Virus as Antidote

After months of spectacular gyrations in equity, bond and forex markets, it seems the storm that rippled off from Greece's inability to roll over their sovereign debts has passed. Developed countries' rhetoric on cutting the fiscal deficits certainly contributed to the stabilisation process. But I think the real turning point came when the European countries and the IMF announced the trillion-dollar package to back Greece's as well as other EU members' sovereign debts on 10 May.

The announcement created the calming effect that allowed for the return of orderly functioning of markets.

When I look back at the turning point and the provisions of the package, however, I could not help but notice the irony in that the "antidote" prescribed is essentially sharing the same DNA as the "virus".

If we flash back 2 years to 2008 when Lehman Brothers' collapse brought on the first wave of the Financial Tsunami that swept across the world which accentuated the feeble fiscal health of economic entities from individual home owners to government treasuries, we would realise that the single most significant contributor to the Crisis was CDOs- Collateralised Debt Obligations. As the underlying financial assets of the CDOs turned bad, the market values of the securities tumbled and their owners (Lehman Brothers, Citibank, Merrill Lynch... etc. etc.) have to write-off the lost values. The huge losses eroded confidence in these financial institutions which, in a nutshell, eventually led to a near-complete meltdown in the entire global financial system.

What EU's trillion-dollar package entails is essentially the same , only on a larger scale- the trillion-dollar worth of funds will be pooled from participating countries and the money will be used to take up individual EU countries' sovereign bonds. Instead of financial institutions pooling their money and owning pieces of the CDOs, the package's participants are sovereign nations. Instead of home loans (sub-prime or otherwise) that were collatarised as the underlying assets, the package money is financing the EU countries' (junk status or otherwise) budget deficits- much of the deficit-spending in the past years were spent on backstopping the banks and financial institutions that were failing due to Lehman Saga.

It brought to mind the matryoshka doll...

The Missing Link

In the on-going debate on whether to further stimulate the economy by keeping up the fiscal loosening over the past 2 years, the Keynesians argue that had fiscal spending been boosted during the Great Depression, it might not have been so severe. As such, the developed countries should learn from it and continue running fiscal deficits, lest their economies relapse into a double-dip recession.

To silent the inflation hawks who warn that extremely loose monetary and fiscal policies could lead the escalating inflationary pressure, they counter that because of excess capacity in the economy, the clear and present risk is indeed deflation.

And to the question of how the public debt, resulting from the extra government spending, the answer is: as the economies recover, government income shall resume its upward trend while the public expenditure shall be progressively reined in. Governments shall therefore revert to controlled fiscal policies in the medium to long term.

What is missing from the debate is the social- economic factor of the aging society. As the baby-boomers retire, social welfare such as pension and medical expenditure will exert a heavy pressure on government spending. And as the society ages, pools of workers will shrink and the impacts on gross GDP and capacity have not been fully studied.

If the overall effect of the aging society is higher public spending because of welfare expenditure and lower government tax receipts derived from shrinking work force, it will make sense for the governments to reexamine their capacity to borrow vis-a-vis their willingness to spend... and spend... and spend.

It has been said that the greatest threat to capitalism is the invention of credit card- it gives individual the opportunity to spend at present what they intend to repay in the future without realising that the money will not be there in the future.

Hopefully, the developed world's governments will think twice before flashing out their plastics.

Greece's (Economic) Landscape in the Mist

Following the stand-by rescue package (loan amount attached, finally!) was formally introduced and agreed upon by all Euro-Zone countries and as the mist hanging over the Greek economic landscape appears to be clearing, one might wonder why it took so long for the member countries, particularly Germany, to hash out the terms of the package.

No least, the terms cannot even be described as lenient- any amount loaned to Greece shall be charged at or near market (?) rate, at the insistence of Deutsche Government. Indeed one can even call the terms harsh given that it is to be provided to a fellow member-country who shares a common market place and currency.

One explanation could be that, to use an analogy, it is an expression of tough love meted out by a regimented father figure to a child who has gotten use to irresponsible, lavish lifestyle.

Indeed, the metaphor of father-child relationship used in describing relation between Germany and Greece has previously been explored before: in a film made over 20 years ago by the Greek director Theo Angelopoulos called Landscape in the Mist.


The visually somber yet stunning film tells the melancholic tale of a pair of sister and brother running away from their home (and misery) in Greece in search of their father whom they believe is making a living in Germany. One of the most poignant sequences is the appearance of a tree (symbol of shelter?) in the misty horizon and the siblings, visibly tired after traveling alone for many days, begin to run towards the tree.

To understand the symbolism of economic dependence of peripheral EU countries, such as Greece, on Germany, one has to look at the geo-economical conditions in European countries that make up the Euro zone (i.e. countries that adopt Euro as common currencies) and its predecessors (i.e. European Community (EC) and, prior to that, European Economic Community (EEC). Because of its economic prowess, Germany or, prior to reunification, Western Germany has been the proverbial bread-earner. It has been doing so decade-after-decade by revving its export machine and running current account surpluses. The resultant capital inflows ensure that member countries get to tap funding relatively affordably and they, in turn, are generally running deficits.

Now that amidst the foggy environment- though less so compared to two weeks ago, the vision of a tree has appeared. the question that will be answered in the coming months is: will the shelter, in the form of the rescue package, be within reach and if so, will it provide enough coverage so Greece can get through the necessary reforming efforts and re-emerge as a competent sibling within the EU brethren.

One can certainly do better than looking for answer in the film... as it ends with an open-ending.

The Greek Echo

As reported by Bloomberg, it would appear that, as soon as next week, IMF will be formally involved with rescuing the plunging Greek economy. The world markets heaved a collective sigh of relief on Friday, as Euro and Greek bond prices rebounded from their week's lows.

One has to remember, however, that rather signaling as the end of the crisis, the combined efforts of IMF and EU to provide much needed finance and supports in economic restructuring merely mark the end of a chapter in an epic novel.

For one, Greece will have to go through the painful reforms as prescribed by IMF which depends on the political will of the government and the supports of its people.

Then, there is the contagious ripple effect. The Asian Financial Crisis is the case in point. Initially targeting the Thai baht as its peg to US Dollar did not reflect Thailand's economic position, market participants quickly trained their focus on its neighbouring East Asian economies after the baht was forced off the peg and IMF agreed to provide emergency funding in the Summer of 1997. Over the next 12 months, from Indonesia, The Philippines , South Korea, Hong Kong, Malaysia to Singapore, currencies and stock markets of each of these countries, one after another, were under attack.

It will therefore be very interesting to see if the episodes of the Tom Yum Goong Crisis in 1997 will be repeated and, if so, which market(s) will the Greek Echo reverberate through next? Afterall (and befittingly), the word echo came from the Greek mythology.

A Greek Dilemma

After the Easter break, Greece is again staring into the economic abyss. It is caught between deciding whether to swallow the restructuring medicines as prescript by its EU peers and IMF or to default on its debt obligation thereby earning some reprieve for a more gradual recovery course. The trade-off is between acute economic shock and international standing.

In a recent article , The Economist examined the two options, using past precedents. And it seems that defaulting, as undesirable as it sounds, could bring about positive outcome if executed properly (even though it concluded, in the case of Greece, such will not be the case).

The analysis brings to mind a line in an recent episode of FlashForward- When deciding if the team should skip the protocol and move forward with an investigation, an CIA agent said:

"It is sometimes easier to ask for forgiveness than permission."

The Canary is Singing

After a v-shaped rebound witnessed over the past 12 months, it seems that the world economy is finally hitting a road block . Bloomberg reported on 31 March that European inflation rate, at 1.5%, is hitting its fastest pace since December 2008 while unemployment rate breached double digits for the first time since August 2008.

As Europe, and the world's other major economies, keeps interest rate at historical low and maintains high level of fiscal spending without tackling the structural reform of the economy, stagflation will return.

The canary has begun to sing.

White Dogs don't Bite?

More than a year after the bankruptcy of Lehman Brothers and almost two years since the near-collapsed Bear Stearns was taken over by JP Morgan Chase, the U.S. Congress is finally proposing new acts to re-regulate the financial market. But it seems once again the politicians are barking up the wrong tree.

Two bills are being contemplated: In the House, Representative Ron Paul is pushing to audit the supposedly independent and apolitical Fed; While Senator Chris Dodd has unveiled his proposed financial overhaul bill that, among other changes, aims to take away the Fed's supervisory role.

While I think the Fed has had some mishaps over the years, it is certainly not the root cause and most certainly should not be the main target of the thrust of major legislative re-regulation that comes two years after the financial crisis erupted. Some of arguments, chief amount them are over-extended period of easy monetary policy and lax oversight on financial institutions, behind the proposed legislations may be valid, but they are at best secondary contributors to the near breakdown of the financial system experienced one year ago. The primary culprits are the too-big-to-fail financial institutions and their predatory behaviours.

How should the reform bills tackle the "vampire squids" (the term was used by Matt Taibbi in his famous Rolling Stone article to describe Goldman Sachs)? The answer can be found in another piece of legislation passed 76 years ago: The Glass-Steagall Act.

The year 1933 was disturbingly similar to 2009. The Great Depression, which culminated into the stock market collapse in 1929 and the collapse of the financial system in 1933 was deemed to have been caused by irresponsible commercial banking institutions that dabbled in inappropriate investment activities (sound familiar?). The Glass-Steagall Act was eventually passed to firewall commercial and investment banking activities.

To look further back into history, there was the Standard Oil episode in which the Rockefeller monopoly and its anti-competitive behaviors were deemed harmful to the economy and the nation. So the Sherman and Clayton Acts (collectively referred to as Antitrust Acts) were enacted at the turn of the 20th Century to specifically to deal with monopolies. If need be, the Acts allow, as in the case of Standard Oil and, later, AT&T, the government to break up the monopolistic entities.

It is therefore disappointing to note that with all the academic and journalistic research that point towards the failure of the system in that it engenders risky behaviors within too-big-to-fail institutions, the best solution as proposed after two years since first domino fell (during which the government allows hundreds of billions to flow into the pockets of executives and stakeholders who were responsible for the meltdown) is the reshuffle and cast an watchful eye over the Fed, whose only crime, at most, was dozing-off guard.

To explain my point with an analogy: After the house was raided by a gang of robbers, rather than to pursue and hunt down the perpetrators or to rectify the security holes in the system (e.g. bring back Glass-Steagall Act which was dismantled in 1999), it was recommended that the guard dogs be changed. The reason?

White dogs don't bite.