoting zero growth?" they said.  The trouble is, he was right - and everyone knows it. The private sector really is deleveraging - fast - and the government's austerity programme really is the wrong medicine now. Even the IMF - not known for its support of Keynsian stimulus programmes - has suggested that maybe fiscal consolidation needs to be done a little more gently. But Osborne has staked his political reputation on this austerity programme. However wrong it is, he isn't going to give it up easily.

Yesterday Moody's announced the downgrade of 12 UK banks and building societies, citing the removal or reduction of government support for banking following the publication of the Vickers report on bank reform. Immediately after the announcement there was panic among bank depositors evident in comments on, for example, the Guardian's comment pages. This was dangerous as it could have led to a run on these banks and building societies. Sudden uncontrolled bank runs are a sure-fire way of bringing down even well-run banks. Moody's was not suggesting that these banks were in danger of failure, or that depositors' funds were at risk: in fact five of the downgraded institutions actually had their "standalone" ratings - the real measure of their creditworthiness - upgraded as part of Moody's review. So there was NO reason for depositors to panic.

But according to some commentators, there was. At least one blog, and commentators on twitter, suggested that the government would not honour FSCS deposit insurance in the event of bank or building society failure. This is dangerous nonsense. Even in the event of catastrophic bank failure - and there is at present no reason to believe that is about to happen - the UK government can if necessary print the money to compensate depositors.  I don't know if these commentators realised (or cared) that their words could spook depositors into removing their money from these financial institutions. The one I read has for some time been promoting the idea that all banks are about to fail, in support of his argument that total nationalisation of the entire banking system is the only solution. So maybe uncontrolled runs would suit him - after all, that would bring about the catastrophic bank failure he has been predicting.

If there is one lesson to be learned from the past four years, it is that the theory of "rational expectations" that underlies neoliberal economics does not fit the reality of people's behaviour.  Investors, depositors, politicians, bankers - none of them are fully rational. Yes, when times are good and markets are behaving as expected, their decisions are probably close to rational. But when every day brings more bad news and disaster seems to loom, emotion governs decision-making at every level and panic reigns. This is where we are now. So we have depositors removing money from government-insured deposit accounts because they've read a scaremongering blog. We have investors removing money from funds domiciled in the EU even though the actual assets are invested worldwide. We have banks refusing to lend to each other.  We have central banks providing money to investors who simply hoard it in safe havens instead of using it constructively to generate new business growth. And above all, we have politicians kicking difficult decisions down the road to the next election, knowing full well that after that it will be someone else's problem. The global financial crisis is in reality a global political crisis.

You see, people whose careers and livelihoods depend on promoting a particular set of policies, or a particular political line, don't make pragmatic decisions based on the best interests of the people they serve, if by doing so they have to admit they are wrong. People who are making money by managing other people's money, or manipulating opinion, don't always do so in the best interests of their customers, if their jobs are on the line.  And above all, when people are scared, common sense goes out of the window and disaster scenarios abound.  Fear stalks the streets and paralyses all constructive thinking and activity. Whole economies come to a standstill.  Doom and gloom prophecies come to pass just because people have believed in them.

Fear is probably our biggest enemy at the moment. It prevents us solving problems and reinforces existing patterns of behaviour that make matters worse.

Yes, the economic prospects in most Western nations are dismal. Yes, the Eurozone is falling apart.  Yes, the global financial system is at risk. Yes, some of our banks may well fail - although I personally don't think all of them will.  But none of these are reasons to panic.  We may well have a global financial crisis. We don't have a global disaster. Let's not create one.

Instead, let's call upon politicians to work together constructively to resolve this ghastly mess. Suspend party political differences, stop scoring points and be prepared to adjust policies to achieve workable solutions. Only this way can fear be conquered and the real economic difficulties we face be addressed.

4 comments:

  1. "At least one blog, and commentators on twitter, suggested that the government would not honour FSCS deposit insurance in the event of bank or building society failure."

    Neither Richard nor I implied that this was the case. I'll quote Richard:

    For those thinking they’re safe because their deposits will be covered by the government - think again. There is no way on earth the government can cover this risk without printing massive sums of money.

    Richard is clearly raising the spectre of massive inflation and not that of the government failing to honour its obligations under the FSCS deposit insurance scheme. The rest of your paragraph attacks your Straw Man and makes some rather absurd insinuations that Richard is actively seeking to generate panic in the market in order to fulfill his own prophecies of widespread bank insolvencies. I'm not even going to respond to something that mental.

    You then move on to a paragraph on rational expectations which may be interesting to anyone fascinated by how wrong economists can be but is irrelevant to Richard's arguments.

    Then follows a paragraph on how markets are vulnerable to groupthink and irrational panic. Again, interesting from the perspective of just how dysfunctional modern financial and economic systems are but of no use to your pooh-poohing of Richard's post because this, in fact, supports his argument that the system is dysfunctional and at imminent risk of collapse.

    Continued >>>>>>>>>>

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  2. Continued from here.


    "Fear is probably our biggest enemy at the moment."

    No, its not. The political, financial and economic systems are our biggest enemy because they are dysfunctional and not fit for purpose.


    "Yes, the economic prospects in most Western nations are dismal. Yes, the Eurozone is falling apart. Yes, the global financial system is at risk. Yes, some of our banks may well fail - although I personally don't think all of them will."

    I think that, given the above conditions, you can't predict how many banks will fail. Richard states:

    "This crisis is bigger than the nineteen thirties: there is further to fall financially and contagion can spread quicker"

    He's right. The contagion can cross oceans at the speed of light. Just look at the exposure to sovereign debt of banks across the globe. Greece's troubles arguably dragged Ireland down and then sucked in the other PIIGS too. The death spiral isn't being dealt with by the EU because of this. And so more nations and ever more banks may get sucked in along the way.You can't make predictions about how many banks will fail. Richard doesn't say that "all the banks will fail". He's not that careless with language. I think that you can't actually show me where he has stated, or even implied, that.


    "We don't have a global disaster."

    I beg to differ. Its just not the one you think: Peak oil, climate change, resource wars, water shortages, overpopulation, neoimperialism, land grabs, the erosion of civil rights, drone attacks, extralegal assassinations, environmental degradation, the propaganda model, biodiversity loss, pseudodemocracy, deforestation, food price inflation. The economic crisis is an integral part of almost all of these. You can't study one in isolation. They are all dynamically interlinked and separating one from them all and trying to tackle it in isolation is blind stupidity.

    "let's call upon politicians to work together constructively to resolve this ghastly mess. Suspend party political differences, stop scoring points and be prepared to adjust policies to achieve workable solutions."

    If this could have happened it would have by now. The system is broken. It is irreparable. The history of reform in this country is laughable. 100 years after the campaign to democratise the House of Lords its still not been done. Pinnacles of societal advance are under attack by a government with no electoral mandate and no intention of governing in the national interest. In the words of Matt Taibbi:

    "organized greed always defeats disorganized democracy"

    When people are organised enough and angry enough to fight for their democratic rights, only then will we see the banking system returned to the vital public service it should be, instead of a vehicle for fraud and larceny on a grotesque scale.

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  3. Frances Coppola9 October 2011 16:10

    You have completely missed the point of the post. It is not a critique of Richard Murphy's post but a vehicle for expressing my own arguments.

    The point of the post is that fear is driving the behaviour of banks and international markets. That's why interbank markets are freezing, stock markets are unstable, stimulus measures such as QE don't work. Ordinary people can be driven by fear too, and their actions could precipitate the catastrophe we are trying to avoid.

    You unfortunately asset things that aren't true. Richard did argue on twitter that FSCS insurance would not be paid - as did Eoin Clarke. Several people challenged them on this. Additionally, the paragraph you quote doesn't mention inflation and can legitimately be read as meaning that FSCS insurance would not be paid.

    On Friday, frightened people were threatening to remove money from banks, which could have caused bank runs. I felt it was my duty to try to calm them down, so I wrote a blog to that end. Many other commentators did the same. Richard criticised us for this. But he spent all day talking UP people's fears on twitter. Do you wonder that I - and others, see Friday's timeline - question his motives?

    Richard has staked his reputation on his call for nationalisation of ALL the banks. Read this blog, including the comments: http://www.taxresearch.org.uk/Blog/2011/09/16/this-time-we-nationalise-the-banks-and-i-mean-all-of-them/
    Under UK and international law, nationalisation of viable companies requires compensation to be paid to shareholders. Either Richard is expecting huge amounts of money to be paid to bank shareholders, or he is assuming that all banks will fail - which is consistent with his replies to my comments on the blog.

    Ireland was not dragged down by Greece's troubles. It was bankrupted by a stupid government that decided to bail out banks whose collective debts were three times its GDP. Our five largest banks have collective liabilities of over four times our GDP. Nationalising them is a terrible idea. We could end up worse off than Ireland.

    The truth is no-one knows what the global exposure to Eurozone debt is. We can't predict what the global impact of a Eurozone collapse will be. Nor do we know how governments will respond. Richard chooses to make gloomy predictions. He's not necessarily right, and I don't think terrifying people is particularly helpful.

    Can I suggest you read more of my blogs before you make assertions about what I think? My blog "The Growth Illusion" looks at the possible economic impact of peak oil.

    And finally, it is unfortunate that you dismiss my call for political unity. Richard uses a war-time analogy. So do I. Setting aside political differences and working together for the common good is exactly what politicians did in the second world war.

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  4. Excellent post, the role of fear is greatly underestimated in who economic crises proceed and are overcome throughout history.

    May I point you in the direction of this postwhich was inspired by your writing? comments/critique welcome!

    Thanks

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