Black Clouds on the Financial Front?

Let me start this by saying this subject is sophisticated and above my pay grade. But the impact would affect us all, so please read on. The September 17 issue of The New Yorker includes a fairly lengthy -- it is The New Yorker after all -- book review of a 700 page financial history and analysis of large financial crises, along with an implication, if not projection, of future risks. Crashed: How a Decade of Financial Crises Changed the World, by the Columbia economic historian Adam Tooz, points our the lasting consequences of the financial crash of 2008, including political ones. The reasons for the 2008 crash are well-documented, primarily a real-estate  boom which eventually collapsed with loans to people unable to afford the homes.

The two main remedial actions began with an immediate infusion of federal funds in February, 2009. That was followed for several years by the Fed buying vast amounts of US bonds, which kept the demand for bonds sky-high, forcing the interest rates to historic lows,  basically to zero. This second phase is known by the somewhat antiseptic term of Quantitative Easing, and only in the last year or so has it been discontinued.

This much is more or less known to most of us. The book then goes on to describe the resulting near-failure of the international banking system and the European Union efforts to deal with near collapses of the economies of Greece, Portugal, and Ireland.

The US Congress, working in an extraordinary bipartisan manner, passed several laws requiring banks to increase their capital "insurance" levels to protect against fear-based runs, where many people withdraw investment funds and flee to the safety of cash under the proverbial mattress. Those protections now are being questioned by those who believe that these requirements inhibit growth and freedom of financial action.

The book, according to the review, posits that the backlash internationally to the belt-tightening, especially in the European Union, has led to resentment at immigrants and their impact on society. In addition, some people now worry that being part of a larger bloc, with the assignment of many laws and regulations to a central authority, has diminished control of their own country ... a national disenfranchisement. The recent vast influx of refugees from the Middle East civil wars has added to the pressures to be sure. All in all, there has been a surge in nationalistic political parties and movements.

According to the author, Central Banks no longer are the only entities controlling vast amounts of capital. Asset-fund managers now control approximately $160 Trillion (that's trillion with a T), an amount greater than the banking industry combined! During a market sell-off, some of these firms could face pressures from investors eager to cash out at almost any cost.

The 2016 election resulted in Republican control of both chambers and the Presidency. The Republicans in Congress have eliminated some of the financial regulations put into place after 2008. They have reduced capital requirements for all but the very biggest banks and have sought to weaken the "Volker Rule," which bars any bank from speculating in the markets on its own account. Meanwhile the US President has adopted a neo-isolationist stance on many issues, raising the question on how his administration would react if another financial crisis threatened the global economy.

Now comes the dark part of the scenario. At this point, recall that the US Fed carried most of the financial burden of supplying the capital to withstand both the US and European crises in 2008 and thereafter. Toward the end of his book, Tooz returns to the fragile cross-party coalition that took shape in late 2008, and states that "it is an open  question whether the American political system will support even basic institutions of globalization, let alone any adventurous crisis fighting at a national or global level." The implications of a financial contagion are dire as the US now moves to a more MAGA agenda.

As I find myself saying more and more, we shall see.

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1 Response

  1. Jim, Do read The Fifth Risk by Michael Lewis, the author of Moneyball. That book will really scare you. Susan

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