Troy Media – by Will Van’t Veld
There’s an old saying that goes: if an individual owes a banker a thousand dollars, it’s their problem; but if they owe a million, it’s the banker’s problem. Perhaps the saying should be updated to include the scenario where billions of loans are imprudently extended and it becomes the entire nation’s problem.
This week the University of Alberta School of Business hosted Kenora, Ontario-born William White, who was selected to give this year’s Princeton Developments Lecture in Finance. Dr. White has spent decades advising world financial regulators, having spent a considerable amount of time working in Basel, Switzerland with the Bank for International Settlements (the bank for central banks) and what he had to say about the current crisis engulfing the world was anything but optimistic.
How did the world get to this point? According to Dr. White, the destabilizing imbalances that we are currently challenged with weren’t detected earlier because the models relied upon by policy makers specifically excluded their possibility. Financial markets were treated rather indifferently, as by definition all debts and assets must balance, so the models simply assumed that this was done seamlessly by the financial sector.
While debt level risks were off the radar screen of many policy makers, other policies were implemented to overtly encourage the taking on of more debt. Dr. White highlighted the dramatic lowering of interest rates in the United States early in the new millennium. Not only did the reduction in interest rates encourage investors and consumers to take on debt, but it caused governments in developing countries to intervene in currency markets to maintain their export driven economies, flooding the world with even more cheap money.
Linkages between the financial sector and the real economy is now a hot topic of research and Dr. White estimates that it might take up to 10 years, from start to finish, for the economy to fully recover from the financial sector implosion. Unfortunately, Dr. White sees some of the current policies that are being pursued, with monetary and fiscal authorities around the world using debt to solve the debt problem, as being ineffective or worse, prolonging the recovery.
While the world’s attention is currently on Europe, Dr. White highlighted that the financial difficulties originating in China might be more worrying. China’s trade imbalance with the rest of the world has long been a known destabilizing risk, but lately the worry has shifted to the role that the country’s state-owned banks have played in helping finance the construction boom that was originally encouraged by the Chinese government to stimulate the economy in 2008. It’s now clear that much of the investment was misplaced and some of those loans will sour; we just don’t know to what extent yet.
Changes needed politically difficult
It’s not that Dr. White doesn’t see any way out of the debt fuelled quagmire, but that it would be difficult politically to implement the changes that might be necessary to do so. A couple ideas floated were: a deal that would see China allow its currency to float, allowing it to move towards a more consumption-oriented economy; an agreement to simply write off significant amounts of mortgage debt in the United States and sovereign debt in Europe; and instituting a consolidated fiscal arrangement for Europe.
Dr. White quotes the famous Canadian economist John K. Galbraith when explaining why he holds out little hope for a quick political resolution. It was Galbraith who said “politics is the art of choosing between the disastrous and the unpalatable.” In other words, nothing will get decided so long as the world’s economy isn’t teetering on the edge, looking into the abyss. Attacking the problems in this ad hoc fashion might just get us from crisis to crisis, meaning steady growth might be a ways off.
Will Van’t Veld is an economist with ATB Financial.
About the Author (Author Profile)
Markham began his journalism career writing columns in the mid-1980s for Western People Magazine, then reported for a small Saskatchewan daily. He has spent most of his career in media and communications, likes to dabble in politics, was actively involved in economic development for many years, thinks that what goes on in the community is just as important as what happens provincially and nationally, and has a soft spot for small business (big business, not so much). Markham is a bit of a contrarian and usually has a unique take on the events of the day.