AIG, 'looting' and CARICOM's financial regulatory needs
Published: Friday | March 20, 2009
Wilberne Persaud, Financial Gleaner Columnist
Last week's column mentioned Akerlof and Romer's concept of 'looting' in their 1994 National Bureau of Economic Research (NBER) working paper: 'Looting: The Economic Under-world of Bankruptcy for Profit'. Little did I know clear and immediate demonstration - US$165 million in bonuses - would come from the insurer American International Group (AIG) and Wall Street.
The American public could care less about the concept, but certainly know it when they see it. Outrage is the response from all who comment: President Obama, talk shows, and cable TV. The refrain is ubiquitous. Obama finds himself along with both Democrats and Republicans in Congress, in a difficult position.
Too much excess
People, the president asserts, "are rightly outraged about these particular bonuses, but just as outrageous is the culture that these bonuses are a symptom of what has existed for far too long; a situation where excess greed, excess compensation, excess risk-taking have all made us vulnerable and left us holding the bag." For emphasis, he excused coughing as a result of being 'choked up'; the anger was perhaps real even though his now legendary calm belies it.
When a president must use his bully pulpit to offer reflection of public dismay at corporate giants allowed, by lack of regulation not only to grow too big to fail, but also to exploit the situation by recklessly seeking financial gain, to 'loot' the public purse, we must realise the political complexity of the situation. Economics and economic/financial engineering models based upon assumptions taken from the world of probabilities, physics and mathematics, applied to human behaviours as they operate in markets are dangerous. Moral hazard is the nice way to describe its catas-trophic results. But the 'moral' part escapes ordinary people who lose jobs, having no health insurance as they face turbulent times with for them, no end in sight.
A bit worried
If this was happening in far off Iceland with little or no potential repercussion for the rest of the globe, it would hardly be newsworthy. It is not, however. China's Wen Jiabao, speaking at his annual press conference at the close of the legislative session, frankly admitted: "To be honest, we are a little bit worried. We have loaned huge amounts of money to the United States, so, of course, we have to be concerned. We hope the United States honours its word and ensures the safety of Chinese assets." That was last week. Today (March 16), Bloomberg business news organisa-tion reports the US Treasury confirming that "International demand for long-term US financial assets fell in January, reflecting sales of corporate and government agency debt and China's smallest net purchase since May." Net sales of long-term equities, notes and bonds, Bloomberg continues "totalled US$43 billion, compared with buying of US$34.7 billion in December, including short-term securities such as stock swaps, foreigners sold a net US$148.9 billion, after net buying of US$86.2 billion the prior month."
But next, Bloomberg reports the big one: China, the US government's largest creditor, is "worried" about its holdings of Treasuries and wants assurances that the investment is safe. "President Obama is relying on China to sustain buying of Treasuries amid record amounts of debt sales to fund a US$787 billion stimulus package." Putting it mildly, it is unusual for the Chinese premier to be so clear, unequivocal, blunt really, on such sensitive matters. And that reflects true worry. China holds an estimated US$2 trillion in foreign exchange reserves. It is America's biggest foreign creditor with perhaps half its holdings invested in US Treasury and government-backed bonds. These holdings provide an important element in financing the US economic stimulus plan.
US nationalism a taboo
Obviously closed-door, back-channel economic diplomacy discussions are in play. So, Wen Jiabao's public expression of concern is benign, meant to strengthen President Obama's hand. But will the American far right perceive it this way? Perhaps not. Obama's political capital gives him space to manoeuvre, but for how long?
Insolvent US banks and financial institutions need to be taken out of our global misery really. But talk of nationalisation in America is taboo, restricted to few. Rush Limbaugh and the extreme right of the Republican Party invoke the idea to discredit efforts to save the global financial system from its downward spiral. Nouriel Roubini and Nassim Nicholas Taleb (author of The Black Swan) both saw the potential for meltdown early and talk readily of nationalisation. Their view of the future though bleak, is realistic. Their prescription is absolutely correct, requiring admission of bankruptcy among the institutions that must deleverage and disappear. Each additional day of postponement renders the length and depth of the recession worse.
CARICOM has begun to feel the pinch. The CLICO meltdown and Stanford's Ponzi exposure are both part of global deleveraging and reordering. Weakening tourism demand and remittances are others. So, how are we responding? How should we respond?
Change of business models
We should eavesdrop on, and take seriously President Obama's remark: "... one of the messages that I want to send is that, as we get out of this crisis, as we work towards getting ourselves out of recession, I hope that Wall Street and the marketplace don't think that we can return to business as usual. The business models that created a lot of paper wealth but not real wealth in the country and have now resulted in crisis can't be the model for economic growth going forward."
Our response to CLICO has been national, not regional as it should best have been. Trinidad and Tobago had to act and act quickly. But the Bahamas, Barbados and Guyana had to act quickly too. Was consultation at the highest levels optimal? We don't know, but it should now be priority one. Regulatory reform is required. The example is right before us. By force of current institutional arrangements of the Eastern Caribbean Central Bank (ECCB), response to the Stanford collapse was regional, rapid and effective. CARICOM needs to emulate this when designing and implementing urgent reform.
In this September 16, 2008 file photo, an American International Group office building is shown in New York. - Ap