An International Monetary Fund study of banking crises in history published this month was not well timed for US Treasury Secretary Henry Paulson.
The IMF studied 42 financial crises: 10 were resolved with no government intervention and for the rest the purchase of bad assets by governments were the exception rather than the rule, and have only been carried out by Mexico, Paraguay, Jamaica, Malaysia, Czech Republic and Japan. Not the best of company to be keeping.
The IMF concluded that the fiscal costs of banking crises “can be substantial and that output losses can be large”. It found that in dealing with credit crises “above all, speed is of the essence”, but that the liquidity and guarantee actions of the authorities are not always successful.
United States output is almost certainly in decline now. This morning the Commerce Department reported that consumer spending has fallen and most commentators now believe the economy is already in recession.
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Consumer spending in Europe, Japan and Australia is also likely to collapse now and the economies are likely to go into reverse.
Australia’s terms of trade boom is over, whatever happens in China, and if China’s economy also slows significantly, then the Australian economy is in serious trouble.
The most important saving grace here — and it is a big one compared to the US — is that both the Reserve Bank and Treasury have plenty of firepower. Interest rates here are relatively high and can be cut a long way, while the Federal Budget is in substantial surplus and can be used to transfer plenty of money back to consumers.
The trouble is that if consumers are in a major funk, that won’t necessarily help.
At Business Spectator and Eureka Report we are increasingly being asked whether the big four banks are safe — not to invest money in their shares, but for deposits.
Our answer, of course, is that they are — they are four of only 18 AA-rated banks in the world — and will probably come out of this crisis stronger and with more market share than when the malaise started, but the question is being raised.
The fact is that this is a crisis not just in the United States, but in the western world.
Excessive consumption and debt in the west, basically riding the triumphalism that followed the fall of the Soviet Union in 1989 and Operation Desert Storm in 1990, has destroyed the equity of a financial system that knew no restraint in stoking that excess.
We were all, perhaps, uneasy at the time, as we watched the profits of banks and investment banks explode, along with the salaries of those who ran them, but we were along for the ride ourselves — enjoying the rise in superannuation wealth that came from investing in the banks.
And then the boom was super-charged by China’s emergence from the shadows and the deflation it exported to the rest of the world through low labour costs.
The low inflation, low interest rates and high commodity prices supported by China combined with a burst of consumerism and a housing bubble in the west to create an explosive mixture that has now gone off.
The consumers and home borrowers who fuelled the boom have now turned on their partners in excess — the bankers. It seems likely their anger will be formidable, made all the more so by a deep sense of shame.
The regulation that followed the collapse of Enron, focused mainly on the Sarbanes-Oxley Act, will come to look like a curtain-raiser.
Whether there is a Greater Depression or not, there is likely to be another New Deal imposing strict controls on the financial sector that will last a generation.