by Alex Evans | Feb 15, 2008 | Africa, Conflict and security, Economics and development
John Githingo – Kenya’s crusading anti-corruption champion, who was permanent secretary in charge of governance and ethics until he had to flee to the UK in 2005 – offers a succint analysis of how aid donors have contributed to instability in Kenya:
To many in the west confronted with images of machete-wielding Africans, what has happened may look like an atavistic uprising. In fact it has been a deadly elite-driven political game in which the machete carriers are pawns on a blood-soaked chessboard. The kings and queens include institutions such as the World Bank, western governments and others who have engaged with Kenya’s polity in a manner that has often involved sweeping fundamental realities under the carpet. For the past four years some of these players insisted that Kenya’s politics were merely noise that would be drowned out by the chugging of a vibrant economic engine. Those who used their credibility as purveyors of this alchemy are as responsible for the current situation as some of the leading belligerents now. They need to engage responsibly and with unity and clarity.
Too true, unfortunately. Githingo also injects a note of realism into reports that a deal between Raila Odinga and Mwai Kibaki is close to being reached, noting that:
Kenya is gripped by a battle within its political elite that has led to a failed election. This has fractured the nation along historic fault-lines of resource inequality, ethnicity, generation and class. Potent grievances over the distribution of land, and over the perceptions that the president’s Kikuyu community feels entitled to rule, are stirred into the mix. It is a contradiction because the two ostensibly opposing forces have no fundamental ideological differences. Indeed, it is not clear that the mediation in Nairobi involves leaders who retain control of the situation on the ground.
by Jules Evans | Feb 12, 2008 | Economics and development, Global system, Influence and networks
As the unshakeable solidity of the world’s financial markets turns out to be a castle in the sky, we all wish someone had warned us about collateralized debt obligations (CDOs) and the dangers of securitization, before it was too late.
But wait…I did! When I was a young cub reporter covering the securitization market back in 2001, I wrote an article for Euromoney called The Hidden Risks of Synthetic CLOs. CLOs are collateralized loan obligations, whereby banks package loans such as mortgages into off-balance-sheet investment vehicles, then sell them on investors.
I warned, “if there is a stain on the ABS market’s halo, it is CLOs and synthetic CLOs…The danger is that the loans or the risk sold off will come back to haunt the banks. Says Charles Peabody, a banking analyst at Mitchell Securities in New York: “CLOs are just financial engineering that hide most of the risk that banks are taking. I call them CLOWNs – collateralized loan obligations worth nothing. US and European banks’ increased use of CLOs represent a definite danger to banks. They’re a risk that the system cannot afford to take now.”
I also said: “Another, wider, danger for investors, and indeed for the banking system at large, is the opacity and complexity of synthetic CLOs. Says Drayson: “Many investors don’t understand synthetic CLOs.” Nor do many CEOs or CFOs.”
I remember the article well, because after it was published, I was rung up by the head of CDOs and CLOs at a bank – he was American, I think the bank was Morgan Stanley, and I was subjected to a sort of verbal leg-breaking by him and his colleague, who told me I didn’t know what I was talking about and was basically a disgrace to journalism. It was bruising.
Well, I don’t want to brag, but ha! Now many commentators are saying that CLOs are a serious mess, and are going to cost banks billions of dollars.
Looks like I was right and the overpaid banker was wrong! Collateralize that, buster.
by Charlie Edwards | Feb 12, 2008 | Influence and networks
Mary Dejevsky is beside herself in today’s Independent. Apparently the UK is no longer punching above its weight on the international stage.
Cast an eye over the holders of key international jobs, hang around at an international conference or two, and you could be forgiven for wondering where the Brits have gone. There was a time, long after the sun had set on the Empire, when the British still strutted the world stage. If they had the grace not actually to monopolise the very topmost jobs, they commanded respect as the policy-makers, drafters and negotiators who helped the world go round. They could be apposite and witty at the same time, and they knew how to get things done. Even a decade ago, Britons seemed to pop up all over the place in influential positions, keeping the country truly on the global map.
It is hard to date the beginning, or the end, of our retreat, but the return of Mark Malloch Brown, then Deputy Secretary General, from the United Nations to join Gordon Brown’s “government of all the talents” might be seen as a moment when we pulled up one of the last drawbridges linking us to the outside world. Similarly, the retirement of Sir John, now Lord, Kerr, after serving as Secretary General of the Convention drafting the European Constitutional Treaty.
So what prompted Mary to be so downcast about the UK’s role on the global stage?
The absence of senior Britons from international gatherings is becoming conspicuous. At the Munich security conference last weekend – perhaps Europe’s premier defence gathering – it was noted that this was the first time in 40-plus years that no Briton spoke from the platform. What was that about our diplomacy “punching above its weight”?
Why is this?
- There may be a host of reasons why Britons are putting themselves about less abroad. The proliferation of international talking-shops is surely one. A-list dignitaries can be choosy. (or indecisive)
- A more prosaic explanation could be social change. In today’s British Cabinet an unusual number of senior ministers have young children. (changing nappies in the hindu kush is a nightmare I’m told)
Insightful.
She also worries we don’t have enough people in the upper echelons of international organisations – which are being snapped up by… you’ve guessed it… the French!
The European Central Bank, the European Bank for Reconstruction and Development, the World Trade Organisation and the International Monetary Fund are all headed by members of the French technocratic elite. Britons are nowhere to be found at the apex of these organisations, which have at least as much clout as the more hidebound diplomatic and security groupings.
But in a world with English as the universal means of communication, a world linked by the internet and mobile phones, does the nationality of international civil servants and conference speakers really matter?
It does matter. They see competition between countries to attract the best entrepreneurs, the best managers and the highest earners. They see competition to notch up the best educational standards and give the next generation an advantage in the global market. National placings in all manner of league tables are keenly studied.
This is why it matters that no Briton is even deputy head of a major international institution and no Briton speaks from the platform at an international forum. It shows an aloofness, and perhaps a diffidence, presaging a future in which we British will punch well below her weight.
Tea anyone?
by David Steven | Feb 11, 2008 | South Asia
On Saturday, I wrote about the black mood that’s gripping Pakistan, with many here asking whether the country faces a descent into chaos.
So, how serious is the threat?
Very, if you believe the 2007 Failed States Index, which places Pakistan twelfth, only a couple of points behind its neighbour, Afghanistan. The country was 36th in 2005.
Pakistan’s decline is unsurprising. It sits on the modern world’s key geopolitical, religious and ethnic fault lines. Any country that borders Afghanistan, India, China and Iran is in for a hard time. Add in disastrous domestic politics and a dose of counter-productive international meddling and you’re left with a toxic brew.
But three less obvious drivers have caught my eye during a visit here. Each of these ‘hidden drivers’ (I use the term loosely) suggests ongoing trouble for the country, even if its geopolitical problems begin to ease.
First, there’s the country’s rotten demography – or more accurately the interaction between its demographics and rotten policy. Last week, I met Durre Nayab, a demographer at Pakistan’s Institute of Development Economics whose work draws heavily on the research of my sometime co-author, the economist David Bloom.
Bloom’s work (summarised here) demonstrates the demographic dividend countries can collect while they have young populations. This dividend, he has shown, accounts for around a third of the East Asian economic miracle. But it is only on offer if countries can educate their workers, employ them productively, and give them opportunities to save. At present, Pakistan does none of these things.
Durre Nayab:
The demographic dividend is inherently transitory in nature. Due to lack of prior planning, Pakistan has wasted the first 15 years of the opportunity demography has offered it…Time is running out to put appropriate policies in place, the absence of which may result in large-scale unemployment, [and] immense pressure on health and education systems.
In short, a socio-economic crisis may take place making the demographic dividend more of a demographic threat.
Then add the second hidden driver – the growing impact of scarcity on the Pakistani working and middle classes.
Pakistan’s newspapers, at the moment, are full of complaints about rocketing food and energy prices. The price of flour has more than doubled in recent times, a situation the government is trying (and failing) to control. Electricity is also in short supply, due to a failure to build new power stations in line with rising demand. A World Bank report published a few days sums up the situation.
Pakistan is one of the most water stressed countries in the world, and water resources are depleting rapidly. With its water infrastructure in poor condition… Pakistan has to invest around Rs60 billion (US$1 billion) per year in reservoirs and related infrastructure over the next five years. In the energy sector, the country will face severe power shortages of around 6,000 megawatts by 2010. Similarly, inefficiencies in the transport sector cost the economy between 4-5 percent of GDP each year.
The report is extremely pessimistic about Pakistan’s ability to correct these deficits.
Three factors are causing this problem. First, there are global factors in play, as my colleague Alex Evans has extensively documented. Energy prices are high; food and oil prices are now linked; and water scarcity is certain to increase. Climate change adds another layer of threat, both globally and within Pakistan (recent electricity shortages have been partly been down to a lack of water for hydropower).
Second, there is the Pakistan government’s total failure to develop infrastructure. More people, rising living standards, and falling prices for energy-hungry appliances have all increased demand for energy, but rulers have failed to respond to clear warnings of trouble ahead. Instead, the government is engaged in what will surely prove to be a futile attempt to keep prices low through subsidies and controls. The country is already struggling to pay its fuel bills, with the government budgeting for an oil price at less than 70 dollars per barrel, and suffering as it heads ever higher.
And finally, there is the impact of unrest, instability and out-and-out sabotage. John Robb highlights the potential damage that this type of tax can do to a fragile economy in his book, Brave New War (drawing on this analysis by James Harrigan and Philippe Martin). “Singular terrorist events (black swans), such as 9/11, do not affect city viability,” Robb writes. “The costs of a singular event dissipate quickly. In contrast, frequent attacks (even small ones) on a specific city can create a terrorism tax of a level necessary to shift to a [lower] equilibrium.” In other words, the city will be out of kilter – literally not worth living in – until it shrinks.
This effect may be underway in Pakistan’s urban centres, and possibly in the country as a whole, as insurgent attacks combine with political instability and sheer unrest to erode the country’s infrastructure. According to the Daily Times:
Violence has grown in the cities most hit by load-shedding and outages. Karachi and Hyderabad are the two cases in point. After the assassination of Ms Bhutto on December 27, there was anger and fury which vented itself on public property. Not all of the protesters were the workers of the PPP. Some were common criminals looting banks, but a large number were ordinary citizens habituated to violence through Karachi’s most cruel period of power outage in the summer of 2007.
And finally, a third hidden driver: the worrying role being played by the Pakistan army, once a source of national stability and pride. It is no secret that the army has hollowed out many, if not all, of the country’s political institutions, but less well understood is its growing economic dominance, a phenomenon excellently explored in Ayesha Siddiqa ground-breaking recent book, Military Inc – Inside Pakistan’s Military Economy (allegedly banned in Pakistan, but I found a copy on sale in a Lahore hotel).
The army, Siddiqa reports, controls bakeries and banks, fertilizer plants and television channels, shopping malls and motorway toll booths. It is also a massive land owner, co-opting state land and acquiring private land, sometimes by coercion. And of course, it can use its political and military might to protect its investments, while using its wealth to gain permanent autonomy from civilian control.
The growth of the military’s economic empire… was parallel to the increase in the organization’s political power and influence in national decision-making. As the military consolidated itself into a class, it gained greater confidence to exploit national resources and acquire greater opportunities, which benefited it as an institution and also filled the pockets of the senior generals…
The crystallization of these economic interests is a major determinant to the future of democracy in the country.
So you have an army that is engaged in banditry…hordes of alienated young people…an economy that is vulnerable to scarcity and disruption… in a country that is already prey to many other stresses. It’s a sobering outlook. For a couple of years, I suppose, the country can continue to muddle through. But corrective action is now desperately needed.
After all, you never know which straw is the last one until you hear the camel’s back snap.
by Alex Evans | Feb 11, 2008 | Global system
Time to remind ourselves that while we’ve all been cooing over Obama and fretting over NATO cohesion, the small matter of the security of the world’s financial system has continued to smoulder. At dinner with a group of hedge fund analysts last week, it was abundantly clear that just because the issue has disappeared from the front pages for a time doesn’t mean it’s gone away: au contraire, one analyst was bluntly stating that all we’ve seen so far has been no more than the trailer.
Nouriel Roubini, bearish as ever (though let’s remember that he’s been consistently right so far), asks the big question:
Why did the Fed ease the Fed Funds rate by a whopping 125bps in eight days this past January? It is true that most macro indicators are heading south and suggesting a deep and severe recession that has already started. But the flow of bad macro news in mid-January did not justify, by itself, such a radical inter-meeting emergency Fed action followed by another cut at the formal FOMC meeting.
To understand the Fed actions one has to realize that there is now a rising probability of a “catastrophic” financial and economic outcome, i.e. a vicious circle where a deep recession makes the financial losses more severe and where, in turn, large and growing financial losses and a financial meltdown make the recession even more severe. The Fed is seriously worried about this vicious circle and about the risks of a systemic financial meltdown.
So to cheer you on your way on a foggy London morning in February, here’s Roubini’s 12-step “‘nightmare’ or ‘catastrophic’ scenario that the Fed and financial officials around the world are now worried about” – which “has a rising and significant probability of occurring”. Here’s the executive summary for those of you too lazy to set up a free subscription to read the whole thing:
1. This is already the worst housing recession in US history; prices will fall 20-30% from their peak. That would imply about 10 million homes in negative equity.
2. Financial system subprime losses are now estimated at $250 to $300 billion; and now spreading to near-prime and prime, through the same lax lending criteria: “this is a generalized mortgage crisis and meltdown, not just a subprime one”. And don’t forget all the off-balance sheet Structured Investment Vehicles etc., and the fact that “because of securitization the securitized toxic waste has been spread from banks to capital markets and their investors in the US and abroad, thus increasing – rather than reducing systemic risk – and making the credit crunch global”.
3. “The recession will lead – as it is already doing – to a sharp increase in defaults on other forms of unsecured consumer debt: credit cards, auto loans, student loans.” All of which makes the credit crunch even more severe – and takes it from large banks through to smaller banks. [Loan companies are already scrambling to tighten up lending criteria in the UK, as the FT set out over the weekend.]
4. “While there is serious uncertainty about the losses that monolines will undertake on their insurance of RMBS, CDO and other toxic ABS products, it is now clear that such losses are much higher than the $10-15 billion rescue package that regulators are trying to patch up.” As a result, their debt rating will probably get downgraded; which will lead to large losses for funds that invested in them, and another sharp drop in US equity markets. [For more background, here’s a story about monolines from last week that made the front page of the FT.]
5. Next, “the commercial real estate loan market will soon enter into a meltdown similar to the subprime one”, thanks to – guess what? – similarly reckless lending criteria. So, “the housing crisis will lead – with a short lag – to a bust in non-residential construction as no one will want to build offices, stores, shopping malls/centers in ghost towns”. [FT last week: outflows from UK commercial property up 76 per cent from third quarter.]
6. It’s entirely possible that a large regional or even national bank will go bust. “The Fed will have to reaffirm the implicit doctrine that some banks are too big to be allowed to fail. But these bank bankruptcies will lead to severe fiscal losses of bank bailout and effective nationalization of the affected institutions.” [Sound familiar?]
7. Bank losses on leveraged loans are already large, and rising – “leading to a freezing up of the CDO market and to growing losses for financial institutions”.
8. “Once a severe recession is underway a massive wave of corporate defaults will take place.” Roubini adds, “in a typical year US corporate default rates are about 3.8% (average for 1971-2007); in 2006 and 2007 this figure was a puny 0.6%. And in a typical US recession such default rates surge above 10%.”
9. The “shadow financial system” – non-bank financial institutions – will shortly get into serious trouble. And unlike proper banks, “these non-bank financial institutions don’t have direct or indirect access to the central bank’s lender of last resort support as they are not depository institutions”.
10. Stock markets in the US and abroad will start pricing in a severe recession rather than just a slowdown. Roubini notes that “in a typical US recession the S&P 500 falls by about 28%”.
11. Liquidity in financial markets will dry up all over again; the easing pf the liquidity crunch after central banks’ massive interventions in December and January will reverse.
12. “A vicious circle of losses, capital reduction, credit contraction, forced liquidation and fire sales of assets at below fundamental prices will ensue leading to a cascading and mounting cycle of losses and further credit contraction”.
All in all:
A near global economic recession will ensue as the financial and credit losses and the credit crunch spread around the world. Panic, fire sales, cascading fall in asset prices will exacerbate the financial and real economic distress as a number of large and systemically important financial institutions go bankrupt. A 1987 style stock market crash could occur leading to further panic and severe financial and economic distress. Monetary and fiscal easing will not be able to prevent a systemic financial meltdown as credit and insolvency problems trump illiquidity problems. The lack of trust in counterparties – driven by the opacity and lack of transparency in financial markets, and uncertainty about the size of the losses and who is holding the toxic waste securities – will add to the impotence of monetary policy and lead to massive hoarding of liquidity that will exacerbates the liquidity and credit crunch…
Can the Fed and other financial officials avoid this nightmare scenario that keeps them awake at night? The answer to this question – to be detailed in a follow-up article [here] – is twofold: first, it is not easy to manage and control such a contagious financial crisis that is more severe and dangerous than any faced by the US in a quarter of a century; second, the extent and severity of this financial crisis will depend on whether the policy response – monetary, fiscal, regulatory, financial and otherwise – is coherent, timely and credible. I will argue – in my next article – that one should be pessimistic about the ability of policy and financial authorities to manage and contain a crisis of this magnitude; thus, one should be prepared for the worst, i.e. a systemic financial crisis.
