If we are to understand where we are, we must understand where we have
been. This is particularly true if we are to escape from the huge
fiscal deficits being run by many governments. These deficits are not
the result of government stupidity; they are mainly a consequence of –
and response to – private behaviour. We must not ignore this connection. Continue reading "Private behaviour will shape our path to fiscal stability"

How did the world economy fall into such a deep hole? It is recovering, but painfully, and after a deep recession, despite unprecedented monetary and fiscal easing. Moreover, how likely is it that a balanced world economy will emerge from this force-feeding? The very fact that such drastic action has been necessary is terrifying. The fact that there is little room for a policy encore is yet more terrifying. Most terrifying of all is that this is not the first time in recent decades the world economy has had to be guided through a post-bubble collapse.

In his latest book – a successor to Valuing Wall Street, which appeared in time to help alert readers avoid the 2000 meltdown – Andrew Smithers of London-based Smithers & Co, provides an invaluable guide to past errors of analysis and policy.* He is a rare guide – a man with a deep understanding of economics and a lifetime’s experience of financial markets. His work helps to explain the stock-market bubble of the 1990s, the fiscal errors of Gordon Brown and the recent credit excess.

The big points of the book are four: first, asset markets are only “imperfectly efficient”; second, it is possible to value markets; third, huge positive deviations from fair value – bubbles – are economically devastating, particularly if associated with credit surges and underpricing of liquidity; and, finally, central banks should try to prick such bubbles. “We must be prepared to consider the possibility that periodic mild recessions are a necessary price for avoiding major ones.” I have been unwilling to accept this view. That is no longer true.

The remainder of this article can be read here. Please post comments below.

About a month ago, I visited the aero engine factory of Rolls-Royce, in Derby. I was hugely impressed. Making jet engines able to work at extreme temperatures is an extraordinary achievement. Why does the financial industry not work this way? How might we bring the performance of finance close to that of other sophisticated businesses?

Continue reading "Why curbing finance is hard to do"

A year ago, at the height of the financial panic, the world yearned for a profitable and confident financial sector. It now has what it wants, but hates it. As joblessness soars and the hopes of hundreds of millions of people are blighted, the financial sector’s survivors are thriving. Even bonuses are back. Policymakers have made a Faustian bargain. Success feels like failure. Continue reading "How to manage the gigantic financial cuckoo in our nest"

It is the season of dollar panic. These panic-mongers are varied: gold bugs, fiscal hawks and many others agree that the dollar, the dominant currency since the first world war, is on its death bed. Hyperinflationary collapse is in store. Does this make sense? No. All the same, the dollar-based global monetary system is defective. It would be good to start building alternative arrangements.

Continue reading "The rumours of the dollar’s death are much exaggerated"

“Our country is facing the largest budget deficit in our modern history.” Thus did George Osborne, shadow chancellor of the exchequer in the Conservative party, start his speech at the party conference this week. He was right. The questions are what to do, how and when.

Continue reading "Britain’s phoney debate on slashing spending"

A year ago, the world economy fell into a deep recession. Now, happily, we see financial stabilisation and economic recovery. But we must not declare victory. The world could still make two mistakes: first, we might withdraw stimulus too soon; second, we might lose the opportunity for reform. We must avoid both dangers. That is the lesson I learnt at the annual meetings of the International Monetary Fund and World Bank in Istanbul. So where are we and where do we need to go? Think of this in terms of five ‘r’s: rescue; recovery; rebalancing; regulation; and reform.

Continue reading "Finding a route to recovery and reform gets tough now"

The four most dangerous words in finance are “this time is different”. Thanks to this masterpiece by Carmen Reinhart of the university of Maryland and Kenneth Rogoff of Harvard, no one can doubt this again.

As the authors note, “If there is one common theme to the vast range of crises we consider in this book, it is that excessive debt accumulation, whether it be by government, banks, corporations or consumers, often poses greater systemic risks than it seems [to do] during a boom”. Continue reading "This time will never be different"