FYI | Oct 11 2008
By Greg Peel
“The G-7 agrees today that the current situation calls for urgent and exceptional action. We commit to continue working together to stabilize financial markets and restore the flow of credit, to support global economic growth.”
After the close of the US markets on Friday the G7 leaders announced they had reached consensus on a globally coordinated plan intended to address the ongoing crash of the global financial system. At its core, it is a plan revolving around five clear points. The G7 announced that, together, all members would:
• Take decisive action and use all available tools to prevent “important” institutions from failing.
• Take steps to unfreeze credit and money markets and ensure that banks and other institutions have broad access to liquidity and funding.
• Ensure that banks and other major financial intermediaries can raise enough capital from public and private sources to re-establish confidence and kick start lending to individuals and businesses.
• Ensure that each country’s deposit insurance programs are strong and consistent to assure depositors their money is safe.
• Take action to restart the secondary markets for mortgages and other securitized assets.
European Central Bank president Jean-Claude Trichet, at a subsequent press conference, told reporters the G7 would do “all it takes”.
But we’ve heard that one before.
In fact, we’ve seen all of the above five points in the plan implemented somewhere in the world either in the last week or two or since the credit crunch began. It is easy to be immediately struck by the notion that these points are still only motherhood statements. The world has lost patience in statements of intention that action will be taken. The world wants action, full stop. Until action is obvious directly in the market, the market will find it difficult to regain confidence.
Having said that, what this overall plan does do is commit all members of the G7 to move to collectively implement all five lines of intended action. The feature of the last two weeks has been global fragmentation and piecemeal solutions announced in haste. The US government has legislated for, but as yet done nothing about, the TARP. The UK government has announced its intention to make capital injections directly into banks. The Irish government upset the European Union by unilaterally announcing bank deposit insurance. This forced the EU leaders to meet in an attempt to implement a similar but coordinated plan, but Germany baulked and each member was forced to suddenly rush out and consider such plans individually.
Across the globe, sovereign states have variously announced financial rescue measures. The lack of coordination or homogeneity in any of these announcements has led not to a lift in confidence globally, but further destruction of that confidence. Across the globe financial markets have undergone a cascading collapse as the earth has rotated on its axis. Weakness in European stock markets has led to further weakness in US stock markets which has led to panic in Asian stock markets which has led to another rout in European stock markets…
It is now easy to appreciate in retrospect that the world has become “globalised” in defiance of its multiple of sovereign states inconsistent in size, ideology, structure of government, legislation and regulation. A “global” world is no more apparent than in the growing homogeneity of financial markets and the subsequent subjection of disparate banking systems to enforced interconnection and intersection.
Secretary Paulson alluded to this mismatch of finance and government when he took questions at his press conference on Friday evening.
At around 3pm New York time the rumour on the floor of the NYSE was that the G7 was about to announce it would collectively step into the interbank lending market and guarantee all interbank loans. This measure would break down the walls that banks across the world have put up between each other thus freezing global credit. When the G7 statement was ultimately released and when Paulson made his related speech to reporters, no mention of such a plan was included. When asked why not, Paulson pointed to inability of such a specific measure to be coordinated given governmental, legislative and economic differences between member countries. Instead, Paulson offered the platitude of the power of the five-point plan.
It is not yet entirely clear whether financial markets may not be thus disappointed.
What should provide confidence, nevertheless, is the specific announcement by the US treasurer that the government will step into the market and acquire stock in a “wide array” of US financial institutions in order to shore up capital. This particular power was already accounted for in the Emergency Economic Stabilization Act of 2008 – the act that was signed by President Bush way back on October 3rd as an addition to the Troubled Asset Relief Program. In that time US stock markets have fallen close to 20%. The British government made US government representatives look like ditherers when it announced this week exactly such a plan to buy bank equity and thus partially nationalise its banking system. Not that the world didn’t already consider Congress to be a bunch of small-minded ditherers and petty, self-interested, populist politicians when they took a week to agree on the basis of the original TARP. That will go down in history as the week that sparked the actual Crash of ’08, rather than the preceding bear market of ’08. History will note that but not for the impending election, action might have been swift and decisive.
And the history books will also point to the US government’s and Federal Reserve’s inconsistent decision to let investment bank Lehman Bros go under. It is now easy to say this in retrospect, but it was the Lehman collapse that triggered the need for the TARP and has led us to this point. This is not a moral argument about whether or not any bank should have been saved Main Street. It is simply a recognition that either you do or you don’t. And if you do, it has to be universal.
It is now universal, at the US level, in that the government will step in and buy equity in a “wide array” of US financial institutions. The two most obvious candidates off the blocks are remaining “investment” banks Goldman Sachs and Morgan Stanley, with the latter close to becoming the next Lehman if action is not forthcoming.
And therein lies the next problem. Action has been announced, but when will it happen? Paulson could only suggest that people are “working around the clock” on the plan. The wheels of financial trading turn with instantaneous speed. The wheels of government turn at a glacial crawl. It’s really not that hard. Hank Paulson rings his old firm and says “Please by me X thousand shares in Morgan Stanley at market. And while you’re at it, make sure everyone in the world knows exactly who the buyer is”.
The Crash of ’08 would be over at that moment.
But this is not going to happen. Paulson could simply not offer a time frame. The world must now have faith that the order will be forthcoming, and also be prepared to take the risk that it will be. Then the selling can stop.
