The End Of Financial Capitalism- What Now
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The End of Financial Capitalism: What Now? C.C Shroff Memorial Lecture K.C College, Mumbai Friday, 13 February, 2009
By: Mukul G Asher Professor of Public Policy National University of Singapore ([email protected])
“The highest form a civilization can reach is a seamless web of deserved trust” Charlie Munger
Dr Reddy’s Characterization of financial capitalism • The complexity, sophistication and finesse associated with it gave the financial sector a larger than life profile. Lulled by the seemingly benign economic environment, we deluded ourselves into believing that for every real life problem, no matter how complex, there is a financial sector solution Source: RBI Governor speech, Dec 4, 2008 3
Continued…
• Forgotten in the euphoria of financial alchemy is the basic tenet that the financial sector has no standing of its own; it derives its strength and resilience from the real economy. It is the sector that should derive the financial sector, not the other way round 4
Continued…
• So the issue for debate is, how do we keep the real sector inline with the real sector
5
The tail (financial sector) wagged the dog (real economy) 4.0%
14.0%
3.5%
12.0%
3.0%
10.0%
2.5% 8.0% 2.0% 6.0% 1.5% 4.0%
1.0% 0.5%
2.0%
0.0%
0.0% 1939 1944 1949 1954 1959 1964 1969 1974 1979 1984 1989 1994 1999 2004 Financial Sector Share of GDP (LHS)
Non-financial sector share of GDP
Source: Bureau of Economic Analysis 6
Excesses of Financial Capitalism : CEOs vs Average Worker • USA - 344 times • FTSE 350 boards - 39 times • Japan - 3 times
7
Size of financial assets as a share of GDP (larger in UK as than in US) Size of financial assets as share of GDP Multiples of GDP
Why would you want to own the pound?
10 8 6 4 2 0
87
97
US
07
87
97
07
UK Others Insurance and pension funds Depository banks
99
07
EMU
Source: US board of Governors of the Federal Reserve System; ONS, ECB and IMF 8
Credit Exposure to Capital Ratio (in Millions) Bank
Assets
J.P.Morgan Chase Citi
$1,768,657
Derivatives Credit Exposure to Capital Ratio $87,688,008 400.2
$1,207,007
$35,645,429 259.5
Bank of America HSBC
$1,359,071
$38,673,967 177.6
$181,587
$4,133,712
664.2
Weapons of Obscurity
Source: “Alphabet soup of liquidity”, Serhan Cervik, Morgan Stanley Research July 11, 2007
Liquidity Pyramid
Source: David Roche, Independent Strategy in “New Monetarism” 11
Why did financial capitalism end in global economic crisis? Two fundamental causes: • Inconsistency between globalization of finance and disproportionate role of the financial sector in the major economies on the one hand and the limited institutional and regulatory capacities of the domestic agencies on the other have been demonstrated to be unsustainable • Large and unsustainable global macroeconomic imbalances
China’s trade surplus jumped 10 times over 2003 - 2007
Source:http://www.rgemonitor.com/blog/setser/240454 cited in Nageswaran A (2008) ‘Trends and issues in capital Markets – India in the regional and global context’. Presentation at the Lee Kuan Yew School of Public Policy, 16th September 2008. 13
Structure of External Position of China, Japan and US
Source: SAFE, BoJ
14
Understanding the Credit Squeeze
Source: Financial Times ft.com 15
Understanding the Credit Squeeze
Source: Prof. Jeffrey Frankel http://www.rgemonitor.com/us-monitor/254697/origins_of_the_economic_crisis_-_in_one_chart 16
Banks Market Cap - Then and Now
Source: Bloomberg
17
Steps to Deal With the Global Crisis • The US Congress has agreed to inject US $ 789bn to stimulate the economy • While the details of the sources of money are not available, it does appear that a substantial proportion through monetization of fiscal deficits • Moreover there are indications that political considerations in economic nationalism may play disproportionate role in their allocation 18
Implications of Crisis • Monetization of fiscal deficit at such a large scale could lead to high levels of inflation • The other concern is excessive economic nationalism and protectionism which if adopted widely could lead to downward spiral in output and employment 19
• Aggressive fiscal policies by the US is already being reflected in increasing risk of US Government defaulting has increased as indicated by the insurance market • Thus the annual cost of insuring 10 mm 5 year Treasurys up from - $7,680 in 2008 to $66,000 in 2009
20
Continued…
• This could threaten the livelihoods and food security of millions of people around the world. If this happens the economic will turn into a social and political crisis 21
India’s Priority • It is imperative that India manages the current economic crisis in such a way that it does not advance to being a social and political crisis • These are also the imperatives for Asia and rest of the world
22
By: Mukul G Asher Professor of Public Policy National University of Singapore ([email protected])
“The highest form a civilization can reach is a seamless web of deserved trust” Charlie Munger
Dr Reddy’s Characterization of financial capitalism • The complexity, sophistication and finesse associated with it gave the financial sector a larger than life profile. Lulled by the seemingly benign economic environment, we deluded ourselves into believing that for every real life problem, no matter how complex, there is a financial sector solution Source: RBI Governor speech, Dec 4, 2008 3
Continued…
• Forgotten in the euphoria of financial alchemy is the basic tenet that the financial sector has no standing of its own; it derives its strength and resilience from the real economy. It is the sector that should derive the financial sector, not the other way round 4
Continued…
• So the issue for debate is, how do we keep the real sector inline with the real sector
5
The tail (financial sector) wagged the dog (real economy) 4.0%
14.0%
3.5%
12.0%
3.0%
10.0%
2.5% 8.0% 2.0% 6.0% 1.5% 4.0%
1.0% 0.5%
2.0%
0.0%
0.0% 1939 1944 1949 1954 1959 1964 1969 1974 1979 1984 1989 1994 1999 2004 Financial Sector Share of GDP (LHS)
Non-financial sector share of GDP
Source: Bureau of Economic Analysis 6
Excesses of Financial Capitalism : CEOs vs Average Worker • USA - 344 times • FTSE 350 boards - 39 times • Japan - 3 times
7
Size of financial assets as a share of GDP (larger in UK as than in US) Size of financial assets as share of GDP Multiples of GDP
Why would you want to own the pound?
10 8 6 4 2 0
87
97
US
07
87
97
07
UK Others Insurance and pension funds Depository banks
99
07
EMU
Source: US board of Governors of the Federal Reserve System; ONS, ECB and IMF 8
Credit Exposure to Capital Ratio (in Millions) Bank
Assets
J.P.Morgan Chase Citi
$1,768,657
Derivatives Credit Exposure to Capital Ratio $87,688,008 400.2
$1,207,007
$35,645,429 259.5
Bank of America HSBC
$1,359,071
$38,673,967 177.6
$181,587
$4,133,712
664.2
Weapons of Obscurity
Source: “Alphabet soup of liquidity”, Serhan Cervik, Morgan Stanley Research July 11, 2007
Liquidity Pyramid
Source: David Roche, Independent Strategy in “New Monetarism” 11
Why did financial capitalism end in global economic crisis? Two fundamental causes: • Inconsistency between globalization of finance and disproportionate role of the financial sector in the major economies on the one hand and the limited institutional and regulatory capacities of the domestic agencies on the other have been demonstrated to be unsustainable • Large and unsustainable global macroeconomic imbalances
China’s trade surplus jumped 10 times over 2003 - 2007
Source:http://www.rgemonitor.com/blog/setser/240454 cited in Nageswaran A (2008) ‘Trends and issues in capital Markets – India in the regional and global context’. Presentation at the Lee Kuan Yew School of Public Policy, 16th September 2008. 13
Structure of External Position of China, Japan and US
Source: SAFE, BoJ
14
Understanding the Credit Squeeze
Source: Financial Times ft.com 15
Understanding the Credit Squeeze
Source: Prof. Jeffrey Frankel http://www.rgemonitor.com/us-monitor/254697/origins_of_the_economic_crisis_-_in_one_chart 16
Banks Market Cap - Then and Now
Source: Bloomberg
17
Steps to Deal With the Global Crisis • The US Congress has agreed to inject US $ 789bn to stimulate the economy • While the details of the sources of money are not available, it does appear that a substantial proportion through monetization of fiscal deficits • Moreover there are indications that political considerations in economic nationalism may play disproportionate role in their allocation 18
Implications of Crisis • Monetization of fiscal deficit at such a large scale could lead to high levels of inflation • The other concern is excessive economic nationalism and protectionism which if adopted widely could lead to downward spiral in output and employment 19
• Aggressive fiscal policies by the US is already being reflected in increasing risk of US Government defaulting has increased as indicated by the insurance market • Thus the annual cost of insuring 10 mm 5 year Treasurys up from - $7,680 in 2008 to $66,000 in 2009
20
Continued…
• This could threaten the livelihoods and food security of millions of people around the world. If this happens the economic will turn into a social and political crisis 21
India’s Priority • It is imperative that India manages the current economic crisis in such a way that it does not advance to being a social and political crisis • These are also the imperatives for Asia and rest of the world
22
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