Financial Crises why we faced, why we could face?
Financial Economics history is forgotten
1960-1970 financial crisis - when interest rates (by the standards of the day) were relatively lowmade a greater impression on market participants than did the crisis that occurred during that decade :
‘when the first time in the post war period, institutions experienced substantial disintermediation during the crisis - credit crunch - of 1966, fears abounded - a kind of financial paralysis came over (fell over) the financial markets.’ even though the ‘prime loan rate at its peak reached only 6 % and (high grade corporate bonds moved to 6.3%) - when Penn central railway failed in 1970, - the market went into a deep shock.
p.8 (Henry Kauffman - Road to financial reformation @ 2000 -John Wiley & Sons Inc) 1966 - Post war period
Both crisis caused financial system was closer to being ‘immobilized’ than when prime loan rate reached 21%.
1980s - financial system closer to being immobilized than when the prime loan rate reached 21½ % early in the 1980s
Volitalitality of securities prices and the currencies had become deeply rooted feature of the new financial world (emerging) - markedly different from earlier times - fixed -income markets.
Dramatic increases in volatility is readily apparent -high and low yields - of high grade bonds (corporate) for each year since 1920.
Difference averaged well under 50 basis points from 1920 through 1969 , rose beyond to 98 basis points in 1970s, and then just jumped to 273 basis points by 1980s.
Ref: professor Benjamin Cohen: ‘In Whose Interest? International Banking and American Foreign Policy’ (New Haven, CT , Yale Univ press 1986)
Credits jumped to finance Edward I and Edward II and the King of Naples in the 14th century -
Lenders never could get at the collaterals that was extended to secure the loan , when Florence was the world’s key banking centre in 14th century.
“instead of being repaid , the lender was willy-nilly forced to lend more and more and to throw good money after bad (debt) in the hope to save what he had already lent.’
When England pioneered new horizons in international finance in the19th century, many initial successes were followed by debt default problems during the numerous crisis involving countries and financial Institutions.
Eg. Bearing Brothers bailed by (British) Bank of England and by other institutions , when Bearing.. over extended itself to the weakening Argentina in 1980
Adam Smith rightly diagnosed , ‘No part of society can surely be flourishing and happy of which the ‘far greater part of its members are poor and miserable’.
It is very interesting to note he did not favor or advocate ‘a flat tax’.
He also said, ‘The subjects (today citizens) of every state ought to contribute towards the support of government, as nearly as possible, in proportion to their respective abilities’.
In his ‘Theory of Moral Sentiments’ when he was just 36 years old, (work hardly remembered today) - an investigation of considerable range and insight that earned Smith great renown in his day, indeed.
He expounded on such matters as the proprietary of action, the objects of reward and punishment , the character of virtue, and the practice of philosophy.
These are hardly the subjects economists would delve deep into today.
In his 53rd year he wrote Wealth of Nations, being a Scottish social philosopher in 1776 - written in grand style - and completely ‘free of the kind of mathematical apparatus common to today’s learned journals -
it endured the test of time -born the world’s greatest capitalist Nation - America
- it is one of the most perceptive and influential treatise (work) of the Modern Age.
His eloquent argument
- it is part of human nature to strive for economic growth
- best be achieved through ‘unfettered competition, the division of labor, and free trade’.
He believed the State should play a very limited role.
Governance should be properly confined to safeguarding society from violence and invasions, to protecting every member of society from ‘injustice’ oppression.
It has to provide certain ‘public works and institutions’ only.
In his death in 1796(?) , He made it clear , ‘he would no doubt applaud the rise in ‘living standards; and the rapid industrialization in many parts of the world - that has been;
- driven by the ‘kinds of innovations and divisions of labor , he advocated, (yet far beyond even his imaginings, one might say).
US industrial worker toiled 10 hours day, six days a week to help him bring home $.375 a year.
Adam Smith studied mathematics, natural sciences , philosophy and classical writings.
One can see his erudition of his reading reflected clearly ‘ in his comprehensiveness of his economic thought’.
A professor in Glasgow university in moral philosophy.
Potential excesses of capitalism he warned could be potentially dangerous to society.
The individuals need to pursue their ‘self interests’ ; society would benefit as long as ‘self interest is restrained by competition.
He warned ‘competition could be compromised
There was a congressional testimony before US Congress( in the light of 2007-08 financial crisis) by Dr. Henry Kaufman of what shall be financial reformation in the light of the crisis:
He said, he believed:
1.‘Many of the current regulatory bodies should be eliminated. In our rapidly changingfinancial system, in which institutions perform multiplicity of services , is it efficient to have so many regulators on both federal and state levels?
These regulators are vestiges of our past financial development.
At times, they compete with each other , and they do not have an integrated (approach) view of today’s financial world.
2. Centralised monitoring and regulation of our financial system should be established.(I continue to urge as I did in the Congressional testimony ...2008 , a year ago) ;that the prudential (norms) responsibilities of the Fed Reserve should be enlarged to encompass institutions other than banks ;or the National Board of Overseers should be established that would monitor and promulgate - codes of minimum behavior for all major financial institutions.
3. Financial institutions should be required to report their assets, at the lower cost or market value.
Losses would then be quickly recorded , including managers of financial institutions (have) to turn (around) toward more conservative policies.
4. There should be much greater disclosure by financial market participants - including institutions and corporations - in their fin statements.
Assets and liabilities should not be netted out.
Contingent liabilities should be reported in detail, thus providing creditors with the opportunity to improve their ability to assess the credit standing of debtors.
5. If this type of disclosure (assessment ) continues to be inadequate , then the official regulatory agencies should be required to rate the creditworthiness of the financial institution under their jurisdiction.
The ratings should be made public after a (some) delay, thereby allowing the institutions time to remedy any problems before the public is appraised.
6. We should adopt tax policies that foster the enlargement of equity capital ratherthan the excessive use of debt.
In this regard, the double taxation of dividends and capital gains tax on equity shares should be eliminated (to encourage equity participation if investors are interested).
7. The official regulatory agencies should issue regulations that require the gradual enlargement of capital base of the institutions under their supervision (review).
8. To contain the debt problem, international cooperation and coordination must be strengthened (augmented). A new official international agency consisting ofkey central banks and other officials, should be established.
This organisation should work toward achievinguniform accounting, capital and reporting standards of majorfinancial institutions.
It should monitor more and more closely international capital flows by promulgating better reporting standards.
In the world with a rapidly growing web of financial linkages, such improvements are essential not only to rein in debt growth but also to achieve monetary policies (balances).”
Designed to structure world of finances of a past few decades ago, might be conservative but needed today to remedy the current problems as present standards are not adequate safeguards for fiduciary interests.
Too big to fail standards being a promoter of very large institutions; that get bail out from taxpayer’s exchequer funds - indeed most ‘unethical process’; that need to be avoided, is the theme;
Besides no institution would ‘not make merry go rounds’ with taxpayers’ funds.
If it is done, naturally another financial crisis might be forced on people.
It is high time governments all over need be conservative least another financial crisis surfaces; one need to be warned under any calculations, if any more financial crisis with in 20 years from 2007-08 it would make whole world very poverty stricken as no one would accept another’s credibility, a great chaos that would be; besides end of ‘paper currency’ the great idea of Maynard Keynes would just abruptly end, back again to great Barter,
No economy could move any faster!
By Adv. Prof. Dr. Gurumurti Balakrishnan Pandipeddhi