It’s a mad, mad, mad, mad world, part 1


Anyone who knows this film will remember it is about a thief who dies on his way to collect loot he hid years ago. He reveals where it is to a group of people who cannot agree on how it should be split and so go after it themselves – individual selfishness and greed rather than the collective good.

The world today is not dissimilar. The ‘big three’, America, China and Europe (the ACE economies) all have their own problems but refuse to try and sort out the bigger crisis as a collective even though the impact of what they do affects everyone everywhere. Each has their own particular headache. The US has a debt and deficit which cannot carry on forever; China is attempting to create a more stable economy which is not so volatile and Euroland has to choose between fiscal union or a Eurozone which would be a different format to the present one.

Irrelevant of what people call it at the moment, the world is in, as Professor Rogoff has said, a ‘balance sheet depression’ which will result in yet another credit crunch sometime in the near future. As Mervyn King, Governor of the Bank of England stated recently, “Four years into the crisis it is surely time to accept that the underlying problem is one of solvency not liquidity – solvency of banks and solvency of countries. Of course, the provision of additional liquidity support to countries and institutions in trouble can buy valuable time. But that time will prove valuable only if it is used to tackle the underlying problem… But the underlying problems of excessive debt have not gone away. As a result, markets are now posing new questions about the solvency of banks and indeed governments themselves.”

In a Utopian world, the financial markets would not let politicians ignore the present situation. They would just not lend to any country which was in the red thus forcing solutions to be found. However, in this Dystopian world the greed of lenders (for more money) and politicians (for more power) makes the above look unrealistic. Thus the rest of us will suffer.

The banks in Europe are under severe pressure as government debt makes up a lot of their asset base. This means they are going to have to cut back on their lending. Things for them and for the rest of the world are going to get a lot worse before they get better. It is going to take at least five years and probably more for de-leveraging to get sorted.

Mark Carney, the Bank of Canada governor and the first chairman of the Financial Stability Board said as much towards the end of last year. Market volatility is increasing and activity declining as global liquidity shrinks. He added, “The effect on the real economy will soon be felt.”

To meet Tier One capital ratios by June, the Euro-zone banks are going to have to raise USD2.4 trillion. Most of this will come from asset sales. Naturally, this does not take into account either impaired sovereign, corporate or household loans or the most recent EMU guidelines, “which ask banks to mark down distressed assets to better ascertain capital raising requirements” – as Gavekal wrote recently.

Jim Millstein wrote an excellent article in the Financial Times about the inter-dependency of banks and governments. He wrote, “The financial fate of Europe’s banks and its governments are inextricably linked: because the banks are the primary source of funding for government deficits, government debt represents a large proportion of the asset base of most eurozone banks. Insolvency of one therefore threatens the insolvency of the other… The truth, however, is that given the level of eurozone government indebtedness and the relative size of Europe’s banks, Europe’s largest banks are too big to save.”

There are so many real problems in Europe at the moment that it is almost without doubt that there will have to be worldwide repercussions and is the reason there will be another credit crisis sometime soon.

Please note that I have stated ‘worldwide’ as Asia will not be spared either. Exports to America and Europe will fall off through lack of demand and China will import less as well. The knock on effect will then be that banks could have to cut credit facilities to companies and governments in Asia.

If one looks back at what has happened over the last couple of years, the world has lurched from one crisis to another. First it was America then, albeit briefly, China and now it is Europe. However, it is the latter which causes most concern.

When those morons who were in power a generation ago came up with the idea of a European currency the idea was that each country would achieve the same as the highest one – namely Germany. This proved that those elected were living in cloud-cuckoo land and had the collective nous of an amoeba. How on earth could the Drachma or even the Peso equate with the Mark? Naturally, it could not but that did not matter to the monomaniacal Bedlamites that were in charge.

They could not see or, more pertinently, did not want to see what every Economics O-level student could and that those countries which were not as strong as Germany were now able to get borrow at rates which were previously impossible. Thus everything boomed.

International banks which previously would not touch these countries with a bargepole queued up to lend money as the governments would take the loans to the European Central Bank (ECB) and then use them as collateral so they could borrow even more! And that is why we are now where we are.

To be continued…

The above data and research was compiled from sources believed to be reliable. However, neither MBMG International Ltd nor its officers can accept any liability for any errors or omissions in the above article nor bear any responsibility for any losses achieved as a result of any actions taken or not taken as a consequence of reading the above article. For more information please contact Graham Macdonald on [email protected]