Lurching from crisis to crisis
published: Thursday | February 21, 2008
John Rapley
LONDON, England:
You know global warming must be a reality when you get several days of gloriously sunny weather in London in the middle of February. What happened to the once reliable sogginess of this time of year? If there was one other certainty in life to add to Benjamin Franklin's death and taxes, it was the miserable English winter.
But these are unusual times. The British government finds itself embroiled in the bailout of Northern Rock, one of the most dramatic victims of the credit crisis that began sweeping global financial markets last summer. Prime Minister Gordon Brown had staked his political reputation largely on his years as Chancellor of the Exchequer - Britain's finance minister - in Tony Blair's government. Having bumped Mr. Blair out of his office in time to oversee the first British bank-run in a century, Mr. Brown is now scrambling to defend his economic stewardship. The government take-over of Northern Rock, announced on Monday, does not make him look good.
The property bubble
However, the causes of the Northern Rock collapse lay outside Britain. Like so many banks in the developed world, Northern Rock found itself exposed to the deflating property bubble, which depressed the values of assets on which it had staked its loans. But rather than being contained to mortgage institutions, the complex networks of securities lenders had evolved to spread risk meant that the contagion spread like water in a maze. Soon, the entire financial system was threatened. To try and stanch the flow of panic, the government bailed out Northern Rock. Meanwhile, central banks began pumping cheap money into the banking system.
It was like fingers in dykes, though. Analysts now spend much of their time predicting where the next crisis will hit. Much as the British government had to do with Northern Rock, governments will continue to play catch-up as they put out brush-fire after brush-fire. In the credit markets, analysts are looking for possible crises in hitherto obscure corners of the market, like bond-insurers and municipal bonds. The headline figures suggest that the worst is past, and that interest rates in the developed economies have returned to normal. But in many corners of the market, credit is almost unavailable, heralding difficult days ahead.
Meanwhile, aggressive rate-cutting by central banks may have restored some liquidity to world markets, and postponed crashes. But these gains haven't come for free. Money that once chased property and stocks in the rich countries is now inflating other bubbles. Commodity prices are at record highs, and show no signs of coming down. This shows up for all of us as we fill our gas tanks or buy bread.
The unrestrained Chinese boom is exacerbating things. Surging demand for meat products has driven up grain prices. Sky-high oil prices, meanwhile, have caused farmers - especially in the US - to switch from wheat to corn production, to feed the growing ethanol industry. This has further worsened global food supply constraints.
Cheap money
With the world's central banks pumping cheap money into the economy, and the governments of industrial countries doing all they can to stave off recessions, demand will continue to pressure supply. Prices will continue rising. Speculative bubbles are likely to keep inflating. Crisis-management will become a feature of life.
Until world demand begins to get back into equilibrium with world supply - whether it be of credit or corn - this volatility is here to stay. But the risk is that in their constant efforts to prevent brush-fires becoming forest-fires, governments may eventually run out of water.
Gordon Brown no doubt looks back fondly on the relatively dull years of his finance ministry.
John Rapley is president of the Caribbean Policy Research Institute (CaPRI), an independent think tank affiliated to the UWI, Mona.
