Thursday, 23 October 2008

News from the financial press Oct. 23

The depth and severity of the global crisis has prompted the U.S., with support from its Western European allies France and Britain, to call for a 20 nation summit to discuss the causes of the global crisis and forge a united response.
The call for the conference was made amid another day of highly volatile equity (stock market) prices and steep declines for the prices on commodity markets (especially oil and gold). The decline of equity and commodity markets is a result of the market's (meaning those people who invest in the markets) belief that a recession is unavoidable.
The dollar is still rising against global currencies. This should not be taken as an indication of U.S. strength and resilience but as a continuation of investor fears and the volatility of markets. Despite claims by many that this crisis signals an immanent decline of U.S. economic power, the dollar is still the international reserve currency (the currency that is accumulated by central banks) acting as a de facto universal currency.
It is significant that the "underlying causes of the financial crisis'' will be among the topics of the summit. To analyze the determining factors of the crisis is fundamentally different than simply trying to fix it. It is very difficult to imagine the world's industrialized nations coming to any conclusion more profound than a critique of deregulation. There will most likely be some discussion of trade imbalances as well, though I predict most of the discussion will revolve around questions of finance. As far as a new financial infrastructure is concerned, we can definitely count on new emboldened roles for the IMF and the World Bank. We can also look forward to some agreement on guideline or principles for financial regulations. This, of course, would be enforced by national governments and regulatory bodies.
The Wall Street Journal and the Financial Times are both predicting a growing role for the worlds rapidly developing nations in the new world financial order. This is significant. What is really impressive, however, is the fact that there is talk of a new financial order at all. More than anything else, the G20 conference (dubbed Bretton Woods ll) can be understood as the end of an epoch. Neoliberal capitalism, the ideology of the free and self-regulating market, is dead. Anti-globalization activists could not defeat it and neither could Hugo Chavez. The free market imploded under the weight of its own contradictions.*

* see

Fear of recession drove down the worlds major stock indices. Wall street was was the big victim with losses that brought the market to lows not seen in five years. The continued pessimism and risk aversion (unwillingness to engage in risky behavior with the potential of high payoffs) comes at a time when credit markets are loosening. The interbank overnight lending rate (usually called the Libor) has gone down for another day, thus making it easier for banks to meet obligations and helping to ensure the overall health of the banking system. (Note that the Libor is seen as an important indicator for the health of the banking system.) This good news in the banking system was expected to calm investors. However, fear of a recession in the real (non-financial) economy has prompted many would-be investors to steer clear of markets. This comes after the release of data showing very poor earnings for U.S. companies. U.S. companies are cutting jobs and cancelling investment plans.
News from the markets today is showing that the crisis, which first emerged in the financial sector, has spread to the real economy. This is happening faster than many analysts had expected. Given the speed at which the crisis is spreading, we can expect many preemptive job cuts. This is worrisome because a reduction in employment will have two fold (multiplier) effect: 1) an increase in the unemployment rate will reduce the bargaining power of labor and drive the wage down; i.e., you re willing to work for less if you feel that there is no alternative job that could pay better. 2) an increase in the unemployment rate leads to a reduction in the total wages paid out in the whole economy. This in turn leads to a reduction in the demand for goods and services in the economy therefore prompting more employment reductions. In its most basic form, this is the immediate process underway right now. Crises have self-perpetuating tendencies and are therefore very difficult to stop once the process has begun. Just how strong the counter-cyclical tendencies are is yet to be seen. The situation appears to be such that only massive intervention by the state could stop the blood-letting. We may see the government forced to tackle the problem in the role of "employer of last resort."

In related news, 478,000 workers filed for unemployment last week. This statistic is substantially lower than the total number of people who lost their jobs because it does not include people who have been employed for less than six months, part-time employees who lost their jobs, 'under-the-table' workers, illegal immigrants, or employees forced to register as independent contractors.

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