The unbearable lightness of political and corporate leadership
15 weeks ago

The unbearable lightness of political and corporate leadership

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Over the past month I’ve been reading a wide range of articles discussing, among other things, the 10th anniversary of the start of the GFC (when BNP Paribas decided to limit investor access to money they had deposited in three funds) through to discussions about what’s really going on in America and the lack of action taken post the GFC bymost governments to review their policies and growth models.

The interconnections are not necessarily that easy to ‘see’ and they vary in intensity and impact, but they are there. This post is my attempt to connect some of the dots.

Financial systems

In his article How to transform the post-crisis economy, Martin Sandby notes that unlike other major crises since the 1900s – the 1930s Depression and World War II which produced transformational reform –the GFC has not resulted in a transformational change. Sure, governments coordinated a financial stimulus and increased regulation on the financial sector but they did little else as they saw the GFC as a ‘blip’ rather than a systemic issue. As a result their ‘timely, targeted and temporary responses meant most governments could ignore the much broader, longer-term structural issues within their own economies and the world economy’.

In short, governments around the world have and are relying on an economic model that relies excessively on finance to create sustainable and inclusive growth. The reality is that growth is slower, inflation is low (some countries are experiencing deflation), wages growth is all but non-existent, asset bubbles exist in the finance sector and in housing in some countries, especially in Australia, and where there is a modicum of growth it’s not inclusive. As a result there’s a greater inequality in wealth, income and opportunity.

A decade after the GFC advanced economies have still not pivoted away from a growth model that is overly reliant on liquidity and leverage, first from private institutions (banks) and then from central banks. Since the GFC public sector debt has spiralled and government debt has been driven up by households and the non-financial corporate sector. Global debt is now $217 trillion, 327% of global domestic product – a colossal number. Growth is unbalance, productivity is low and investment is low.

By pumping the financial markets full of liquidity and holding interest rates low (and inflation) asset price bubbles have been created that will cause problems down the track and have implications for financial instability.

We see this clearly in Australia where household debt has skyrocketed as interest rates have propelled a property boom at the same time wages growth has stagnated and while unemployment has stayed relatively low, its more ‘gig’/contract based, at lower rates without the traditional features of employment (superannuation, holiday pay, holidays etc; businesses aren’t investing (which drives productivity and real wages growth) choosing to use debt to buy-back shares, they’re more focused on quarterly reporting numbers as that’s what executive bonuses are tied to. It’s costing more to live and pay your electricity bill, people are under pressure and taking on more debt, still.

With governments around the world still reliant on liquidity and leverage (quantitative easing) 10 years after the GFC it’s no wonder that individual economies and the world economy is looking at low inflation/in some places deflation, low wages growth, low productivity. It’s also not a surprise that there’s a significant credit problem in China, with bad debts reportedly US$6.8 trillion above official figures reaching US$9.5 trillion by the end of 2017, five times the value of bank loans officially classified as such.

Regulation of the financial market and instruments

If these figure aren’t scary enough, the regulations put in after the GFC are also failing in some critical areas. The post-GFC regulations designed to make the financial system safer have improved the capacity of banks to withstand future credit events but it hasn’t constrained other parts of the financial markets. As Gillian Tett notes: ‘The sequel to the GFC is already with us. That sequel could be collaterised loan obligations (CLOs).

CLOs are bundles of low-grade loans that have been repackaged and presented as more attractive packages that attract a higher credit rating. If this sounds familiar think back to CDOs or the bundling of sub prime mortgages. . . it’s exactly the same, in fact only one letter has changed. In May 2017 two deals worth more than US$1 billion each were sold. Over 2017 more than US$75 billion of CLOs have been sold. The Dodd Frank Act was designed to stop this kind of credit rating play. It clearly hasn’t.

 Then we have the creation of another financial instrument, the ETF. Globally EFT funds have more than US$4 trillion in assets under management and the ‘Inverse Vix’ EFT is now the world’s 34th most actively traded security and growing and it ‘appears to have distorted the measures of volatility this year’ comments Gillian Tett from the FT.

I am no financial whizz but I read a lot about what some of them write and what many of the financial journalists write. When I read about financial instruments that look to good to be true, that increase the systemic risk of what sudden changes in sentiment in financial markets could do, I’m concerned.

Which brings me to the third part of the equation, the complete lack of leadership from many politicians and the feedback loop of the failure to undertake fundamental reforms needed post the GFC.

In Australia, Gary Banks, former Dean of the Australia and New Zealand School of Government and Chairman of the Productivity Commission, recently wrote a terrific article about the defenestration of sound political decision making.

The broad themes of his article was that the language of public policy in Australia as become contorted as a result of political expediency. ‘Tax hikes have become ‘saves’. And, wherever possible, taxes are referred to as ‘levies’ or even, more coyly, ‘prices’ and he ‘also found that the word ‘retrospective’ no longer has the meaning long ascribed to it. And the very word reform has departed from the dictionary definition of ‘change for the better’ to mean just ‘change’, or even change for the worse.’ To me this sounds like political correctness completely off the rails. I said as much when I asked a question on the ABC Q&A program a few years back. We need politicians to say what they mean and do what they say.

‘Fairness’ has become the dominant criterion in Australia and this goes beyond the traditional ‘fair go’.’ Fair reform today is one in which there can be no losers, even temporarily, unless they are at the upper end of the income distribution; a definition that would have ruled out every important structural reform of the past.’

Separately, Francis Fukuyama has written much about the political decay in America, most recently in an article for the Financial Times. In this he writes:

I define "political decay" as the capture of political power by well-organised interest groups that bend the system to their own interests, at the expense of broader public interests. A decayed system is also one that cannot fix itself, because those entrenched interests and ways of thinking prevent reform. The American political system has undergone decay over recent decades as well-organised elites have made use of vetocracy to protect their interests. This does not mean that the country is no longer democratic; it means that there is a crisis in representation as some Americans have much more weight in the political process than others. This perception of unfairness gives rise to the second important social condition that affected the outcome of the election, which is inequality.

 ‘When people on the American left have considered inequality, they have traditionally thought first about African-Americans in inner cities, undocumented immigrants or other marginalised minorities. Poverty among these groups continues to be a major problem, but the burden of growing inequality has fallen on a different stratum: the old white working class, which has now suffered three generations of de-industrialisation.

‘As both Charles Murray and Robert Putnam, social observers from opposite ends of the political spectrum, have documented, America's most important social fracture is no longer race or ethnicity, but class, defined by level of education. The diverging fortunes of university graduates and school dropouts is startling, and shows up not just in income statistics, where workers with only a basic education often make less than their fathers or grandfathers, but also in social dysfunctions like family breakdown, and drug addiction. There is a huge alienation on the part of rural and less educated people, and resentment that their urban fellow citizens are ignoring their plight.’

Lack of real structural reform is the issue

The GFC damaged confidence in, and the legitimacy of, financial and policymaking elites. While the financial system (especially the banks) may be better regulated and captialised, public and private debt has spiralled, anxiety over low wages growth is growing while the financial sector in all its guises is riding the asset boom for all its worth, increasing the level of wealth inequality.

Not only do people in Australia and the USA and other countries around the world no longer believe what their politicians are telling them, people see the financial and political elites making more money than ever, riding the asset boom while they can’t get jobs, have to settle for lower paying jobs while their children, even if they have an education are thrust into the full impact of the gig economy (aka permanent job insecurity dressed up as flexibility and labelled as Gen Me).

The failure of our political leaders and central bankers

Populism in politics is a result of the absolute failure of politicians to fundamentally reassess the underlying growth model of the pre-GFC period, a growth model that is overly reliant on liquidity and leverage to create sustainable and inclusive growth. Political leadership around the world, supported by central banks, reached for a short term sugar hit (quantitative easing) when broader, long-term structural solutions should have been developed and articulated to the people.

The unwinding of this originally planned ‘short term, targeted and temporary’ fix has delayed and delayed as political and financial leadership sought to use monetary policy to reboot the world economy rather than take harder decisions. The lack of growth, investment, productivity combined with increased debt levels, asset prices and speculation has propelled a growing gap between those able to play the game and those cut out of it or on the receiving end of it.

Gary Banks noted in his article that Winston Churchill was always aware of the 'opportunities' that a good crisis provided.

I mentioned this to a friend who I walk with once a week, that perhaps what Australia needed (and the world) was a major crisis to break the incredible lightness of our world and political leaders to actually undertake the deep, wider and longer-term structural reforms needed.

And, there are plenty of potential crises that could provide just this trigger: China’s heroic credit issues; the asset price bubbles in numerous markets; North Korea’s testing regime; China’s activities in the South China Sea; the unpredictable impact of the US Federal Reserve unwinding of QE; the blow up of CLOs or other financial instruments.

Kenneth Rogoff and Carmen Reinhart’s 2009 book, This time its different. Eight Centuries of Financial Folly, takes a comprehensive look at the varieties of financial crises that have occurred over eight centuries and sixty-six including government defaults, banking panics, currency debasement and the subprime catastrophe. Through this they show how each time, the experts have chimed, "this time is different", claiming that the old rules of valuation no longer apply and that the new situation bears little similarity to past disasters and, how little we have learned.

I call the lack of real and deep understanding, learning and action post-GFC by governments, and of the financial, corporate and policy leaders the unbearable lightness of political and corporate leadership. This is why the world is seeing the implosion of once stable political systems, the rise in minor party/issues-orientated parties, nationalist parties take hold.

While the political environment around the world may seem chaotic, I think its simply a reflection of the fact that people/voters have seen through the inability of their traditional leaders – both political and corporate – to develop and articulate a new approach to their economies and the world economy.

It’s been done before and needs to be done now. Voters will force the change...the sad thing is that our political and economic leaders could have acted differently, and still can, but they are all a bit too llte.