Where Does the Tide Flow?
The collapse of the US sub-prime mortgage market set off crises in France and Britain, and sent stock markets south all over the world. The vast flow of capital, complex and interconnected, gathers force like a storm, but where is it heading?
Where Does the Tide Flow?By Isabella Wu
As noon approaches, the early autumn light, bright and warm, floods in through the bay window of Alan Greenspan’s Washington, D.C. office.
Clad in a simple white shirt, the former Federal Reserve chairman, now 81, frequently taps on his specially designed Bloomberg keyboard. With just one touch of a key he can get a read-out of the status of any market in the world up to the last second. Seemingly able to read any change with aplomb, Greenspan zooms right in on the crux of the issue.
“I’m really mystified as to how the US sub-prime lending issue has spread to Europe,” claims Greenspan, getting right to the latest tumult in his exclusive interview with CommonWealth Magazine.
In the first half of August, BNP Paribas of France hurriedly froze three of its funds invested in US sub-prime mortgages, triggering a European market crisis. The European Central Bank responded with an emergency cash infusion of 95 billion euros (US$133 billion), or nearly one-half of Taiwan’s entire foreign exchange reserves.
Although the action succeeded in putting out the flames for the moment, the biggest market interference by the central bank since 1991 torpedoed market confidence. Capital moved out quickly, and even the Taiwan stock market was deeply affected by the retreat of foreign capital.
“Markets have become too huge, complex and fast-moving to be subject to twentieth-century supervision and regulation. No wonder this globalized financial behemoth stretches beyond the full comprehension of even the most sophisticated market participants,” Greenspan admits candidly. Everyone knows the new era of risk is upon us, only they don’t know where the next flash point will be.
“Can you give me this refrigerator?” the woman wanted to know. Every 15 minutes it was something else, and within three hours, the gas stove, television cabinet, and rattan furniture were all on their way out.
As she was about to leave, the Vietnamese woman said, “The garbage truck just came by. The driver wouldn’t take the big items unless I paid him NT$200. I gave him the money, so you owe me NT$200.” The owner, who had just given away all her old furniture, was dumbfounded by the request and thought to herself, “That woman is as hard as nails!” But it was only by being so single-minded that the woman had been able to survive in the lowest stratum of society in a foreign land.
Not many people would have cared about the NT$200, but the Vietnamese woman did.
In 2005, average disposable household income in HualianCounty ranked fourth lowest among Taiwan’s 23 counties and cities. In 11 of the island’s 23 cities and counties, average household disposable income levels actually fell in 2006 compared to the year before, and the decline was felt in both agricultural and industrial areas.
“When commodity prices go up, the impact is not felt across the board. The hardest hit are those in the bottom 10 percent of society who can barely make ends meet,” says former NationalTaiwanUniversity president and noted economist Dr. Chen Sun.
In 2005, the average disposable income of the bottom 20 percent of households in Taiwan was NT$298,000, a monthly average of NT$25,000 and lower than the NT$315,000 the poorest 20 percent averaged in 2000. These households are particularly vulnerable to rises in the costs of daily necessities.
Gasoline prices have increased the most, with 95 octane unleaded gasoline nearly breaking the NT$30 per liter barrier at the end of July.
“I used to get change on NT$1,000. Now it’s shot up to NT$1,500,” said an owner of a 2000cc vehicle, explaining how much more it costs today to fill up the tank.
Emerging Market Wealth Floods Capital Pool
How come the rapid expansion of the global financial markets has swept Europe, North America, and the world to become an untamed beast?
That is largely because emerging countries have gotten wealthy quickly over the past decade or so, causing a significant rise in the level of global capital. Since 2001 the balance of global GDP has shifted from developed countries to developing countries.
The Economist relates that over the past year the monetary supply of emerging economies has grown an average of 21 percent; three-fifths of the growth of the world’s money supply has come from the developing countries of China, India, Russia, Brazil, and Southeast Asia. Many of these developing countries with emerging markets have considerable savings, greatly increasing the capital awaiting investment worldwide.
Statistics from the big rush into China’s stock markets are particularly illustrative. By the middle of this year the combined number of accounts opened on the Shanghai and Shenzhen stock exchanges surpassed 100 million; an average of 300,000 people open accounts in A-shares each day. Each of these accounts contains the hard-earned savings of white-collar techies, factory workers, or even countryside farmers anxious to get into the stock market and play the new money game.
Emerging markets provide inexhaustible new blood for the financial market, yet the true profit makers are the established financial centers. They constantly develop financial techniques, introduce derivatives, and double the flow of capital, further complicating financial operations.
For instance, the current sub-prime lending crisis involves mortgage lenders loaning funds to unqualified borrowers in pursuit of sales performance on the one hand, while packaging the risk carried by customers with poor credit into new monetized financial products on the other hand. These are sold and re-sold on multiple levels until it becomes difficult or even impossible to calculate the risks, let alone keep track of who owns them.
Insider: Derivatives Take Risk Globally
Departing the United States, we arrive in London.
The old veteran among veterans, London, with over 300 years in developing financial services, is back this year at the center of the financial world. Innovative financial services are what have placed London back on top.
This year 42 percent of international stocks have been traded in London, surpassing the New York exchange to lead the world. Each day 32 percent of foreign exchange trading is handled in London, valued at more than New York and Tokyo combined.
London’s meteoric rise can be partly attributed to emerging “Muslim finance,” as London is the largest Islamic financial market outside the Islamic world. In high-yield derivative products, London accounts for 79 percent of Europe’s hedge funds and 21 percent of the world’s.
From petrol currency to Russian capital, to Indian and Chinese IPOs, to Scandinavian retirement funds, London is making an all-out effort to gain control, then dice them up and package them as new financial products to be marketed around the world. And not one quid is left alone.
“We’re looking to make capital highly efficient,” relates Robert Waugh, executive director of the ABN-AMRO Executive Solutions Group and head of ALM solutions.
A physicist by training, Waugh, gentlemanly in a typically British manner, is adept at mathematical modeling. Standing in the glass-walled center courtyard at the London Stock Exchange, he addresses the issue of derivatives. “I’m like a sushi chef,” he relates as he gesticulates with both arms, his eyes squinting behind the thin black frames of his glasses, as if precisely sizing up the situation. “Every part of the fish has value,” he continues, implying that carving out the right parts for the people who need them can bring the best price. Any capital or risk that cannot be transferred to others is wasted, he asserts.
Under the flow of information and globalization, hour after hour across different time zones and regions, products of varied risk change hands in modern exchanges around the globe.
With the rapid flow and sweep of capital, just a few quick keystrokes can cause a tidal wave that no stock market on earth can escape. With the entire world now linked up and connected, a problem in any corner of the world echoes in other markets. For an example one need look no further than poor quality US mortgages, where the first to require first aid were French and European banks.
Risk follows capital, running around the globe through mathematical models. And no one can tell for certain where the next new risks will explode.
The Greenspan interview concluded, we hopped aboard a transatlantic flight, where our CommonWealth Magazine reporter witnessed a run on banks in Britain the likes of which have not been seen for 30 years.
Northern Rock, the UK’s fifth-largest mortgage lender, grew rapidly in recent years on the strength of innovative mortgage schemes. With the recent mortgage market capital shortfall, the bank found itself short on capital, appealing to Britain’s Ministry of Finance and Economy, instantly triggering a confidence crisis.
Within 24 hours depositors rushed to withdraw one billion pounds (the equivalent of 66.7 billion NT dollars) over the Internet and physically at bank outlets. The Bank of England, immediately declared its determination to step in and bring relief.
Emerging Markets Scramble to Set Up Financial Centers
“In order to make money you have to be willing to assume risk,” asserted John Stuttard, the lord mayor of the City of London. Addressing our CommonWealth Magazine reporter and over a dozen European news journalists on the fallout from the Northern Rock crisis, Stuttard seemed intent on projecting confidence to allay the public’s fears.
The financial market sits right in the center of London, like a sparkling crown jewel, attracting and moving financial investments. The world’s major banking institutions and financial monitoring agencies from nations around the world have all established offices here.
Bankers from such countries and regions as China, the Middle East, New Zealand and Australia come and go in a steady stream to the conference room in the mayor’s financial center mansion, looking to gain precious wisdom from London.
As financial products are constantly spun off, financial centers diversify, regionalize, and become individualized, countries around the globe establish financial centers. The emerging wealthy markets of Dubai, China, Hong Kong, Singapore, Seoul and Kuala Lumpur have been particularly aggressive, and journalists from European countries such as Sweden, Denmark, Russia, Luxembourg, Ireland, and Spain are all heard asserting that finance is the top priority for their respective countries’ development.
“Financial centers are able to attract more capital and create higher paying jobs,” says Laura Slattery of the Irish Times, hitting the nail on the head. A frequent visitor to London, she is able to make her observations from right there on the ground. “Ireland’s economy has reached a bottleneck, so developing a financial center is definitely the next step. We need to find our own character,” she asserts.
Slattery’s response speaks to something occupying many people’s minds – greed and fear, two human emotions stirred up by finance. And whatever the situation, one must find a path to keep moving on the world market.
Financial games are on the ascent, one wave after another, gaining momentum.
Isolation Threatens Taiwan
Before the Northern Rock crisis had settled down, Standard Chartered went ahead and acquired American Express Bank, giving the crown’s finance another boost of momentum. Standard Chartered also acquired the Hsinchu International Bank last year.
However, at the same time, Qatar and Dubai, flush with petrol currency, maneuvered to buy 20 and 28 percent control of the London Stock Exchange, respectively, demonstrating the ambition of Arab countries to force their way into the world’s main capital battleground.
Whether acting out or being acted upon, Taiwan is becoming increasingly interconnected to international finance, making it vulnerable to the risks sweeping international capital. Bearing this out, the reverberations of foreign capital on the local stock market this past July and August remain fresh on people’s minds.
What role should Taiwan play amidst the sweeping tides of global capital? Taiwan is merely a small boat on the vast ocean of capital flow, her stock market worth 678.2 billion US dollars – just one-third that of Hong Kong and one-sixth that of London.
Addressing a forum on the future challenges and opportunities of the Taiwanese economy, Nobel Prize-winning economist Robert Mundell reminded listeners that Taiwan is not a member of any international monetary organization. As a consequence, in the event of a financial crisis Taiwan cannot look to international organizations for relief. At the same time, the island’s more than 200 billion US dollars in foreign reserves remain a vital bulwark.
Unable to separate itself from the world, Taiwan must respond to risks and changes with particular finesse and care. The brave new world of risk is upon us.
Translated from the Chinese by David Toman