Nothing quite like the current economic crisis has happened before, with financial systems the world over all failing in tandem. But it is worth noting that the boom that preceded the present downturn was not an overnight occurrence; it gathered pace over a decade of negative saving and under investment–particularly in the U.S.–along with certain corrupt practices that were readily tolerated in the midst of the “boom” period.
It was a sustained “boom” during which the rest of the world financed the large deficits of the U.S. and accumulated huge amounts of dollar reserves, leading to the fall in the value of the dollar. Along with the weakening of the dollar, many of the world’s currencies linked with the dollar also weakened. Consequently, wholesale and retail price levels increased in dollar terms.
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During this period, the regulatory bodies, auditors and rating companies–in fact, the whole system–failed. Chairmen and members of the board of directors failed too; so have the management and compliance officers. Add to that the failure of many “rank and file” employees.
As a consequence, the existing gap between rich and poor has grown even wider. The poor, who constitute a majority of the world’s population, have suffered, and global conflicts have increased. Yet many among the rich have become richer, and the middle class has also benefited considerably from the boom.
Now the dollar is appreciating, the pound is depreciating and there is excess supply in commodities and products. However, human nature, which reacted to the gap and the imbalance in the system, is now taking corrective action to bring about some balance, as it always does when events go to extremes.
The U.S. and the developed world have taken action to bail out the financial sector and some industrial companies. This is to ensure that bankruptcies are avoided and people do not lose their jobs–or the deposits they have with the financial institutions.
However, bailing them out by pouring billions of taxpayers’ money into the system is not the answer for an immediate revival of the global economy.
At a purely pragmatic level, what guarantee is there that the money will not be misused again, particularly when greed and fear continue to determine human actions? What is there to ensure that some of the money does not disappear again through corporate misjudgment or through undeserved incentives and bonuses?
Only a few months back, the monitoring and supervisory institutions allowed billions of dollars of loans to be made on the strength of inflated books that showed illusory balance sheets worth hundreds of billions. We now know these balance sheets all too often failed to reflect the real state of affairs.
Again, the person in the street is suffering and will suffer more as unemployment rises. As for the people who have run the system, it is perhaps too optimistic to assume that they will be able to mend their ways overnight.
What we are witnessing is the trailer to the real movie. The recession could last anywhere between three and five years, possibly even longer. The worst pain is, I fear, yet to come. What governments are offering by bailing out financial institutions and industrial manufacturers is temporary oxygen in an attempt to stave off the worst effects of the deepening recession. As nature seeks to correct the imbalance, we have to recognize that both socialism and capitalism have failed. Giving large sums of money to the very people who caused the problems in the first place seems very unwise, to put it mildly.
We know that this type of capitalism has failed. And yet, if we go back to nationalizing the financial institutions, how will we decide which other institutions deserve to be bailed out? Will we also have to bail out the automotive industry? Where does it all end?
Yes, banking institutions and certain industries should be rescued so they do not go into bankruptcy and employees do not lose their jobs. But while rescuing them, it has to be ensured that the right teams are in place, so they will not commit the same failures as their predecessors. The first and most important step is to secure depositors up to a much higher level than at present.
The second step is to make laws and rules for vetting the membership of boards and the top management of banks.
In a third step, support should be given to the banks that legitimately require funds at reasonable costs for maintaining and expanding their credit activity to satisfy the borrowing requirements of their creditworthy clients. Funds should be deployed to guarantee re-employment and new job creation. The spending in the U.S. from the large fiscal stimulus should focus on investing in people and technology to create long-lasting, incentive-driven jobs that will increase America’s competitive capacity for decades.
Revision of the statutes of the International Monetary Fund and the World Bank should also be given top priority, to ensure that these institutions can dedicate greater resources to meeting the requirements of developing nations that in turn will fuel U.S. technology exports as they advance their own economics.
The idea of creating an institution to reconstruct toxic or bad assets certainly deserves consideration to ensure that the banks will focus on clean assets. But this should not become an excuse for repeating past mistakes, and help should be combined with enhanced regulatory supervision. Nonetheless, industrialized countries should take the lead by assuring that they will not resort to protectionist measures. The G-8 leaders should make commitments to this effect and urge others to cooperate.
In the short term, an effective measure would be a tax rebate for the year 2008 of up to 30% to 40% to those taxpayers who have income of up to $100,000 a year, provided such rebates are spent within a specified time limit–a maximum of three to six months. This would stimulate spending and revive the economy much faster. This may also be a much cheaper solution.
I believe that, in the medium term, the most effective way of confronting the economic instability throughout the world is by directing our attention to the needs of the developing and less-developed nations. A sensible way to approach this is by investing in their physical and social infrastructure, separately from any current aid program. Contracts placed for this purpose in the developed world would not only help preserve jobs there but would also create new jobs and enlarge the consumer market in the developing world.
In addition to mega-infrastructure projects, which have a long incubation period, for immediate results financial resources can be directed to smaller projects such as feeder roads instead of major highways, modest and alternative energy projects, development of water resources, and expansion of educational and health facilities. In this manner, jobs can be created more quickly.
With President Obama in office–a man who is already a symbol of change–we trust he will implement measures that will correct the failures of the financial system, instead of finding short-term solutions that only postpone the real problem. Britain’s Prime Minister Gordon Brown and other G-20 leaders have also demonstrated their leadership in this crisis and presented concrete proposals to reform the financial system.
It is hoped that these suggestions will help the G-20 leaders meet their objectives to reduce global poverty by creating jobs and increasing productivity. This will expand consumer demand and encourage further investment. Thus the real value of money will be preserved, and economic stability regained.
Of course, just as taking these steps will lead us to a better place, failing to do so will also have its consequences. Conflict will persist, the divide between rich and poor will grow, the impressive economic gains of the last 10 years will go without restored and nationalism will reassert itself at the expense of globalization. Accordingly, I am hopeful that all participants in the G-20 summit will consider these proposals.
To sum up:
–Our approach ensures that the funds for bailing out financial institutions are used first and foremost for securing depositors’ holdings in a world of counter-party uncertainty that incentivizes money to leave the system.
–It ensures that a new and more rigorous regulatory system and new policies for reviving the economy are introduced. At the same time, governments are cautioned not to resort to protectionism.
–A tax rebate for the year 2008 would revive the consumer economy with immediate effect.
–In addition to mega-projects, smaller and environmentally friendly infrastructure projects in emerging economies would produce immediate results and enable the developed world to enjoy the benefits of expanding economies to create a new consumer market share among the billions on low incomes and the unemployed throughout the world.
–The main message is that the developed and developing worlds have to work together in the present crisis. Only in this way can the increasing wealth gap between rich and poor nations, with its fateful consequences of conflict and terrorism, be avoided.
–Finally, such an approach would reduce present political conflicts, create better understanding between nations and bring about global political and economic stability.
Srichand P. Hinduja is chairman of the HindujaGroup
