Crisis: One Central Bank Governor & the Global Financial Collapse

If the newly elected majority in Rome tries to break out of these iron cages, we know what the sequence of events will be from the example of Greece: The European Central Bank would have to step in and confront a rebel government with nothing to negotiate but complete surrender or expulsion from the single currency.

In the meantime, financial instability will shake banks and markets all over the world and test the extent to which governments and central bankers can resort once more to extraordinary measures of financial containment. The likelihood of Italian politics triggering the next global financial collapse indicates that after a decades-long era of financialization, we are veering back towards a time of politics. The spectacular rise of China and overall dynamism of the Asian region created the widespread perception that Western capitalism is stagnant and moribund, unlike Asian capitalism which will show rapid growth and create a new geo-economic balance.

Developments in the wake of the global financial crisis appeared to confirm this: But the optimistic view of the newly emerging growth pole in the East missed the evidence that the greater dynamism of Asia was mostly due to a tiny set of countries: And Chinese exceptionalism has been just that — exceptional, based on an astute use of unorthodox economic policies by a heavily centralized and controlling state. More to the point, since the global crisis, the recovery and expansion in almost all the major economies of Asia has been heavily based on debt.

Even in China, debt-to-GDP ratios have more than doubled since before the crisis, and in many other Asian economies certain forms of debt — especially in housing and personal finance — have reached alarming proportions. In Asia — perhaps even more than in the Global North — the strategy of inducing recovery through lending private money has increased fragilities that could generate another crisis in the future.

This has become a drag on bank lending and on private investment, leading to absolute reductions in investment over the past few years. Meanwhile, Asian economies are even more beholden to the unpredictable movements of global stock markets. In the run-up to the global crisis, the flow of liquidity primed both advanced economies and, mainly Asian, emerging markets. Several emerging markets in Asia became the targets of betting on currency values, as speculative investors moved in, backed with cheap capital.

As a result, markets in South Korea, India and Thailand have been febrile and volatile, vulnerable to violent swings. In such conditions, the slightest piece of negative news can lead to investors quickly taking their money out of these markets, triggering steep currency depreciation and internal financial problems. Apple, Microsoft, Amazon, Alphabet and Facebook have crept up on us over the past few decades from mythologically humble dorm-room beginnings to becoming structurally embedded in the global economy.

Like the financial industry, these high-tech companies are now of vital importance to the system. But the other side of Silicon Valley is venture capital. Overstuffed venture capital funds, searching for the next billion dollar opportunity, are investing in any team with a half-decent pitch and the right connections. US investment recently hit its highest level since the dotcom era. This entrepreneurial hubris overlooks the role of larger economic trends. At the moment, technology seems like a good bet and investors are jumping on anything remotely tech-related in the hope that it will eventually provide a return.

I would categorize the threats to Silicon Valley into three main areas: Right now, the strongest avenue for consumer backlash involves privacy concerns. This could result in consumer boycotts or regulators intervening. Still, consumer action is inherently limited in power, especially as some platforms approach too-big-to-fail status. Mismanagement — unethical behaviour, or merely investing in a bad idea — is rife in Silicon Valley. And the list of once-glorified tech start-ups that have recently failed is virtually endless. If this trend continues, there could be reverberations throughout the economy, given that venture capital typically comes from pooled sources such as pensions and university endowments.

Lastly, the possibility of worker organization in the industry is starting to threaten business models. Companies like Amazon, Deliveroo, and Uber maintain low consumer costs through exploiting underpaid, overworked and precarious workers. But these workers are starting to strike back through direct action and legal challenges. Silicon Valley will not magically solve the problem of overaccumulation. Since , the major capitalist economies have been locked in what we could call a Long Depression, characterized by weak economic growth a slower recovery from a slump than even in the Great Depression of the s , weak investment rates and low profitability for big business.

The mainstream economics view is that free trade is good for all. And yet the historical evidence contradicts this. Then globalization appears attractive. But if profitability starts to fall consistently, as is happening now thanks to the Long Depression, then free trade loses its glamour — especially for the weaker capitalist economies as the profit cake starts to shrink for them. A trade war would lower export sales for most countries and drive up prices of imports for households and companies.

Thank you!

As a result, economic growth would slow, along with employment and investment. Real incomes would fall for the very people Trump claims his protectionism would benefit. If this happens — just at a time that the US Federal Reserve is thinking about raising the cost of borrowing to control budding inflation — it could be the final ingredient in a recipe for new economic recession, at a time when most countries are just recovering, 10 years after the last one.

Michael Roberts works as an economist in the City of London. His latest book is Marx Lulu and he blogs at thenextrecession. Debt crises are an ever-present risk for developing countries. In the case of sub-Saharan Africa, the post-independence build-up of debt to official creditors — be they governments, the World Bank or the IMF — led to a debt crisis in the s and s.

This was only alleviated due to a combination of debt relief — under the Highly Indebted Poor Countries Initiative, with conditions that the recipients adopt free-market policies — and the resumption of growth in the s. The latter was primarily due to a commodities boom, bolstered by robust global economic growth. But the spectre of a debt crisis once again haunts sub-Saharan Africa. The total value of outstanding debt in the region has almost doubled between and , to more than billion dollars, of which more than a fifth is to private lenders.

The continued accumulation of debt at the current pace, especially if accompanied by low commodity prices and higher global interest rates, may eventually cause some countries to be unable to repay their debts. Damningly, the world has failed, despite recurrent international debt crises, to establish either principles for creditors that would diminish the accumulation of unsustainable debts, or a debt resolution mechanism that could deal with such crises effectively when they arise.

Although this may reduce future risks, it cannot substitute for a set of background principles governing the accumulation of sovereign debt, and, in the event of crisis, bringing about its orderly restructuring including write-offs. Such principles should protect the most essential forms of government spending — those relevant to protecting vulnerable populations — and require a sharing of risks between debtors and creditors, much as domestic bankruptcy law ensures.

There has been considerable discussion, within academic circles and international agencies, about the logical and practical basis for such principles. It is time to codify and implement them. Otherwise, in the event of a global economic downturn or other events causing debts to become unsustainable, development both in Africa and globally will be severely challenged.

When asked recently about the most significant future threat to the international financial system, Mark Carney, Governor of the Bank of England, replied: A bank is an institution that lends money and which uses deposits, guaranteed by central government, to finance that lending.

Shadow banks, in contrast, lend money without taking deposits that are guaranteed by the state; examples include hedge funds, pension funds and private equity. So if a shadow bank defaults, its investors have to bear all the risk, whereas if a bank defaults, the government will step in to save depositors. Many of the complex instruments that caused the financial crisis — from asset-backed securities to CDOs — were concentrated in the shadow banking sector.

When the value of these assets collapsed in , the shadow banking system — concentrated in the Global North — collapsed with them. Sine then, however, the fortunes of the shadow banking system have turned. The Financial Stability Board has shown that the share of financial assets held by non-deposit taking institutions reached almost 50 per cent in Shadow banks can provide credit with fewer restrictions and there are concerns that many shadow banks are relaxing their underwriting standards, particularly when it comes to refinancing existing debt. It is true that the regulatory environment has moved on since the financial crisis.

Ambitious proposals have been put forward for the regulation of both banks and shadow banks — from breaking up commercial and investment banking to taxing financial transactions. Some of this has been implemented. But as the dust has settled, much of it has been forgotten. In fact, just as before the financial crisis, some fairly tough regulation has been imposed on banks while the shadow banking system has been left almost entirely untouched. There is no shortage of potential solutions — from extending capital requirements to shadow banks, to regulating their relationships with traditional banks, to limiting the amount they can borrow.

But unless democratic governments are able to tame the power of financial systems, financial institutions — shadow and traditional — will undermine their best attempts to bring the sector under control. It is not legal tender like ordinary money, and it is not a legal contract as a normal financial instrument would be. The US dollar price of these tokens has skyrocketed over the years and many observers see Bitcoin as a speculative frenzy. Bitcoin is particularly susceptible to wild swings because it is not anchored into any real-world economy.

Financial instruments like shares or mortgage-backed securities can go through prolonged speculative bubbles, but they eventually have to crash when people realize the prices do not match the underlying reality that the instrument references. Would a crash in the price of Bitcoin pose a threat to financial stability? The market value of all Bitcoin tokens is only a sixth of the value of a single major US company.

So, while individual people will lose their money if it crashes, it is unlikely to bring whole economies down. Indeed, while many regulators are concerned by various issues that cryptocurrency poses — from its use within dark markets, to consumer protection — they are not in general concerned that it poses a systemic threat to financial stability. In other words, they have bigger fish to fry.

Cryptocurrency could be a useful alternative to our bank-controlled payment systems; groups like Wikileaks have used it to circumvent attempts by payments corporations to choke off their donations. On the other hand, cryptocurrency is seeing a big uptake by far-right neo-fascist users, and many are concerned about the massive energy consumption of the Bitcoin mining system. Behind the scenes, the Bitcoin developer community is in the midst of a civil war.

They believe that, in the context of another crisis, there could be a mass flight to cryptocurrency. This seems like wishful thinking. Gold is in extremely constrained supply and only the wealthiest really have access to it. Hacking the Future of Money Pluto. Where might the next crisis come from? There are several possibilities. In truth, though, speculating about the precise cause might not be productive. He shows that for 63 countries between and the average forecast made in the April before a recession year a year in which real GDP fell was for growth of three per cent.

Crises occur when the values of assets fall unexpectedly — be they share prices, bond prices, the value of bank loans or factories, credit derivatives or whatever. Such falls are always possible for a reason pointed out by Keynes in This means asset prices are prone to fall — sometimes sharply — as expectations or sentiment change.

But the very same lack of knowledge of the future, which causes asset prices to be so fragile, also means that people are unable to predict such falls. Because this lack is an inherent feature of the human condition, crises are inevitable. Instead, of asking when or why the next crisis will happen, we should ask: In the early s share prices fell sharply. And yet the early s saw only a mild recession while the losses triggered the worst recession since the s.

Instead of just trying to predict and prevent crises, policymakers should also ensure that economies can cope with them when they happen. This requires strong welfare states, a financial system that ensures that good projects can acquire financing even in bad times, and a willingness and ability of policymakers to take strong counter-cyclical policy actions via expansionary government spending, tax and interest rate policies. Rather than engage in futurology, we should ask whether such institutions are in place now. I fear the answer is: Chris Dillow is economics editor at Investors Chronicle.

He blogs at Stumbling and Mumbling. I will return to the issue of price stability towards the end of my remarks. Beyond these considerations, other aspects of the international consensus framework merit some careful re-evaluation.

The next financial crisis

In particular, I will take this opportunity to share my thoughts on two salient features of the monetary policy paradigm as described in a number of pre-crisis studies [ 1 ]. This sense of security was highly consequential.

Some observers thought that monetary policy had a greater freedom to turn to other purposes, notably short-term demand management. Simplifying, one can express the inflation targeting policy advice in two main precepts.

First, look at inflation and output gap forecasts as summary statistics of the state of the economy. Second, fine-tune the policy instrument so that inflation forecasts — whatever the nature of the shocks that might have caused them — are stabilised, and output volatility is minimised, at a pre-set horizon through a given interest rate path.

It is easy to conceive of economic conditions in which these prescriptions induce destabilising action on the side of monetary policy. Indeed, limiting the information set to inflation and output gap forecasts can be highly misleading. One reason for this has been known for a long time: An imperfectly understood concept which — in addition — is statistically very imprecisely measured is not a reliable indicator for guiding policy.

Paradoxically, with its focus on the output gap, pre-crisis consensus macroeconomics ran full circle back to the intellectual climate of the s, the same climate that had favoured the Great Inflation. The second distinctive feature of the pre-crisis monetary policy paradigm stemmed from a complete under-appreciation of the role of money and credit indicators in the conduct of monetary policy.

The crisis has shown that liquidity and various definitions of money are critical links in the transmission mechanism. But disregard for monetary and financial phenomena had another implication. It found a clear counterpart and theoretical underpinning in the risk management approach to asset price trends.

I do not need to underline how this approach can turn into a formidable multiplier of market turbulence. In summary, there was an inherent contradiction in some of the salient features of the pre-crisis monetary policy paradigm. Yet activism did not apply to financial risks except in an entirely ex post fashion: The central bank response to the crisis, by any metric, has been unprecedented.

As the tensions morphed into a large-scale crisis of confidence in October , the ECB responded with a mix of standard and non-standard monetary policy actions to foster financing conditions and enhance its credit support to the euro area economy, all with a view to maintaining price stability. This was done in reaction to the weak economic environment and the associated change in the inflation outlook. The non-standard measures included granting banks unlimited access to central bank liquidity against an extended range of collateral with the possibility for banks to borrow liquidity at a broader spectrum of maturities, of up to 12 months.

The ECB also intervened directly in some market segments that were dysfunctional, namely the covered bonds market. This was deemed important for the long-term financing of banks. In May the financial crisis took a different direction; markets started to question the sustainability of public finances in parts of the euro area. In response, the ECB intervened in some debt securities markets, in order to prevent large and important segments of the securitised credit market seizing up and obstructing monetary policy transmission.

These interventions have been limited in size, and their impact on liquidity creation has been fully sterilised. Overall, the non-standard measures have been adopted with a view to ensuring the transmission of low policy rates to the euro area economy. They have been tailored to the specific financial structure of the euro area economy, whose financing to a large extent relies on banks. In this regard, the approach chosen by the ECB and the Eurosystem differs from that of other major central banks which embarked on large-scale unconventional measures to replace, rather than complement, standard actions, after those standard actions — changes in the policy interest rate — had reached their lower limit.

Non-standard monetary policy measures are an extraordinary response to exceptional circumstances.

They are, by construction, temporary in nature. Looking ahead, a return to a more normal liquidity management and to a more moderate scale of central bank intermediation is warranted to avoid distortions in financial incentives with longer-term adverse consequences for the economy. The ECB started in fact to phase out a number of non-standard measures back in late The maintenance of price stability over the medium term guides all monetary policy decisions.

In this respect, the macroeconomic and financial landscape has fundamentally changed and the monetary policy stance has become more accommodative than at the peak of the crisis.

As with the phasing-in of non-standard measures, there are no pre-defined steps between phasing them out and exiting from very low policy interest rates. Non-standard measures can in fact co-exist with any interest rate level. The ECB will adjust its policy interest rates and its provision of liquidity at a pace and to a degree commensurate with the evolution of risks to price stability and as appropriate to maintain an orderly and functional monetary policy transmission.

In line with these principles, the ECB equipped itself with a broad operational framework from the outset, including the eligibility of a large number of counterparties and a wide set of collateral in refinancing operations. At the same time, the post-crisis operational framework also needs to be designed in a way that contributes to shaping a healthy banking sector, even if proper incentives should essentially come from sound regulation and supervision.

On this subject, I would like to make a number of points. I firmly believe that price stability is the best contribution that monetary authorities can make to overall economic welfare. If anything, the crisis has reaffirmed the importance of having a clearly defined objective for price stability, not least by contributing to the anchoring of expectations during periods of turbulence, when otherwise the private sector would become disoriented.

Central bank independence under a specific mandate together with transparent communication policies will continue to be instrumental in the pursuit of price stability by monetary authorities. Greater medium-term orientation in monetary policy frameworks would have made the events which followed less severe. Monetary data are critical as indicators of risks that are slow to appear elsewhere, for example, in inflation forecasts or in measures of output gaps.

Monetary analysis at the ECB has consistently sent early signals that risk was broadly under-priced, when inflation was quiescent and measures of slack were moderate. Coupled with the inescapable fact that inflation is a monetary phenomenon in the long term, this is a powerful reason to redress the under-appreciation of monetary and credit variables in policy frameworks characteristic of the policy paradigm in the run-up to the crisis. The crisis has shown that central banks have powerful instruments at their disposal to effectively respond to extraordinary situations without compromising their ultimate objective.

However, this does not mean that monetary policy is liable to be subordinated to financial stability concerns.