The price of greed

FE Team | Published: November 29, 2008 00:00:00 | Updated: February 01, 2018 00:00:00

GKM Towfique Hassan
In the film "Wall Street," the Villain started a speech with the world "Greed is Good". At that time it was accepted to be the most charitable explanation towards the reaffirmation of Adam Smith's economic philosophy. In the pursuit of self-interest in a competitive market, how ruthless one could be has best been exemplified by the present global financial crisis.
Mr. Andy Serwer, the managing editor of the Fortune wrote that there were two ways to look at the issue. One was the Wall Street's way which featured theories and numbers and equations and ultimately, rationalization. He questioned as to how were people supposed to know that the people who lied about their income and assets would walk away from mortgages on houses in which they had no equity ?. On the other hand, people might ask questions that really matter: How did we get here ?. How do we get out of it ?. And what does all this mean to an ordinary man. As such let us take a stock of how the crisis emerged and why Tom, Dick, Harry like us have to pay for the consequences.
During normal market mechanism operation, destabilization in the economy causes problems in the financial markets and borrowers have often difficulties to repay their loans. But this time the opposite happened.
Over the years portfolio investment was made, considering the returns. Investment in Wall Street never has to worry about regulation and they also did not worry about risk involved regarding derivatives like credit default swaps. The absence of fear fuelled by unimaginable greed set the fire. When greed exceeds fear, trouble follows. Wall Street is a greedy place where investors regularly suffer financial blow and quickly forget. The hedge fund operators, supported by private equity firms created a Frankenstein to make new fortune.
Various derivatives that contributed to the present crisis have been termed as weapons of financial mass destruction: They are (a) The Housing value debacle.
(b) Impact of collateralized debt obligations.
(c) Credit-default Swaps.
(d) Mortgage collapse.
(e) Poor response to sale of Collateralized Debt Obligations (CDO).
(f) Cost of maintaining Armed forces in the name of fighting & controlling terrorism.
(g) Flow of Petrodollar in the Wall Street share market in the guise of investment.
*The Housing Value Debacle: The housing values fell in the market due to excess supply over demand. As such the contagion spread & borrowers found their homes were worth less than their mortgages. As such number of loan defaulters increased bringing the price further downward.
*Negative impact of collateralized debt obligations: Foreign investors who sought higher yields demanded more collateralized debit obligations which were complicated securities based on pools of other mortgages.
* Sale of Credit-defaults Swaps: Financial firms embraced the idea of marketing CDOs and chose to leverage and loaded up. Lehman was leveraged more than 30:1. AIG sold credit default swaps, derivatives designed to protect investors from failures.
* The Mortgage Collapse: Consumers were given big mortgages with little or no documentation. In most of the cases mortgages began to default on loan and financial institutions took the heat.
* Poor response to sale of CDOs: With rise in delinquencies CDOs lost value, forcing banks to sell new stock to raise capital. But the attempt failed as no one showed interest to buy CODs. As a result the rout began.
* Cost of Maintaining US Armed Forces Globally: US has to spend around US$ 2200 per second for maintaining its Armed Forces to fight terrorism globally. This huge expenditure can not be met without affecting the economy.
* Petro-dollar Flow: With rise in petroleum prices globally, income of the oil producing countries of the Middle-east increased manyfold. This excess revenue had been invested in the Wall Street market as portfolio investment for higher return destabilizing the market mechanism.
There is no question that the crisis has gone so deep that it cannot be stopped by one stroke. No country or part of the world was immune. The Wall Street crash has provoked the impression that the crisis would not directly affect some petro-dollar countries economy and assured that the apparent failure of liberal policies vindicated the view that the state should play a role in managing the economy. A view that surrounded the Wall Street stated that the global financial crisis has led to a theory that the turmoil stemmed from the huge cost of financing Middle East war rather than a collective regulatory failure to deal with excessive risk-taking in the banking sector.
Now a question has arisen can Asian countries having huge foreign exchange reserve, high saving rates and minimum exposure to US mortgage schemes run into trouble in this global financial crisis? As an Asian LDC, Bangladesh depends heavily on exports to the West. Therefore, the answer has been a Yes.
It sometimes takes a good financial crisis to remind us just how interconnected we are. When the New York stock market crashed in 1929 the economic shock waves reached different parts of the world in one of the first examples of global economic contagion. News travels at a faster rate now a days. Stocks in parts of Asia dropped even before New York (Mumbai-5.2%, Dubai-1.7%, Shanghai-7.3%, Singapore-5.9%).
Let us now put up an extract of an advertisement as to how American International Group (AIG) instilled greed in the minds of the people who had taken Wall Street Stock market to be a place of being rich very quickly & putting them in serious financial crisis. The ad says "It was my eighteenth birthday gift from Smita Maasi, a silk bag with a coin inside. "One rupee so your purse never remains empty. And prosperity will always be your shadow". Today, as I look out of my office on Wall Street I remember her words and wonder.......... How can a single coin make me feel like a million bucks ?. - In AIG we appreciate the value of your money". This advertisement is a manifestation of an invitation to invest and go bankrupt. In a crisis born of greed and recklessness, pity is in short supply. It will not be out of place to quote British economist John Maynard Keynes, "The inevitable never happens. It is the unexpected always".
In such unpredictable times the questions are the extent to which the financial and economic crisis in the US will continue to spill over into the world economy, and whether this poses a threat to the onward march of globalization itself, as people begin to lose faith in the free markets concept and open trade. The damage is considerable, the International Monetary Fund (IMF) expects world economic growth to drop to 4.1%, its lowest in last five years. Europe, Japan, China and India all are facing a slowdown. It is not very clear whether the contagion would spread further. At the same time, people began to express skepticism about the benefits of globalization. Studies showed that there has been a significant erosion of support for globalization. It is hard to sustain the idea that markets are perfect and should be left to market mechanism. The limitless greed of a few might have provoked a new bout of international protectionism.
The global economy is showing a downturn. Growth is slowing throughout the world due to importation linkages between U.S. consumer and the global economy. With shifts in export orders, the manufacturer in Asia are pruning their shipments to U.S. customers. Ripple effects are beginning to show up and it might last well in 2009 and could spill over into 2010.
Ten years ago South East Asia suffered a similar economic crisis. The crisis of 1997 holds lessons for to-day. In such a situation, an important element is the leadership. The policymakers should consider what worked and what did not during 1997 crisis. Leadership can foster a belief that we are all in it together. But surviving a crash like the present one just is not a matter of everyone holding hands. It is the strong institutions and the monitoring of the institutions that matter. Financial institutions should not play the financial games that hurt their stakeholders. No one should be allowed to lose sight of core values and maintain a commitment to openness and faith in market mechanism. Interference in the market is necessary as and when situation demands.
A slump in exports may have pretty grim implications for our manufacturing sector, especially the readymade garment (RMG) sub-sector. From a recent interview of the Bangladesh Garments Manufacturers & Exporters Association (BGMEA) President at the BATEXPO'08, it is now known that the pain is already being felt. Export orders are plummeted in August-September and growth has gone down to 64% from 84%.
Over the months, this writer discussed the ramification of present financial crisis with entrepreneurs, exporters, government officials and stakeholders. What emerged out of this unofficial discussion may be summarized as under :
The ramification of the present global financial crisis will have some impact on our international trade. The manufacturers view the crisis in the context of our present state of the economic activities. Erratic gas and power supply, higher freight charges, implementation of minimum wage for workers, higher price of capital machinery, higher transportation costs, higher cost of doing business, poor negotiation techniques may have some negative impact on our domestic as well as international trade. In addition to the above, industrial unrest mainly in the RMG sector, and any monetary move by the central bank to rationalize the money market from its current status may destabilize the economic environment and negative affect may spill over on to the export and import trade.
Different institutions and business persons feel that a cautious move may drastically reduce the risk of the economic and financial shocks. Development of better negotiation skills (since buyers may ask for further lowering of prices) and production of high value added items for some niche market may absorb the economic shocks. Reduction in production wastage, maintenance of better industrial relations, increase in productivity and finding new export markets to offset the higher cost of production, diversification of trade, maintenance of delivery schedule, maintenance of the utility services rates undisturbed and fall in petroleum price in international market may contribute to the economic recovery. Besides continuous monitoring of the US and EU markets, revitalization of economic wings of our missions abroad, observation on the global outsourcing and strategies of our competitors, introduction of competitive exchange rate, provision of easy terms of credit, review of bank interest and letter of credit (L/C) margin, quick realization of export proceeds, organizing buyers-sellers meetings, enhancement of compliance and environmental issues, organizing trade fair abroad for product display and sending of trade delegation will be the added instruments to meet the challenges put up by the financial crisis. Incoming export orders should be evaluated and assessed properly so that exporters do not fail to realize export proceeds due to bankruptcy of the importers abroad.
The negative impact is still not very visible, but it would be if the crisis prolongs. Therefore, we should remain alert to avert as we believe in the great value of the proverb, "Prevention is better than cure".
The writer is Secretary General, Bangladesh Textile Mills Association or BTMA