The quantity of ink and html-text produced on the current financial crisis is too phenomenal to be mastered.
However, what one gathers, very roughly, is this: The initial ingredients were a real estate asset bubble, financial innovation, easy money triggered by abundant mainly Chinese global liquidity and lax monetary policies. Banks bought each other’s new incomprehensible and toxic sub-prime assets. When the bubble burst, banks stopped lending to each other – leading many to reach the bankruptcy tipping-point. Add to this a pinch of heavy speculation, and you’ve got the hell breaking out of the seemingly all-powerful world of finance. All this originated in the US, but now everyone is hit. When banks go bankrupt, the rest of the economy drowns with them, as credit dries out. Now governments are playing firemen and bailing out left, right and centre.
We’ve been living above our means, in a chimerical world of bubbles. The entire financial market is now punishing everyone for previously unsustainable policies. Indeed, whoever has been seriously following news in the international economy is not surprised to see who’s stock markets and who’s banks are failing. UK? A mad real estate bubble. Spain and Ireland? Real estate bubble as well and not much productivity growth. Germany? A rotten banking system criticised by many specialists for long. Russia? Dodgy place, but with growth rates at 7-8% nobody bothered. Iceland? Late vengeance for previous reckless banking policies that already triggered a small crisis in 2006? Who knows? Furthermore: poor China saving unspent trillions and the super-rich US on a borrowing binge? Who cared about the discussions raging in 2006 among a group of grey and boring IMF experts, central bankers and Martin Wolf on so-called Global Imbalances? Making money on the economically impossible? No you have it: this week the IMF forecast a global downturn. Almost every country that matters is reducing its growth forecasts. And everyone is worried about savings, a house, and some already, jobs.
Living a borrowed life based on the chimerical assumption that a party can only last forever? Beware! Hubris is now followed by nemesis. Or so says Niall Ferguson. Harvard’s iconoclastic and Ferguson is an impressively prolific economic and financial historian who is just about to publish a new financial history book entitled The Ascent of Money. His beautifully written new columns in the FT and his perspectives as a historian (higher form of story-teller…) are an appetizing invitation to go and read his books (one of them, The War of the World is currently on my night table). What has he said? On the 7th of August, on the risk of spread of the US’ crisis, an article entitled: “How a local squall might become a global tempest“. On the 21st of september: five bold predictions of what might happen in the US:
First, unless the Paulson plan takes immediate effect, there could yet be more bank deaths, whether in the nice form of takeovers or the nasty shape of bankruptcies. (…)
Second, the credit default swaps market may yet break down (…)
Third, what William Gross of Pimco, the bond fund manager, called the “financial tsunami” may continue to spread to hitherto neglected parts of the financial system (…)
Fourth, there will, finally, be a US recession (…)
Fifth, unfortunately the rest of the world will slow down (…)
Sixth, the US presidential election will cease to be the soap opera it became during the party conventions and will become a contest between two brands of economic populism (…)
Not to far off, isn’t he? Today, browsing through his website, I fell upon this quite wonderful piece, on the end of “Chimerica”:
We are living through the end of a phenomenon that Moritz Schularick of Berlin’s Free University and I christened “Chimerica.” In this view, the most important thing to understand about the world economy over the past 10 years has been the relationship between China and America. If you think of it as one economy called Chimerica, that relationship accounts for around 13 percent of the world’s land surface, a quarter of its population, about a third of its gross domestic product and somewhere more than half of global economic growth in the past six years.
For a time, this symbiotic relationship seemed almost perfect: One half did the saving, and the other half did the spending (…) This divergence in savings allowed a tremendous explosion of debt in the United States, because the Asian “savings glut” made it much cheaper for households to borrow money. Meanwhile, cheap Chinese labor helped hold down inflation. Needless to say, it was not just the United States that was borrowing, and it was not just the Chinese who were lending. (…) But Chimerica was the real engine of the world economy.
As this tremendous expansion in borrowing — and lending — was taking place, some economists tried to rationalize what was going on. Some argued that this was “Bretton Woods II,” a system of international exchange-rate management akin to the one that linked Western Europe to the United States after World War II. Others called it a “stable disequilibrium” that could be counted on to continue for some time. But then a wave of defaults in the subprime-mortgage market revealed just how unstable Chimerica was.