SINGAPORE (Feb 21): We are always told that we cannot escape taxes, death and economic and financial collapses. But are they, like gravity, truly a law of nature that cannot be overcome?
That one cannot escape paying taxes is quite easily disproved. Citizens who work in countries such as the United Arab Emirates, Oman, Bahrain, Qatar, Saudi Arabia, Kuwait, Bermuda, Cayman Islands, the Bahamas and Brunei do not pay any personal or consumption tax. Some, but not all of these countries, require citizens to pay to a social security fund. And while most of these countries rely on oil and gas resources as revenue, some do not. The point is that rich natural resources are not a prerequisite for creating a tax-free country.
What about the certainty of death? If we are referring to every living species on earth, we know that a species of jellyfish called Turritopsis dohrnii is biologically immortal. It has the capacity to reverse its biotic cycle and revert back to the polyp stage.
As for human immortality, it requires us to first define life itself. Is it just our consciousness or our physical body, or both?
Most of us believe the process of physical ageing, called senescence, is unavoidable. Yet in 2014, scientists at the Harvard Stem Cell Institute were able to effectively reverse the age of an older mouse by treating it with the blood of a younger mouse through a process called parabiosis.
And even if we can somehow reverse senescence, by ridding the physical body of diseases or with parts replacement, scientists believe that all humans will eventually suffer from Alzheimer’s, if we live long enough.
But if we accept that consciousness is the definition of life, then we have the Kurzweil solution of infinite consciousness with machines. That is, we can upload our consciousness into a computer for immortality, likely by 2045. You will have the possibility of reloading, recording and recalling your consciousness and memories into non-biological entities or androids.
But this article is about economic and financial crisis. What are the causes? And since we know the reasons and have a huge amount of data and history of the past, is it possible to mitigate and create an economic and financial order void of such crashes?
One of the most comprehensive books to document economic and financial crashes, from the “tulipmania” of 1636 to the 1990 crash of Japan’s Nikkei 225 stock index (a total of 34 crashes), is Manias, Panics and Crashes: A History of Financial Crises by Charles P Kindleberger. He describes events leading to financial crashes as follows: “Some changes in economic environment create new opportunities. It gets overdone, with exuberance, contributing to a mania. Once this excessive upswing is realised, the financial system goes into distress, as market participants rush to reverse the process, resembling a panic. In the mania phase, people use wealth or borrow money to buy real or financial assets. In panic, the reverse happens. Leading to a crash in prices.”
Given human nature, it is arguably inevitable. Kindleberger describes this best: “There is nothing so disturbing to one’s well-being and judgement as to see a friend get rich.”
As the third edition was published in 1996, it missed out the Asian financial crisis (AFC) and the Great Recession of 2008. Many attributed the AFC to the excessive leverage of Asian companies, using shortterm funding inflows from the West. Once the reverse occurred, beginning in Thailand, it created a contagion effect on the rest of Asia.
I would argue that the wrongly prescribed remedies of international bodies such as the International Monetary Fund — to jack up interest rates, starve the economies of liquidity, causing companies to fail (a prescription to address mania rather than panic) — were part of the cause, but I am sure many will disagree. I think my reasons will become self-evident in the rest of this article.
The Great Recession of 2008 was caused by the collapse in the US housing sector, brought about by overextended mortgages. My reference is the book Firefighting: The Financial Crisis and Its Lessons by Ben S Bernanke, Timothy F Geithner and Henry Paulson, Jr. In effect, it is an apologist book, defending the actions they took to manage the crisis, when they were in the Federal Reserve and the US Treasury. To me, there are important lessons and opinions shared. More critically, it exposes double standards and confirms the saying, “Might is right”.
To quote them, “But once the housing bubble popped, fear of losses created a financial stampede, as investors and creditors frantically reduced their exposure to anything and anyone associated with mortgage-backed securities, triggering fire sales, and margin calls that in turn triggered more fire sales and margin calls. The financial panic paralyzed credit and shattered confidence in the broader economy, and the resulting job losses and foreclosures in turn created more panic in the financial system.”
They go on to say: “We knew stepping back and letting nature take its course was not a reasonable choice. The invisible hand of capitalism can’t stop a full-blown financial collapse; only the visible hand of government can do that.”
As if the above justification was not sufficient, even when US regulators were now selling the notion that capitalism could not be relied upon when the interest of Americans is at stake, Bernanke goes on to say; “The goal of crisis response should be to alleviate fears, not to confirm and amplify them. Policymakers who focus on retribution rather than stabilization during an epic crisis will only make the crisis more epic. If your neighbour sets his house on fire by smoking in bed, you want the fire department to put it out before it spreads to your house and your entire town, even though letting it burn would punish the perpetrator and send a strong message”.
The solution to resolving each of these financial crises is simple enough — expand the money base through expansionary fiscal and monetary policies. At the height of panic, money is unavailable, often at any interest rate. The government steps in, as a lender of last resort, swapping less-liquid collaterals for more-liquid assets, making sure viable companies do not go down because of temporary liquidity problems.
The issue then is one of moral hazard. If the market knows it is, and will be, supported by a lender of last resort, participants will feel little or no responsibility for taking risk. This will lead to even more financial crises, as every market participant grabs the upside with maximum leverage.
“The ultimate result of shielding man from the effect of folly is to fill the world with fools”, according to philosopher and sociologist Herbert Spencer. This and the view of most Monetarists — that the evil of panic will work its own cure, the fire can be left to burn itself out — are the counterarguments.
But the fact that public policy, governments and central banks can mitigate such crises and prevent future panics raises the question of if and when they should. The prevailing consensus view and practice is that a lender of last resort should exist, but its presence should be doubted.
It should sometimes lend freely to halt a panic, but leave the market to its own devices on other occasions, to prevent future panics.
But that begs the question, how does one decide if we should stop this panic but not another? Prevent this bank from going bankrupt, but not that bank? This country, but not that country? To apply the rule of “might is right”, to revert to tribalism? Would this not lead to the oppressed becoming more oppressed, the poor becoming poorer? Consultants can probably justify using the magical criteria of valuations and sustainability and viability. But ultimately, that will prove hollow. It is impossible to justify when decisions are ultimately arbitrary.
Joseph Stiglitz in his latest book People, Power, and Profits argues that we must have government action, but: “The question is how best to ensure the government does serve the interest of all of society. Many of the failures are associated with what is called captive, private firms and individuals using their money and influence to get the government to advance their interests.”
And because there is uncertainty over whether the lender of last resort would act, this in itself causes panics and financial crashes.
The reality is that actuality inevitably dominates contingency. Today wins over tomorrow. Very few decision makers (notice I did not use the word “people”. You can be idealistic when you are not accountable) would not put out the fire now, but instead allow his house and his neighbours’ to burn on the basis of teaching the perpetrators a lesson.
But what of the moral hazard? If the government guarantees liquidity all the time and therefore removes panics and eliminates economic and financial crashes, would that not in itself lead to more financial collapses as everyone will take on every conceivable risk and maximise their borrowings?
The solution is simple enough. If the government guarantees the downside, so that there will be no financial collapse, then the government must take away the speculative upside, taking a 100% tax on excess returns arising from excessive risk-taking. Sounds crazy? Not really. I will elaborate more on this in a future article.
Separately, in a brief follow-up to our article in the previous week, which some quarters have said is overly optimistic, we show two charts (Charts 1 and 2) that illustrate the latest update on the Covid-19 outbreak (at point of writing). We believe that the statistics are supportive of our optimism.
After the sharp spike in reported cases on Feb 12, as a result of China changing its reporting criteria, the number of new cases has resumed a daily decline. This strongly suggests that despite widespread fears, the outbreak is being contained.
Stock markets are reacting positively as well, as investors look beyond the shortterm impact. The Shanghai Composite Index has recovered all of its losses and is trading marginally above its pre-Lunar New Year break level. US stocks have done even better, with all three bellwether indices — the Dow Jones Industrial Average, Standard & Poor’s 500 and Nasdaq Composite index — rising to fresh all-time highs.
Buoyant investor sentiment lifted the Global Portfolio higher, up 0.2%, for the week ended Thursday. Our basket of stocks performed better compared with the benchmark MSCI World Net Return Index, which was down marginally.
Some of the big gainers were Builders FirstSource (+4.8%), Adobe (+2.4%) and ServiceNow (+2.3%) while The Boeing Co (-2.6%) and Qualcomm (-1.3%) were among the notable losers.
We added Microsoft to our portfolio last week. With this latest acquisition, the Global Portfolio is, once again, near fully invested.
Last week’s gains boosted total returns for the Global Portfolio to 28.1% since inception. This portfolio is outperforming the MSCI World Net Return Index, which is up 20.4% over the same period.
Tong Kooi Ong is the chairman of The Edge Media Group, which owns The Edge Singapore.
Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks, including the particular stocks mentioned herein. It does not take into account an individual investor’s particular financial situation, investment objectives, investment horizon, risk profile and/or risk preference. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports.
