Marxism-Thaxis] Second part on Finance Capitalism 2001 Charles Brown CharlesB at cncl.ci.detroit.mi.us Sat Jan 6 10:58:09 MST 2001
Previous message: [Marxism-Thaxis] Finance Capitalism 2001 Next message: [Marxism-Thaxis] Death Penalty Messages sorted by: [ date ] [ thread ] [ subject ] [ author ] -------------------------------------------------------------------------------- [ Part II] The global financial upheavals since 1997 have damaged not only financial markets, but national economies along their paths. The Mexican crisis of 1994, the South Korean crisis of 1997-98 (the only one in Asian the US intervened because Brazilian investors were holding Korean bonds), and the Brazilian crisis of 1998, Argentina and Turkey in 2000, are all victims who have become permanent patients in the critical care unit of the IMF. Yet the US economy has been immune mostly because the Fed, taking advantage of the unique position of the dollar as the anchor currency in the existing international finance architecture, and its ability to print dollars unimpeded, applied a bailout standard on the US economy much less demanding than what the US required of the IMF for other economies. In recent decades, the Treasury and the White House have effectively usurped much of the Fed's alleged independence through the back door of foreign exchange rate policy which narrows domestic interest rates options. A strong dollar policy is part of US financial hegemony. It is a national security postion of the White House that the Fed must support. The credit bubble has been largely responsible for the spectacular growth of the financial infrastructure. The narrow focus on rising market capitalization value has obscured the high leverage in the US economy and to a lesser degree in the global economy. Global equity markets rebound within months out of the debris of sequential financial crises while the local economies stay depressed for years. Recovery is proclaimed all over Asia while people remain jobless and desperately poor. Stock options became currency not only for management compensation and corporate mergers, but for the general working population in the so-called New Economy and for seeding new enterprises. Loans collateralized by inflated market capitalization are preferred to liquidation as a devise to skirt capital gain taxes. These loans magnify growth in a rising market and they magnify contraction in a falling market. The Fed eased in 1998 after the Russian default. History would decid whether the Fed did the right thing by allowing Russia to default. But there is now clear evidence that the Fed panicked and eased excessively after the Russian default and after the LTCM bailout, thus exacerbating the post 1998 bubble, foreclosing the prospect of a soft landing. A bubble is formed when there is aggregate overstating of financial value. Its existence saps real growth because profit can then be earned more easily from speculation than from increased productivity. That was the virus that seriously wounded the Japanese economy and kept it depressed for over a decade. It is now killing the US economy. The phenomenon that turned the dollar into the base currency for world trade is oil related. The US abandoned the Bretton Woods regime of gold-backed fixed exchange rates in 1971 but the dollar remained the anchor currency for world trade. The 1973 oil embargo gave APEC control of the oil market and its pricing. But oil is transacted with dollars. The black gold trade reinforced the dollar as the international trade currency, despite the fact that it has not been backed by US monetary and fiscal discipline for decades. Gold everybody wants but nobody needs. But oil, everybody needs in the modern world. The pricing of oil then becomes the true anchor for the value of the dollar, not the Fed's monetary measures. When the price of oil rises, the dollar depreciates in real terms. When it falls, the dollar appreciates. For most of last decade, the US has managed to keep oil prices low, around $10/barrel, reaping the benefit of a strong dollar with low inflation. But cheap oil price discourages conservation and exploration which eventually will cause oil prices to rise. $30 oil is expensive only in relative terms to recent prices, but its impact on the economic bubble is significant. The rise in oil prices in 1973 was handled by the recycling of oil dollars into US assets. It was the same strategy used to finance the US trade deficit in a decade of globalization, until 1997. By the 1980s, as oil dollars accumulated, the US economy, beset by the burst of a credit bubble which produced stagflation, was unable to absorb further investment at expected returns. The transnational financial institutions then discovered Third World lending which produced high returns commensurate with high risk. But as Walter Wriston proclaimed: "Banks go bankrupt, but countries don't." Thus oil money can earn high returns without commensurate risk in Third World loans, as governments will always bailout such loans. As history records, Third World borrowers defaulted en mass. By 1982, nine US banks had lent Mexico alone $13.4 billion, representing 50% of their combined capital. To handle the impact of sovereign default, Mexico temporarily closed its foreign exchange window and converted all foreign currency accounts into pesos and demanded a debt restructuring which the banks reluctantly complied. The US banking system was seriously weaken as a result of Third World debt. U.S. Treasury Secretary Nicholas Brady, in the 1980s in association with the IMF and World Bank sponsored the effort to permanently restructure outstanding sovereign loans and interest arrears into liquid debt instruments. Brady Bonds represent the restructured bank debt of Latin American and other emerging nations that overborrowed from U.S. institutions. Designed to prevent financial meltdown for lenders and borrowers alike, Bradys are normally collateralized by U.S. zero-coupon bonds of various maturities. That means principal is guaranteed, but most bonds' coupons are not. If a country can't make its interest payments, investors can collect 100% of their principal when the bonds come due. But they lose out on interest, and they have tied up their money for years instead of putting it into a paying investment. And because the bonds no longer pay interest, their value in the secondary market plummets to only a fraction of their face value. This market is extremely volatile, reacting to moves in U.S. bond prices and especially to bad news from emerging nations, such as the Mexican peso devaluation of 1994. Hedge funds, insurance companies, and other institutional investors have been willing to take that chance lately. Meanwhile, the managers of U.S. open-end mutual funds dedicated to emerging-market debt are insisting that Brady bonds have gone mainstream. Countries involved in the Brady Plan restructuring: Argentina, Brazil, Bulgaria, Costa Rica, Dominican Republic, Ecuador, Mexico, Morocco, Nigeria, Philippines, Poland, Uruguay. Some countries like Mexico, Venezuela, and Nigeria have attached to their Par and Discount bonds rights or warrants which grant bondholders the right to recover a portion of debt or debt service reduction as stated in the Exchange Agreements, should their debt servicing capacity improve. In effect, some are known as Oil Warrants because they are linked to oil export prices and thus to the oil export receipts. The collateral consists of funds maintained in a cash account usually at the Federal Reserve Bank in New York and typically invested in AA- or better securities, for the purpose of paying the interest should a debtor country not honor an interest payment. A rolling interest guarantee (usually 12 to 18 months or 2 to 3 coupon payments) remains in effect as each successive coupon payment is made and the collateral continues to guarantee the next successive unsecured coupon payment. In the event the collateral is used, there is no obligation to replace it. In the 1987 crash, Greenspan, merely nine weeks as Chairman, flooded the system with reserves by having the FOMC buy massive quantities of government securities from the market, and announced the next day that the Fed would "serve as liquidity to support the economic and financial system." Some accuse Greenspan for bringing on the crash by raising the discount rate 50 basis points to 6%. Portfolio insurance has been identified as having exacerbating the crash. The technique involves selling stock futures when stock prices fall to limit or insure a portfolio against large losses. This gives index arbitrageurs the opportunity to benefit from lower future prices by buying futures in Chicago and selling the stock market in New York, adding selling pressure in the market. But the fundamental cause of the 1987 crash was the trend of corporation moving to debt from equity financing. Corporate new debt tripled in a decade, with debt service taking up 22% of internal cash flow. Total nonfinancial debt was 200% GDP in 1987, compared to about 120% in 1977. Corporate credit ratings deteriorated but the lending did not cease because funds were being raised in the non-bank credit markets. Historians have identified the causes of the 1930 Depression as: 1) Too much savings in relation to consumer power due to income disparity; 2) Over capacity due to excessive investment from surplus capital; 3) Over stimulation through the growth of debt through new intricate system of inter linked debt obligations; 4) Legalized price fixing through mergers and acquisitions; big corporations maintain price and cut production instead of lowering prices, resulting in massive unemployment; 5) Economic growth too heavily dependent of big ticket durable goods that cannot sell in a depression thus slowing recovery; 6) Exhaustion of public confidence and optimism; and 7) The collapse of international trade (Smoot-Hawley Tariff Act). 8) Irresponsible foreign lending (the US was a creditor nation with a credit balance about twice the size of the total foreign investment in the US.) Now every one of these causes is still present today at a larger scale and faster reaction time, with the exception that the US is now the world's biggest debtor nation. Greenspan testified in 1998: "We should note that were banks required by the market, or their regulator, to hold 40 percent capital against assets as they did after the Civil War, there would, of course, be far less moral hazard and far fewer instances of fire-sale market disruptions. At the same time, far fewer banks would be profitable, the degree of financial intermediation less, capital would be more costly, and the level of output and standards of living decidedly lower. Our current economy, with its wide financial safety net, fiat money, and highly leveraged financial institutions, has been a conscious choice of the American people since the 1930s. We do not have the choice of accepting the benefits of the current system without its costs." Well the costs are coming headlong like a runaway freight train. Whole testimony: http://www.bog.frb.fed.us/boarddocs/testimony/1998/19981001.htm Experts note that each financial crisis is unique, which probably is true in detail. These experts also seek comfort in the observation that the identified excesses of past crashes have been deal with through new regulatory measures, which is also undeniable. Yet financial crisis have persistent common threads in that they seem to defy precise anticipation and that their occurrence leave serious structural damage. Thus the requirement of a conservative debt to equity ratio is needed to protect the system from policy misjudgement. Yet the American system prospers on living on the edge through maximization and socialization of risk, thus building in failure or collapse that hurts no just the willing risk takers, but the general public who has been put into risky situations they cannot afford by the sales talks of sophisticated risk management. Will history compare Clinton to Coolidge and Bush II to Hoover? Henry C.K. Liu _______________________________________________ pen-l mailing list [email protected] https://lists.csuchico.edu/mailman/listinfo/pen-l
