Chief Investment Officer
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BirdsEye Viewa japanese "take" on our financial crisis
Japan has had its share of financial crises n the past fifteen years. The article below, forwarded to me by my friend Hiroshi Ueno, who also translates BirdsEye View for our Japanese readers, sheds an outsider's view of our situation and offers remedies. While somewhat outdated, given the pace of events, I found it a fascinating "take" on our situation. It was especially fascinating seeing the unprecedented global coordination on rate reduction today. This is what people outside the US think of our situation. What do you think?
Hiroshi's own comments were we follows:
I am not sure that this situation takes the same course that Japan experienced more than a decade ago, but Ohmae is correct in pointing out that we must live through this liquidity crisis, and that it is not the matter only in the US.
The world's interbank markets are currently under an extreme strain, which comes from fears about possible liquiidity shortage of the banks with rumours of failure. Now is the time of emergency and the case is not only for the US but at least for all triad countries. I see three reasons fot it. One is that many large US banks, investment banks, and insurance companies are operating globally, and their activities are so connected with the economies of European and Asian countries. Two is that US Dollar is the only global currency and so much of it is stored outside the US, which turned out to be used for emergency as Ohmae says. Three is the same credit-shrinking process as in the US is now taking place in Europe, where they also have had real estate bubbles. So it is not a matter of a nation's economy, but a matter of world's closely related financial activities.
Therefore, the counter-measure against this situation should be globally cooperated. And since this is an emergency, you need to stop the cramp before you apply the remedy. It requires nimble, reflex and co-ordinated efforts among countries.
Bad things are that it is the worst time to execute its political power for the US, waiting for the presidential election. But it is not easy to move fast for Europe where they take time to decide something among many decision makers, and it is not Japanese government specialty to make a quick move.
It all started in the US, but quickly turned out not to be limited domestically. 15 years ago, it was OK for other countries to see Japan's handling its crisis because it was a fire on the other riverside. Not this time.
At the time of the Great Depression, things got worse when every country turned economically inward and decided to live on its own. This cannnot happen in such an interconnected and highly co-related today's world. And it is still and only the US which can take lead to settle things down, as Europe and Japan have less power and speed.
From outsid the US, we are watching your handling the issues. I know it is not easy to take care of someone else when one has one's own headache and fever, but we really hope that you do not treat this as a fire in the house.
On a personal note, knock wood everyone is doing well. Guy, Monica, Isabella and Cecilia moved to their new home and are all settled. Gil is doing the same in UCLA and loving it. he is a pledge in his older brother's fraternity and has a ready-made social network, which is great. Paul is working on his summary 2009 internship and Liat is hoping to do some research in Bhutan. I am hoping for that as well, since I love Bhutan and would love coming back to it! Arik is kicking butt in football as usual and is working on his academics. As for myself, I have 22 Forums between labor Day and Thanksgiving, which means I'm on the road a lot and short intermissions at home. These are crazy times indeed, and being with bankers during this time is the best place for me to be!
A Japanese "Take" on Our Financial Crisis
The US Congress has refused to pass the $700bn bail-out plan for the time being. That may turn out to be appropriate. The issue at the moment is to provide liquidity to the market, particularly to failing financial insitutions. From the experience of Japan throughout the 1990's, and also from the experience of Nordic countries, it is clear that the US financial crisis is going through a familiar sequence of events.
The problem is the US leadership does not seem to understand exactly what happened and what lessons to draw.
Now that the Paulson bail-out plan is temporarily suspended, it may not be too late to state, in English for the first time, what I have been talking and writing in Japan regarding the problems with the US approach to solve their financial crisis and a possible solution to the imminent threats of meltdown of global banking systems.
There are three principles you need to observe in a major financial crisis. First, treat it as a systemic failure and do not act on individual situations. Second, know the sequence of events so you solve the right problem at the right time. Third, construct a universal system, later, to avoid similar problems from occurring again.
The US Government seems to violate each one of these three principles, and mixing the sequence of events. In doing so, it aggravates a situation that is already bad enough.
We are faced with a systemic problem, and not a collection of individual banks. The problem at hand is lack of liquidity. This is a syndrome known as "wolf pack" in a group theory. While the wolves are good at attacking the victim as a team, they have a tendency to attack the weakest of the cohort should extreme hunger prevail. The banking crisis is like this metaphor. If Lehman goes, people look at the "next" and all of a sudden, the victim is the weakest of the bunch. When Lehman goes, it is Washington Mutual, and the next is Wachovia. When Wachovia merges with Citicorp, then people look for another victim, and could point to National City. This is an endless process and continues until the last wolf no longer finds anybody to point its finger. In Japan, we have now only three money center banks, down from over a dozen in the 80's. The remaining banks are all mega-banks, and according to the Japanese Financial Services Agency, they are too big to fail.
Treasury Secretary Henry Paulson's approach is fundamentally wrong in two accounts. At this rate, the US, too, is heading for three mega-banks, which will not serve the customers nor will they appreciate how much the public has supported them during the crisis. Like Japan, they will think they survived because they were better and stronger. The second account is that he is looking to the Congress to approve the $900bn buyout funds. Buying bad assets at this stage is not the main task for him. Almost all banks will be saved if global credit lines are set up and they have access to unlimited liquidity. Banks are failing due to the lack of capital, and stocks are falling to almost zero value. This can be avoided if a bank has access to a "gas station" from which they can pump in necessary liquidity while working out their assets to save the "good bank". You do not have the luxury of the time if other wolves are staring at you, and people, being panicked, are rushing to the internet to transfer their money to other banks.
What the US needs to do under this scenario is to call for the help of the rest of the world to set up a gigantic credit line, on the order of $5 trillion, to provide the necessary liquidity, so that troubled financial institutions can come in. This is similar to what the Swedes set up in the early 90's during their financial crisis, called "Emergency Room." But, it should be far, far greater this time to eliminate any doubt that the liquidity will run out.
The only way to get this kind of money assembled is for the US to ask for the mercy of a donation, not only to its taxpayers, but also to those who have piled up dollar-denominated instruments around the world. For example, China has piled up $1.5 trillion on the foreign reserve coming from their trade surplus, mostly in US dollars. Japan can contribute $1 trillion that we do not need in a hurry. Taiwan and Russia could come up with 0.5 each, and the Gulf oil rich countries certainly could come to support Uncle Sam easily with $2 billion. We can ask the EU to contribute collectively something like $2 trillion, if we make the facility available also to their financial institutions.
From the experience of Japan, the major financial crisis will go through three phases, each requiring a different measure. The first phase is what the US is now experiencing, and that is mainly coming from the liquidity crisis. FRB has provided a credit line close to $1 trillion and major institutions are now at the mercy of this facility. We lost Yamaichi and Sanyo Securities during the first phase of the crisis because they could not pull money from the inter-bank facilities. The second phase comes mainly from working out the bad assets. They face the problem as the write-offs far exceed the equity and they can not raise fresh capital from the market as their share price falls to a meaningless level. The Long-term Credit Bank of Japan, Nippon Credit Bank and Hokkaido Takushoku Bank all failed due to the write offs coming from loans to failing or failed companies. At this stage, it is important for the government to inject fresh capital to let the banks revive and return to their normal operation. In doing so, the Government could end up owning a bank directly or through debt-equity-swap.
The third phase is characterized by the massive failures of operating companies. This is because survived financial institutions are under severe surveillance of the Government and they can not easily extend loans to traditional customers, or corporations. Japan has lost hundreds of companies , such as Daiei, the largest retailer in Japan, in Phase 3. So, what Mr.Geithner talks about, i.e. Japan's failure to address the right issues at the right time, is absolutely correct. What I am not sure is if the Americans are addressing the right issues with the right priorities and sequence, and how long it will take to get back to "business as usual". It has taken Japan 15 years.
Finally, when the dust settles and we are in a mood to move forward, we should get together and construct a system which will not invite the same mistakes to occur in the future. It will take time, and enormous sacrifice on the part of the American people. The rest of the world, with the proper message coming from the US leaders, will certainly share the sorrow and the burden of pains as well.
The writer is author of 'The Borderless World', 'The Invisible Continent' and 'The Next Global Stage'
Copyright The Financial Times Limited 2008