19th October 2008
The Malta Independent on Sunday
President George W Bush has started his last 100 days in office before handing over to a new president who will be elected on 4 November.
When he leaves, Mr Bush will not only be ending his own presidency but will be sealing the end of the Thatcher and Reagan doctrine: the doctrine of free unregulated markets, of tax cuts and of little government.
Before he leaves, Mr Bush owes the world an apology. His failed presidency has been nothing short of disastrous – not just for America but for the whole world. He started by neglecting a growing risk of terrorist attacks, ignoring the advice of executives who bridged over from the Clinton administration, chief amongst whom was Richard Clarke, the terrorism czar, whose role was down-graded by the incoming Bush administration right at the time the terrorist threat started flashing red all over the place.
It continued with the pursuit of unilateralism and the adoption of the policy of pre-emption, whereby America gave to itself the right to start war on another country based on suspicion rather than on proven offences. This led to the disastrous Iraq war based on unreliable intelligence, deflecting focus from the real Al-Qaeda enemy in Afghanistan and without any idea of how to win the peace after winning the war. There was no reliable plan for disengaging from war after reaching the unrealistic objective of turning Iraq into a democratic beacon to be propagated in the rest of the Middle East.
But, as if that were not enough, Bush has saved the best for last. Under his watch we are seeing the meltdown of the US financial system for which he is responsible as the torchbearer of the Reagonomics doctrine for loose regulation, irresponsible tax cuts and the dangerous belief that the market could effectively regulate itself. Bush is seeing the US financial system crumbling in a manner that is more typical of a banana republic. It is humiliating for a superpower to suffer such a massive financial system failure and the US must know that there can be no geopolitical dominance that is not underpinned by geo-economic strength.
As the chief executive of the US government, President Bush has directly contributed to the financial turmoil in two distinct ways. He erred by keeping Alan Greenspan as chairman of the Federal Reserve when, by all reckoning, Greenspan had already overstayed his term since his original appointment in 1987 and should not have been re-appointed. Familiarity breeds contempt and Greenspan became too familiar with the financial system, expecting it to dance to his direction packaged in double-speak and cheerleading.
I well remember Greenspan reassuring the House and Senate Banking Committee that the US financial system was resilient and that the uncontrolled spread of complex financial derivatives was a healthy distribution of risk, ensuring that any shock would be absorbed without any institution being unduly damaged. I well remember Greenspan reassuring members that there was no bubble in the US housing market, only some froth at the edges in some states. He also claimed, in a dose of contradiction, that the Federal Reserve had no way of spotting bubbles in real time and that it was more effective to mop up afterwards than to try to deflate a bubble before it burst.
Greenspan was horribly wrong on both counts. When the real shock came, the financial system proved anything but resilient. Risk spreading through the use of complex financial derivatives, rather than by protecting the system, was actually its downfall. The lack of clarity about who was carrying the risk from the burst of the property bubble froze the whole system, with banks becoming wary of lending to each other in the absence of clarity about the financial state of health of the counter-party.
And the property bubble has proved anything but easy to mop up after it burst. What Greenspan had clearly under-estimated is the international dimension of the problem of the housing bubble, with various international banks being exposed and the US problems consequently being exported far and wide throughout the international financial system.
More bad choices were made by Bush when choosing the Treasury Secretary – effectively the US Minister of Finance or Chancellor of the Exchequer. He started well when he chose Paul O’Neill. But O’Neill was cautious and prudent and would not subscribe to Bush’s irresponsible policy of guns and butter. Neither would he support tax cuts at a time when the US was preparing for war.
He was quickly replaced by John Snow, with shallow experience in international finance and who was easy to mellow over to endorse Bush’s largesse policies which were to convert an inherited fiscal surplus into the frightening fiscal deficit, even when the economy was at the top of the cycle, let alone what it would look like at the bottom.
When financial matters started becoming complicated, Snow was replaced by technocrat Henry Paulson, who had cut his teeth as CEO of the largest investment bank, Goldman Sachs. Paulson was the right person to address the perceived major threat, ie the growing dependence on China for financing the budget deficit and the need to persuade China to loosen the strict peg of its currency to the US dollar to ensure it did not take undue advantage through an unrealistic exchange rate regime.
Paulson is, however, proving highly incompetent in handling the banking crisis. His decision to allow Lehman Brothers to fail and file for bankruptcy was irresponsible and highly damaging to the US’s international reputation. On what basis was the much smaller Bear Stearns salvaged with Treasury assistance when it was taken over by JP Morgan Chase and then Lehman was denied such treatment? If Bear Stearns was too interconnected to fail, then why was Lehman not considered the same? Subsequent events since that fateful weekend in mid September have proved that, in fact, Lehman was so interconnected that its bankruptcy has frozen the entire world financial system, rendering credit markets dysfunctional and throwing equity markets in an unprecedented freefall.
Bush’s failings have cost the world dear. Governments in Europe, Oceania and the Middle East have been forced to practically nationalise their banking system and guarantee their retail deposits in a desperate attempt to regain stability following the US shock. This has been done as a crisis-averting measure rather than as a political credo, and governments hope to disengage at a profit for the taxpayer when markets regain normality. But that could be a long shot.
In the meantime, the US is taking lessons from Europe on how the crisis should be managed. After keeping the world on edge for a whole week until the $700 billion bail-out package was approved by Congress, this is having to be remodelled on the EU system of recapitalising the main banks and insuring inter-bank dealings rather than merely buying off troubled assets from the banking system. Clearly, the US initial approach would have presented unfairly small and disproportionate potential rewards for the taxpayer for the risk of bailing out the banks, and this without actually addressing the underlying problem of diluted bank capital structures.
There is one lesson in all of this. In this global world, national regulators are no longer in control of the financial systems they are supposed to regulate. Even the best regulators are exposed to shocks resulting from the failures of regulators in other major jurisdictions, which raises the question of whether a global world needs a global financial regulator and whether the IMF could be reinvented to perform such a role.
The Malta Independent on Sunday
President George W Bush has started his last 100 days in office before handing over to a new president who will be elected on 4 November.
When he leaves, Mr Bush will not only be ending his own presidency but will be sealing the end of the Thatcher and Reagan doctrine: the doctrine of free unregulated markets, of tax cuts and of little government.
Before he leaves, Mr Bush owes the world an apology. His failed presidency has been nothing short of disastrous – not just for America but for the whole world. He started by neglecting a growing risk of terrorist attacks, ignoring the advice of executives who bridged over from the Clinton administration, chief amongst whom was Richard Clarke, the terrorism czar, whose role was down-graded by the incoming Bush administration right at the time the terrorist threat started flashing red all over the place.
It continued with the pursuit of unilateralism and the adoption of the policy of pre-emption, whereby America gave to itself the right to start war on another country based on suspicion rather than on proven offences. This led to the disastrous Iraq war based on unreliable intelligence, deflecting focus from the real Al-Qaeda enemy in Afghanistan and without any idea of how to win the peace after winning the war. There was no reliable plan for disengaging from war after reaching the unrealistic objective of turning Iraq into a democratic beacon to be propagated in the rest of the Middle East.
But, as if that were not enough, Bush has saved the best for last. Under his watch we are seeing the meltdown of the US financial system for which he is responsible as the torchbearer of the Reagonomics doctrine for loose regulation, irresponsible tax cuts and the dangerous belief that the market could effectively regulate itself. Bush is seeing the US financial system crumbling in a manner that is more typical of a banana republic. It is humiliating for a superpower to suffer such a massive financial system failure and the US must know that there can be no geopolitical dominance that is not underpinned by geo-economic strength.
As the chief executive of the US government, President Bush has directly contributed to the financial turmoil in two distinct ways. He erred by keeping Alan Greenspan as chairman of the Federal Reserve when, by all reckoning, Greenspan had already overstayed his term since his original appointment in 1987 and should not have been re-appointed. Familiarity breeds contempt and Greenspan became too familiar with the financial system, expecting it to dance to his direction packaged in double-speak and cheerleading.
I well remember Greenspan reassuring the House and Senate Banking Committee that the US financial system was resilient and that the uncontrolled spread of complex financial derivatives was a healthy distribution of risk, ensuring that any shock would be absorbed without any institution being unduly damaged. I well remember Greenspan reassuring members that there was no bubble in the US housing market, only some froth at the edges in some states. He also claimed, in a dose of contradiction, that the Federal Reserve had no way of spotting bubbles in real time and that it was more effective to mop up afterwards than to try to deflate a bubble before it burst.
Greenspan was horribly wrong on both counts. When the real shock came, the financial system proved anything but resilient. Risk spreading through the use of complex financial derivatives, rather than by protecting the system, was actually its downfall. The lack of clarity about who was carrying the risk from the burst of the property bubble froze the whole system, with banks becoming wary of lending to each other in the absence of clarity about the financial state of health of the counter-party.
And the property bubble has proved anything but easy to mop up after it burst. What Greenspan had clearly under-estimated is the international dimension of the problem of the housing bubble, with various international banks being exposed and the US problems consequently being exported far and wide throughout the international financial system.
More bad choices were made by Bush when choosing the Treasury Secretary – effectively the US Minister of Finance or Chancellor of the Exchequer. He started well when he chose Paul O’Neill. But O’Neill was cautious and prudent and would not subscribe to Bush’s irresponsible policy of guns and butter. Neither would he support tax cuts at a time when the US was preparing for war.
He was quickly replaced by John Snow, with shallow experience in international finance and who was easy to mellow over to endorse Bush’s largesse policies which were to convert an inherited fiscal surplus into the frightening fiscal deficit, even when the economy was at the top of the cycle, let alone what it would look like at the bottom.
When financial matters started becoming complicated, Snow was replaced by technocrat Henry Paulson, who had cut his teeth as CEO of the largest investment bank, Goldman Sachs. Paulson was the right person to address the perceived major threat, ie the growing dependence on China for financing the budget deficit and the need to persuade China to loosen the strict peg of its currency to the US dollar to ensure it did not take undue advantage through an unrealistic exchange rate regime.
Paulson is, however, proving highly incompetent in handling the banking crisis. His decision to allow Lehman Brothers to fail and file for bankruptcy was irresponsible and highly damaging to the US’s international reputation. On what basis was the much smaller Bear Stearns salvaged with Treasury assistance when it was taken over by JP Morgan Chase and then Lehman was denied such treatment? If Bear Stearns was too interconnected to fail, then why was Lehman not considered the same? Subsequent events since that fateful weekend in mid September have proved that, in fact, Lehman was so interconnected that its bankruptcy has frozen the entire world financial system, rendering credit markets dysfunctional and throwing equity markets in an unprecedented freefall.
Bush’s failings have cost the world dear. Governments in Europe, Oceania and the Middle East have been forced to practically nationalise their banking system and guarantee their retail deposits in a desperate attempt to regain stability following the US shock. This has been done as a crisis-averting measure rather than as a political credo, and governments hope to disengage at a profit for the taxpayer when markets regain normality. But that could be a long shot.
In the meantime, the US is taking lessons from Europe on how the crisis should be managed. After keeping the world on edge for a whole week until the $700 billion bail-out package was approved by Congress, this is having to be remodelled on the EU system of recapitalising the main banks and insuring inter-bank dealings rather than merely buying off troubled assets from the banking system. Clearly, the US initial approach would have presented unfairly small and disproportionate potential rewards for the taxpayer for the risk of bailing out the banks, and this without actually addressing the underlying problem of diluted bank capital structures.
There is one lesson in all of this. In this global world, national regulators are no longer in control of the financial systems they are supposed to regulate. Even the best regulators are exposed to shocks resulting from the failures of regulators in other major jurisdictions, which raises the question of whether a global world needs a global financial regulator and whether the IMF could be reinvented to perform such a role.
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