'I made a mistake' admits Greenspan

Financial Times reports Greenspan as having made the following comment during hearings at Capitol Hill: "I made a mistake in presuming that the self-interest of organisations, specifically banks and others, was such that they were best capable of protecting their own shareholders".

Greenspan is viewed by many as an oracle-type personality, but I have had misgivings against him (against the Fed (of which he was chairman), to be precise) for the following reason:
During the 18 year period when Greenspan was at the helm, whenever a crisis arose, the Fed came to rescue by significantly lowering the Fed Funds rate, often resulting in a negative real yield. The Fed did so after the 1987 stock market crash, the LTCM debacle, and the Nasdaq bubble burst. The Fed's pattern of providing ample liquidity resulted in the investor perception of put protection on asset prices. The result - every time the Fed put was in action, the bubbles just shifted from one asset class to another and kept becoming bigger. I had warned that the Fed's action of cutting interest rates in 2007 would not solve the issue, but would just postpone it and in the process create additional bubbles. I was right - Fed's action did create a bubble in commodities and emerging market equities. These bubbles have burst now, creating havoc in the process.

Coming back to Greenspan, I am happy that he has now admitted that unbridled deregulation is bad for the markets. I agree that capitalism is good - it is indeed our best hope to create equitable and sustainable development and prosperity. However, capitalism needs to have conscience. Recent event prove that markets are incapable of self regulation.

Many people believe that it is not the job of the central bank to identify and deflate asset bubbles – I beg to differ. When asset bubbles get created and finally burst, they cause heavy damage to sections of the populace which had no role to play in creating the bubble. The recent financial meltdown shows very clearly that it is not just the speculators who get affected – crises do have an effect on the economy, on jobs, and on the livelihood of poor families.

Some people do argue that central banks do have very limited tools. The plight of the Reserve Bank of India (RBI) in managing the relentless capital inflows into the Indian equity and real estate markets last year is a case in point. The RBI had to soak up USD from the market, releasing Indian currency. This increased liquidity in the system and also pushed inflation upwards. To flight inflation, RBI had to increase benchmark interest rates – the increase in interest rates increased the interest rate differential and led to even higher dollar inflows. It was a vicious cycle.

The world has become so complex that unless there is coordinated action from most of the central banks, it will be difficult to craft an effective response. Many people think China should let its currency appreciate faster. Try telling that to Chinese authorities who need to ensure 10% GDP growth to keep the political system stable!

Funny metaphors

The following are some funny metaphors that people use to describe the beaten down markets and the never-ending volatility

1. This is a dead cat bounce
2. The stock markets took of like a rocket and then nosedived like a failed rocket
3. We all learnt in school what goes up must come down

This is my favorite: “The train has left the station. There is no point in getting off now”

Emerging market OR Submerging market? Ask FIIs

There is a tendency among Indian investors to portray FIIs as villains. There is a general belief that FIIs benefited when Indian stock markets scaled new peaks last year and when the markets started falling, FIIs made a timely exit - leaving the Indian retail investors high and dry. I have been wondering how true it is and now I have the answer.

The Economic Times, the most widely read Indian business daily, carried an interesting article:

“Foreign institutional investors (FIIs) have played a major role in pushing up the index and pulling it down, hurting themselves in the process.

During the ride of the sensex from 10,082 points on February 7, 2006 to 20,582 points on January 10, 2008, FIIs had made a net purchase worth Rs 1,00,951 crore (close to 22 billion USD). During this period, the FIIs provided the required liquidity and the cues for others to follow.

FIIs' net off-loading was to the tune of Rs 47,299 crore (close to 11 billion USD), dragging down the sensex from 20,582 points to 9,975 points”

This clearly shows that FIIs could not make a clean and complete exit and have, along with Indian investors, burnt their fingers getting carried away by the euphoria caused by the Fed’s slashing of benchmark rate in September 2007.

Where is the global economy headed?

Where is the global economy headed? People will kill to get a definitive answer to that question.

There is so much panic, skepticism, and fear among not just investors but also laymen who are wondering whether they will get to keep their jobs, be able to feed their families and pay their mortgage. The scenario is so anti to how it has been over the last few years when words like optimism, confidence and euphoria defined the mood.

Not everyone has realized yet that the turmoil in credit markets will affect the real economy. The freeze in credit markets is bound to have a ripple effect on economic activity. People must be naïve if they think the credit crisis would affect only the financial markets. The crisis would push CEOs make preserving cash the objective, rather than chasing growth. Jeffrey Immelt, the Chairman & CEO of GE recently commented (not quoting him verbatim here) "for every dollar of economic activity, there is 10 dollars of financing involved in the entire supply chain. So if credit market freezes, economic output is bound to be affected."

Now back to the question - Where is the global economy headed?
A recent Reuters poll of economists showed that “the global economy will likely shudder to recessionary levels in 2009 as developed nations' woes damage emerging countries' economic prospects”. The IMF has also projected sharply lower growth for 2009. My take is that we should consider ourselves lucky if we can escape a deep and prolonged recession.

One bright spot in the economy right now is the fall in commodity prices. Oil prices have fallen 50% from the peak and prices of industrial commodities have crashed as well. Oil prices are likely to remain soft if OPEC does not become too greedy. Lower commodity prices will ease the pain many economies are facing.

Manic Markets

I stumbled on a very good cartoon image that captures what is happening in the markets right now.




source: unknown