When we look back on the period from 2008 to now, we will comment that it was a time when central bankers did too much and politicians did too little to get the economies started again.
The financial banking crisis of 2008, which lead into the sovereign debt crisis was a massive shock to the world economy. The days after Lehman Brothers collapsed could have easily changed the world we know on a permanent basis, were it not for the unprecedented coordinated intervention of Central Bankers around the world. Lehman Brothers, is by far the biggest US bankruptcy with over $691 billion in assets (that is almost twice the size of South Africa’s GDP at the time, measured on a nominal basis), more than ten times bigger than Enron’s bankruptcy. But what was worse was that Lehman Brothers was an integral part of the US financial system, and its collapse could easily have triggered a run on all financial institutions. At the time politicians neither understood the full implications of a bankruptcy, nor did they have the political will to act against the general anti-banks mood and try and save Lehman Brothers.
Banks didn’t trust each other anymore, reflected by the extraordinary spike in the overnight interbank lending rates. If the banks don’t trust their competitors anymore, and if the public doesn’t trust the banking system as a whole, the faith in the US Dollar (and other currencies) would have disappeared, and faith is all that keeps the value in currencies these days. Thanks to the unorthodox response from Ben Bernanke (Fed Chairman), the absolute loss in trust of the financial system has been avoided. The start of the “great recession” could not be avoided however.
To do their bid to restart the economies again, Central Bankers around the world (lead by the Fed) decreased their lending rates to all time low. They did this by buying their own countries bonds, driving those yields un-naturally low and in turn making cash a very expensive asset. Cash fund, most of which are located in the USA began the search for yield and found it in the emerging markets. In South Africa, for example, foreigners bought more bonds in 2010, than they did in the ten previous years out together (on a net basis). In 2011 they bought even more than in 2010, and in 2012 they bought almost as much as 2010 and 2011 put together, thereby financing our current account deficit (and keeping the Rand at very overvalued levels).
All this liquidity from the developed world central bankers didn’t kickstart the economy as they hoped. Companies are sitting on piles of cash, but are not expanding production even though they are operating at record high profit margins. Banks have returned to being profitable, but not by lending out money but by using the cheap finance available for them to buy bonds, thus making a cut of the yield differential. So why is the liquidity not deployed in more productive capital?
While the central bankers went out of their way to revive the economy, politicians did their best impose more rules and regulations and thereby red tape. The American act written in response to the great Depression in the 1930’s was 37 pages long. It set out the rules and regulations regarding the banking industry. It was not perfect, but it could be expected that every senior executive would have read it and thus acted within the rules and regulations. The new act, the Dodd-Frank act is 848 pages long, and it is not finished yet.
Similar overwhelming regulations are imposed all around the world. And while the politicians are at it, they have also tighten up on labor regulations, putting more onus on the employer and thus making it more risky to take on new recruits. Instead of opening up their boarders, politicians opted to increase barriers to international trade. In fact, politicians who were voted into office were more socialist and thus appeared to be anti-business. Take Frances Francois Hollande as an example. His agenda included extraordinary high taxes on the wealthy, supporting trade unions in their fight to force companies to stay open (and at the same time demand higher wages), increasing welfare support and reducing the retirement age. So why am I arguing that politicians did to little? Well, as it turns out the wealthy in France were preparing to leave (some did so rather quickly) and companies like Michelin and Goodyear had to close down some of their manufacturing plants. And mr Hollande recoded the lowest popularity rating of any French president. What most politicians seemed to have forgotten was that an economy can only grow if the private sector grows. Instead of making them as competitive as possible, and making the business environment as accommodative as possible, politicians went the opposite way, at least in most of the developed world, but also in places like South Africa.
The massive support of the Central Bankers however caused huge imbalances, and unwinding the support will cause un-intended consequences, which started last year May (when the Fed hinted at tapering off their asset purchasing programs, and the emerging currencies fell in a heap) and will not end for any time soon.