WARNING: THIS BLOG ENTRY WILL NOT CHEER YOU UP [sorry]
I spent the morning with a group of futurists debating the long-term outlook for financial markets and am never sure about the usefulness of such debates, although there is definitely something of use in creating scenario plans for the future which is where we were focused.
The key question I kept asking myself during the conversation is: when will the next financial crisis take place, what will cause it and is it predictable?
To answer the first part of that question, we only need to look back in history.
If we take the first financial crisis as the fall of the Roman Empire then it was about 1,000 years until the second financial crisis occurred, with the collapse of the Medici banks of Renaissance Italy. Four centuries later, the South Sea Bubble and Great Tulip Collapse took place. 250 years after that, we hit the Great Depression; and 80 years after that we imploded in the Subprime Crisis and Global Credit Crunch.
Sure there were plenty of hiccoughs along the way – LTCM, Asia, Russia and Latin American implosions in the late 1990s for example – but global crashes have been notable. Loosely speaking, global crisis are now occuring twice as fast as the previous ones:
- 1,000 years – the Roman Empire to the Medicis
- 400 years – the Medicis to the South Sea Bubble
- 250 years – the South Sea Bubble to the Great Depression
- 80 years – the Great Depression to the Subprime Crisis
On that basis, you could bet on the next crisis being anything between thirty and fifty years from now.
2040 to 2060.
So what would cause the next financial crisis? After all, we’re only just trying to get through this one. Surely we can regulate to avoid another one?
Here’s a view you could take of the factors that contribute to the next financial collapse. I should say that it doesn’t make for fun reading, but the logic could have some grain of accuracy.
Banks globally are heavily regulated, taxed and governed to avoid another subprime crisis. The focus is on derivatives, liquidity, capital and governance.
The European Union struggles through a fragile and fallow period of financial and political instability with Portugal, Italy, Greece and Spain managing to just about maintain Eurozone requirements. Unfortunately, it is at the expense of citizens and governments in many of these nations. In fact, the cuts and tight budgets in these Southern member states creates a major movement of economic migrants from Southern Europe into Northern Europe, with the associated tensions and fissures appearing between Northern Europe and Southern Europe as a result.
The outcome is that Europe never quite achieves the competitive economic zone it dreamed of becoming.
China opens its markets to full financial servicing, with a rocking stock exchange in Shanghai that becomes the world’s second major investment banking city by volume and value by 2020, just behind New York This is combined with a revaluation of the Remnimbi (RMB) that satisfies their critics but worries some, particularly the USA, as the Chinese currency is looked towards by the investment community as a possible alternative reserve currency.
Rather than creating a reserve currency for the world, the investment community creates a basket of currencies to avoid too much exposure to risk in one economy – after all, they don’t want a repeat of the 2008 crisis. The basket includes Euro, RMB and Dollar, along with Gold and other commodities. Nevertheless, the decision to place a weighting towards RMB rather than the Dollar creates issues for the USA, which has spent most of the 2010s in stagnation.
The Middle East enters a major crisis, as oil becomes less needed as a commodity due to the rise of alternative energy sources and conversion of many motorised vehicles to electricity. Iran and Israel go to War and there is a huge effort by the United Nations to bring stability to the region. Eventually, Sovereign Wealth from the GCC outflows towards new and rising economies, such as Africa, and tensions continue to rage across the region on an ongoing basis.
Africa’s economy is raging onwards and upwards. Like the BRICs of the 2000s, Goldman Sachs creates a new investment portfolio known as CAGES – Congo, Angola, Guinea, Ethiopia and Sudan – where natural resources of platinum, cobolt, gold, diamonds, manganese, uranium, chromium and tantalite are abundant. Johannesburg is rising fast as one of the largest world financial centres.
China is now the largest trading partner and region with Africa, thank to their investments at the turn of the century. America finds this to be particularly challenging, as their view of Africa had been one of occupation and charity, rather than investment and growth, during this period.
But China doesn’t care too much, as China has now become the world’s largest economy.
American and European investment firms decide to make RMB the reserve currency of the world, and drop the concept of the basket of currencies.
The quiet rise of India as the world’s second largest economy had largely gone unnoticed but, in 2032, for the first time China’s economy had less than 3% growth. This was put down to the lack of skills in the country where skills were needed, and is a reflection of the aging population in China and lack of new blood. China’s one-child policy of the previous century, and a distinct lack of female population for the overly male populated society that resulted, means that 2 in every 5 citizens has reached or is near retirement age. This, combined with strict immigration controls, places a strain on continued growth and industry.
India’s continually booming economy has created frictions between their Chinese border rivals, and a Cold War commences between the two nations. Like the Cold War of the previous century, no arms are traded or battles take place, but the economic controls freeze out much of China from India’s trading partners and vice versa. The result is an economic climate where India’s investment community trade with India and China’s with China.
There are ripples through the Shanghai and Mumbai stock exchanges as a result.
India continues to see success as a stable and harmonised country. China appears to be becoming more unstable as the government struggles to maintain investment and trading, and avoid the inflationary pressures created by their exposure to investments in Africa for future commodities that can no longer be utilised.
The economy fails to achieve growth rates above 1% for three quarters, and the government determines that the Remnimbi needs devaluation. This angers the USA and Europe, who have major investments in Chinese land and other illiquid stocks, along with major reserves of Chinese currency.
The decisions taken by the Chinese government force them to look towards India and Africa.
The outflow of investment by American and European investment houses from China results in aggressive currency arbitrage between the Chinese RMB and the Indian Rupee, with the latter winning as the RMB’s reserve currency status ends.
The resultant big time betting against the continued stability of China causes the Cold War between India and China to spill over into skirmishes.
The world sees a period of major instability ensue and the China Crisis is put down to currency speculation amongst the world’s capital markets created by complex foreign exchange instruments intertwined between the major economies.
Nothing to do with housing this time.
Jeez, that was a depressing vision and I told you this conversation wouldn't cheer you up.
Thank goodness it’s just fiction.
However, if you like this sort of future conjecture and dialogue, you are welcome to join us for two more optimistic discussions (hopefully) at the FSClub in June:
Monday, 07 June 2010
The Long Now of Finance
A panel discussion with Professor Michael Mainelli and guests
This evening is dedicated to a panel discussion focusing upon: "The Long Now of Finance – a Framework for the next 10,000 years".
Many financiers and academics are beginning to focus upon how to invest in long-term projects that secure the planet for our children and grand children and great grandchildren. Short-term thinking is killing the planet. So how do we think long term: the Long Now, and how do we fund it: Long Finance?
Long Finance is an initiative begun in 2007 by Z/Yen Group in conjunction with Gresham College, to establish a World Centre of thinking on Long-Term Finance. The initiative began with a conundrum – “when would we know our financial system is working?” and has worked on a variety of projects, including the signature program focused upon an Eternal Currency.
This debate will be chaired by Professor Michael Mainelli, a cofounder of Long Finance and Executive Chairman, Z/Yen Group.
Monday, 14 June 2010
The Future of Banking, a discussion with Professor Ray Barrell, Professor David De-Meza and Professor Donald MacKenzie of the Economic and Social Research Council, chaired by Brian Caplen, editor of the Banker Magazine.
The Economic and Social Research Council (ESRC) is the UK's leading agency for research funding and training in economic and social sciences.
Established in 1965 as the Social Science Research Council, under a Royal Charter, the ESRC covers a wide range of disciplines, ranging from anthropology to statistics with a budget that has grown from £73 million in 2001-02 to £204 million in 2009-10. Financial services are a key sector for the Council's business engagement strategy. The ESRC is partnering with the Technology Strategy Board on the new Financial Services Knowledge Transfer Network.
This evening the ESRC has kindly agreed to host a discussion focused upon the Future of Banking featuring three very distinguished scholars.
Professor David De-Meza is with the London School of Economics and has published many papers on banks policies in a wide range of journals. He is the on the Council of the Royal Economic Society and the Institute of Economic Affairs; Associate Editor of the Journal of Industrial Economics and Joint Managing Editor of the Economic Journal.
Professor Donald MacKenzie is a Professor of Sociology at the University of Edinburgh, with work that has constituted a crucial contribution to the field of Social Studies of Finance. He has also undertaken widely-cited work on the history of statistics, eugenics, nuclear weapons, computing and finance, and was awarded the Chancellor's Award from HRH Prince Philip, Duke of Edinburgh and Chancellor of the University of Edinburgh, in August 2006 for his contributions to the field of Science and Technology Studies.
Professor Ray Barrell is a visiting professor at Brunel University, Director of Macroeconomic research and Forecasting for the UK and World Economies, and Senior Research Fellow at the National Institute of Economic and Social Research. Previously, he has been a visiting Professor of Economics, Imperial College, London from 1996 to 2004, and was a part-time professor at the European University Institute, Florence, 1998-1999. He is on the editorial boards of Economic Modelling and was on the board of the Journal of Common Market Studies until 2007.