Crisis, Which Crisis?

Choose Your Own Explanation

Crises are caricatures of the everyday, erratic farce pushed against the dull certainty of life. They mock the knowledge we thought we had, leaping around, squirting water in the face of experts, who ironically look a little too much like clowns. But no-one likes being played for a fool, so we rally, seeking various explanations for the way things are now, forgetting that we really know very little at the best of times. We are all too often ignorant of our own ignorance.

Take the current financial crisis, for instance. What is it? How will it affect you? What will the world economy look like in a year’s time? Three questions that could be answered in three lines, if we really knew what was going on. The problem begins with a euphemism – ‘sub-prime lending’ – which means mortgages for those who, on the balance of possibilities, were never likely to pay them off. Not a good start.

But then the situation deteriorates because various banks insure against those dodgy loans by selling the risk of non-payment, now labelled ‘mortgage-backed securities’, as bonds to largely unsuspecting superannuation funds. Naughty banks? Well, maybe, but any business is about reducing risk and increasing profits. Insurance companies issue policies against the risk, which seems a good back up. But when housing prices start to drop the actual value of mortgaged homes falls below the amount of money still owed and the chance to refinance favourably evaporates. Failures to make mortgage payments rise, dramatically.

In other words, the banks – and the two federal mortgage agencies – took a huge risk, thought they could get away with it in a buoyant US housing market, and had their pants pulled down by circumstance. When the insurance companies started paying out for bonds that no longer had any backing they started to lose money, with their credit ratings tanking. Bankruptcies ensued, banks started to fall over, trouble spread throughout the financial world.

Do I really understand this? No, it’s just information hurtling by. You might have noticed that the initial explanation was more substantial than the description of how the problem in America has spread elsewhere. After a point I really have to trust the explanations of others, because like most other people I’m a generalist and understanding the minutiae of world finance would involve time, effort and interest that I don’t really have.

So I ask – I speak to people, seek opinions, read what I can. Interestingly enough, the answers are not often the same. Allow me to offer three brief examples.

Last week I spoke to a bond seller who works at a bank that is most assuredly not in a good way at the moment. He said that the problem is inter-bank liquidity – it’s prohibitively expensive for banks to borrow from each other at the moment. Money, in other words, is not sufficiently circulating. This is obviously an explanation that sits astride what I’ve already mentioned, and I see no reason to reject it.

The bond seller also sounded the increasingly common warning of a bad recession looming, and claimed that in the world of everyday life, this would propel housing rent upwards as the supply of new premises dried up, effectively pushing demand higher than supply. Scarcity always makes landlords happy.

So that’s one take on the crisis, and it’s important because it touches on the largest expense that most of us face. But I spoke to another person later in the week, a securities trader who runs his own investment company, and he said rental prices would almost certainly fall, simply because people would be wary of paying out large amounts, and would gravitate to cheaper rentals. The market would then have to follow.

My point here – as much as I enjoy talking to both men – is that when they shift out of their core areas of concern they’re guessing as much as the next person. The broker admitted as much; this would be the worst crisis since the Great Depression, but he really didn’t know what would happen. So, technically, everything might just end up rosy.

The third example is somewhat removed from the small concerns of life, propping itself up on the geopolitics of American finance. Writing, perhaps hastily, in this month’s edition of the Far Eastern Economic Review, David Roche claims that the crisis has already crippled the American Empire, stripping it of influence in world affairs. Mr Roche might not know how to spell hyperbole, but allow me to take a stab at describing it.

Away from troubles with mortgages and worries about rent, removed even from concerns that this could be the biggest meltdown since THE big one, Mr Roche pokes faces at the “failed Anglo-Saxon model of laissez faire economic governance”, and points his finger at the “credit excesses in Anglo-Saxon economies”, the US version chief amongst them, that will burden the rest of the world. Aside from the somewhat humorous fact that “laissez faire economic governance” is impossible – laissez faire means ‘left alone’ and precludes any type of governance – this obsession with Anglo-Saxons is curious.

It wouldn’t be difficult to be annoyed with the sort of economic and financial goings on in some English speaking countries, but they’re not alone in the West. And, for that matter, when was the last time you met an Anglo-Saxon? What does that term really mean? Can economies take on out-dated ethnic characteristics? Probably not. Like the two men I talked to, Mr Roche seems to have written something that he wanted to write rather than something he had sufficient evidence to write about.

There is a fabulous old saying that captures the moment perfectly: when in danger or in doubt, run in circles, scream and shout.

Move across the front pages of the many magazines and newspapers purporting to explain things financial and it’s pretty much the same. Some very clever people know a great deal about one, two or even three areas and presume they know enough about others. The result is not clarity, but bluster. Well meaning bluster, of course, but still lacking enough substance to help the rest of us understand. And amidst all the explanations, accusations and insinuations, we still don’t really know what we don’t know. Realistically, we’re not like to find out.

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