Sinister aspects to the humbling of the experts

When rich people lose a lot of money, they seek to blame someone else

WASHINGTON - WHEN the US President takes time to attend an IMF meeting, it usually means that either he or the world economy is in trouble. This year both are.

But assessing just how serious the trouble has become is extraordinarily difficult, because the mood of both stories is changing with lightning speed. We'll leave the President's plight to one side and focus instead on the world economy.

In some ways what's happening is nothing new - we have had sharp falls in market confidence many times before. The hard thing is to gauge whether a market correction (to use the standard euphemism) leads to economic disaster. Put another way, is this 1929 or 1987?

The change of mood among Americans in the space of just three months is remarkable. Three months ago recession was something that happened elsewhere. The very possibility would be denied by leading economists in the main US financial institutions. The London view that US shares were dangerously overvalued was dismissed as ridiculous. Goldman Sachs, perhaps the most bullish of the US houses, chose this moment to decide to float its shares.

Now the fall in the market has destroyed wealth on a gigantic scale: shares of the big banks, particularly investment banks, have fallen by up to two-thirds. Go to any of the many bankers' cocktail parties here and you hear the comments that this or that bank is in deep trouble.

When rich people lose a lot of money they seek to blame someone else. So expect blame to be loaded on to officialdom: the G7 finance ministers, the central bankers, the regulators and so on. You will hear a lot more of this in the weeks to come. As the world of officialdom has been pretty ineffectual - calling for strong co-operative efforts and then doing nothing - there is a certain justice in this criticism. But that should not obscure the plain fact that the experts were wrong. What was needed was judgement, not Nobel prizes in mathematics.

As well as being wrong, they have also been sloppy. Not only are the rumour mills churning out stories of bad judgement; they are also spilling stories of incompetence. Every commercial bank in the world has spent the last month combing its accounts to find out what it has lent to whom in case it can unearth some bad debts it didn't know about.

I hadn't fully grasped quite how sloppy some banks had become in the fat years. We all know now that Barings' risk management was gravely flawed, and how it discovered this the hard way. It seems likely now that many other banks have been almost equally cavalier, particularly in the management of their derivatives positions. I was told that some positions on which banks are losing money were not even examined by the banks' normal risk assessment teams because they were assumed to carry no risk at all.

Some stories of banking errors have emerged. UBS, the second-largest bank in the world, has just seen its chairman and some senior executives resign. That episode has been reasonably well handled: the problem was swiftly disclosed and the people responsible behaved decently and honourably. Expect much, much more to come out in the coming months, and do not assume it will be handled equally well.

You may think that this humbling of the experts is good clean fun, and in a way it is. But there is a sinister aspect to it. If the world's banks are seriously frightened - which they are - this is liable to lead to a loss of confidence in the banking system in general. Japan apart, that has not happened yet. If the Japanese disease proves contagious, the ability of the rest of the world economy to recover will be gravely undermined.

Aside from the humbling of the bankers, what else is new? Two things stand out from these Washington meetings. The first is that shoring up the world economy will be an ad hoc, piecemeal patching operation. Not only is there no grand plan (which may be no bad thing), but we cannot assume that the G7 will behave in a co-ordinated and competent way. There is a sense of denial - not of the scale of the dangers, for everyone is aware of that - but rather of the ability of the finance ministries to deliver.

The best example is the position of the Japanese. Much play was made of the acceptance by Japan of the strong statement of the G7 and its assurance that it would take measures to boost the economy and fix the banking problems. But of course the Japanese cannot do anything, partly because they don't know what to do and partly because even if they did, they couldn't get the legislation through parliament.

I don't dismiss the various plans and programmes being discussed through the autumn, for a lot of the work is very useful. But in the short run the markets have to work on the assumption that the authorities will be fairly ineffective - and hope that this assumption is wrong.

The other thing that has become very apparent is that different regions of the world will not only continue to experience very different economic conditions, but the ability to recover will depend crucially on the solidity of the local banking system. Regions with strong banks will be able to sustain their economic growth, or recover it, reasonably swiftly, while those with weaker banks will remain in trouble.

After 1929 there was the global problem of a collapse in world trade and a surge of protectionism, but the countries which recovered best were those with strong banking systems, while those which recovered most slowly were those with weak ones.

Despite the temptation to draw parallels with past market plunges, I'm not sure that either 1929 or 1987 (when a market collapse was swiftly reversed) are the best models for what might happen over the next few years. I'm inclined to think that the 1870s might be a better model, the start of what was called - until the 1930s came along and stole the expression - the Great Depression.

It was not a depression in the 1930s sense that world output plunged. Actually it grew, bumpily but quite well. It was a depression in the sense that world prices fell for two decades until the gold rushes of the 1890s. This mix of growth during a period of falling prices is not within our experience. If it happens again, solid banking systems become enormously important and bond markets flourish, as they are doing now.

One other thing: it was a period of generally very low nominal interest rates. If the Bank of England does cut rates this week, it could be the start of a long, long trend. Yes, the world economy is in trouble, and some bits of it will remain in trouble for another three years, maybe more. But we should not assume that deflation means disaster - just a difference, and a difference to which we will all have to adapt.

Start your day with The Independent, sign up for daily news emails
PROMOTED VIDEO
News
peopleLiam Williams posted photo of himself dressed as Wilfried Bony
Sport
Martin Skrtel heads in the dramatic equaliser
SPORTLiverpool vs Arsenal match report: Bandaged Martin Skrtel heads home in the 97th-minute
Arts and Entertainment
Caroline Flack became the tenth winner of Strictly Come Dancing
tvReview: 'Absolutely phenomenal' Xtra Factor presenter wins Strictly Come Dancing final
Arts and Entertainment
The Apprentice finalists Mark Wright and Bianca Miller
tvBut who should win The Apprentice?
News
The monkey made several attempts to revive his friend before he regained consciousness
video
Extras
indybest
News
Elton John and David Furnish will marry on 21 December 2014
peopleSinger posts pictures of nuptials throughout the day
Life and Style
A still from the 1939 film version of Margaret Mitchell's 'Gone with the Wind'
life
ebooks
ebooksA year of political gossip, levity and intrigue from the sharpest pen in Westminster
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Carlton Senior Appointments: Private Banking Manager - Intl Bank - Los Angeles

$200 - $350 per annum: Carlton Senior Appointments: Managing Producer – Office...

Carlton Senior Appointments: San Fran - Investment Advisor – Ind Advisory Firm

$125 - $225 per annum: Carlton Senior Appointments: San Fran - Investment Advi...

Sheridan Maine: Commercial Finance Manager

Up to £70,000 per annum + benefits: Sheridan Maine: Are you a qualified accoun...

Sheridan Maine: Regulatory Reporting Accountant

Up to £65,000 per annum + benefits: Sheridan Maine: Are you a qualified accoun...

Day In a Page

The week Hollywood got scared and had to grow up a bit

The week Hollywood got scared and had to grow up a bit

Sony suffered a chorus of disapproval after it withdrew 'The Interview', but it's not too late for it to take a stand, says Joan Smith
From Widow Twankey to Mother Goose, how do the men who play panto dames get themselves ready for the performance of a lifetime?

Panto dames: before and after

From Widow Twankey to Mother Goose, how do the men who play panto dames get themselves ready for the performance of a lifetime?
Thirties murder mystery novel is surprise runaway Christmas hit

Thirties murder mystery novel is surprise runaway Christmas hit

Booksellers say readers are turning away from dark modern thrillers and back to the golden age of crime writing
Anne-Marie Huby: 'Charities deserve the best,' says founder of JustGiving

Anne-Marie Huby: 'Charities deserve the best'

Ten million of us have used the JustGiving website to donate to good causes. Its co-founder says that being dynamic is as important as being kind
The botanist who hunts for giant trees at Kew Gardens

The man who hunts giants

A Kew Gardens botanist has found 25 new large tree species - and he's sure there are more out there
The 12 ways of Christmas: Spare a thought for those who will be working to keep others safe during the festive season

The 12 ways of Christmas

We speak to a dozen people who will be working to keep others safe, happy and healthy over the holidays
Birdwatching men have a lot in common with their feathered friends, new study shows

The male exhibits strange behaviour

A new study shows that birdwatching men have a lot in common with their feathered friends...
Diaries of Evelyn Waugh, Virginia Woolf and Noël Coward reveal how they coped with the December blues

Famous diaries: Christmas week in history

Noël Coward parties into the night, Alan Clark bemoans the cost of servants, Evelyn Waugh ponders his drinking…
From noble to narky, the fall of the open letter

From noble to narky, the fall of the open letter

The great tradition of St Paul and Zola reached its nadir with a hungry worker's rant to Russell Brand, says DJ Taylor
A Christmas ghost story by Alison Moore: A prodigal daughter has a breakthrough

A Christmas ghost story by Alison Moore

The story was published earlier this month in 'Poor Souls' Light: Seven Curious Tales'
Marian Keyes: The author on her pre-approved Christmas, true love's parking implications and living in the moment

Marian Keyes

The author on her pre-approved Christmas, true love's parking implications and living in the moment
Bill Granger recipes: Our chef creates an Italian-inspired fish feast for Christmas Eve

Bill Granger's Christmas Eve fish feast

Bill's Italian friends introduced him to the Roman Catholic custom of a lavish fish supper on Christmas Eve. Here, he gives the tradition his own spin…
Liverpool vs Arsenal: Brendan Rodgers is fighting for his reputation

Rodgers fights for his reputation

Liverpool manager tries to stay on his feet despite waves of criticism
Amir Khan: 'The Taliban can threaten me but I must speak out... innocent kids, killed over nothing. It’s sick in the mind'

Amir Khan attacks the Taliban

'They can threaten me but I must speak out... innocent kids, killed over nothing. It’s sick in the mind'
Michael Calvin: Sepp Blatter is my man of the year in sport. Bring on 2015, quick

Michael Calvin's Last Word

Sepp Blatter is my man of the year in sport. Bring on 2015, quick