World ‘still vulnerable to financial crisis’
Ex-IMF chief Dominique Strauss-Kahn said rising populism across the world is a direct result of the crisis
Ex-IMF chief Dominique Strauss-Kahn says rising populism across the world is a direct result of the crisis |
The world is less well equipped to manage a major financial crisis today than it was a decade ago, according to Dominique Strauss-Kahn, a former chief of the International Monetary Fund (IMF).
In an interview, the nowdisgraced Strauss-Kahn — who ran the fund at the height of the 2008 financial meltdown — also said rising populism across the world is a direct result of the crisis.
Strauss-Kahn resigned as head of the IMF in 2011 after being accused of attempted rape in New York, although the charges were later dropped. He settled a subsequent civil suit, reportedly with more than $1.5 million (Dh5.5 million).
When did you become aware that a big crisis was brewing?
When I joined the IMF on November 1, 2007, it became clear quite quickly that things were not going well.
That is why in January 2008, in Davos, I made a statement that made a bit of noise, asking for a global stimulus package worth two per cent of each country’s gross domestic product [GDP].
In April 2008, during the IMF’s spring meetings, we released the figure of $1,000 billion that banks needed for their recapitalisation.
Did the Bush administration grasp the danger of Lehman Brothers going bankrupt?
No, and that is why Treasury Secretary Henry Paulson decided not to save Lehman, because he wanted to make an example of it in the name of moral hazard.
Like everybody else, he considerably underestimated the consequences. Allowing Lehman to go under was a serious mistake. Especially because only a week later they were forced to save the insurer AIG, which was much bigger.
Ten years on, are we better equipped to deal with a crisis of such a magnitude?
No. We have made some progress, particularly in the area of banks’ capital adequacy ratios. But that is not nearly enough. Imagine Deutsche Bank suddenly finding itself in difficulty.
The 8 per cent of capital it has at its disposal is not going to be enough to solve the problem. The truth is that we are less well prepared now. Regulations are insufficient.
How so?
After 2012-2013, we stopped talking about the need to regulate the economy, for example concerning the size of banks, or concerning rating agencies. We backtracked, which is why I am pessimistic about our preparedness. We have a non-thinking attitude towards globalisation and that does not yield positive results.
Do we still have international coordination? Coordination is mostly gone. Nobody plays that role anymore. Not the IMF and not the EU, and the United States president’s policies are not helping.
As a result, the mechanism that was created at the G20, which was very helpful because it involved emerging countries, has fallen apart.
Ten years ago, governments accepted leaving that role to the IMF. I’m not sure it is able to play it today, but the future will tell.
Do you believe that Donald Trump’s election is a consequence of the crisis?
I believe so. I’m not saying that there was a single reason for Trump’s election, but today’s political situation is not unconnected to the crisis we lived through, both in the US with Trump and in Europe.
Connected how?
One of the consequences of the crisis has been completely underestimated, in my opinion: the populism that is appearing everywhere is the direct outcome of the crisis and of the way that it was handled after 2011-12, by favouring solutions that were going to increase inequalities.
Quantitative easing [by which central banks inject liquidity into the banking system] was useful and welcome.
But it is a policy that is basically designed to bail out the financial system, and therefore serves the richest people on the planet.
When there’s a fire, firemen intervene and there is water everywhere.
But then you need to mop up, which we didn’t do.
And because this water flowed into the pockets of some, and not of everyone, there was a surge in inequality.
Quantitative easing [by which central banks inject liquidity into the banking system] was useful and welcome. But it is a policy that is basically designed to bail out the financial system, and therefore serves the richest people on the planet.” Dominique Strauss-Kahn | Former IMF chief
The first week of September saw currency weakness spreading to more emerging market economies, as economic data of some of these countries pointed to further erosion of their currencies.
The recent downward pressure on emerging market currencies began with the currency crises in Turkey, Argentina and South Africa.
In the early stages, sell-offs in these currencies were seen as resulting from domestic economic policies and therefore were largely seen as domestic crises that had only limited economic ramifications.
Early trends in September show, as the currency crisis across countries has deepened, it is heading for a contagion, spooking investors in most emerging markets.
The spectacular currency collapses in Turkey and Argentina have put investors across the world on alert for potential currency weaknesses that could hurt their portfolios.
Suddenly everyone who has exposures in emerging markets is taking a closer look at each of these countries’ inflation, external debt and current accounts.
“Typically, high inflation, elevated external debt-to-GDP ratios, current account deficits, and/or political instability are [among others] the hallmarks of a currency on the verge of facing a crisis,” Christopher Vecchio, senior currency strategist at Daily FX wrote in a recent note.
Analysts say economic data is clearly pointing to more trouble for emerging markets currencies in the weeks ahead.
“September has started with a bang with emerging market currencies, commodities and stocks all selling off. More fireworks could be on the way,” said Fawad Razaqzada, market analyst at Forex.com.
Data clearly points to what analysts fear the most, an allout sell-off in many emerging market currencies as the market opens today. Analysts and economists say there are parallels between the recent rise of the dollar, improving US economic data and rising US rates with the ‘taper tantrum’ of 2013, when the US Federal Reserve ended its monetary stimulus programme that resulted in massive dollar outflows from emerging markets triggering a sell-off in emerging market currencies and asset classes.
Vulnerability
Most developed economies do not have much to fear from the troubles facing Turkey or Argentina, as economic and financial linkages are relatively weak. However, emerging markets are sure to get caught up in the contagion effects. The basic way to avoid the risk of contagion is to run the economy well.
“Large current account deficits, high inflation, excessive external borrowing or overvalued exchange rates create a vulnerability that can be exposed when rising US interest rates create uncertainties over access to funding,” Bank of Singapore said in a note.
“This has been the story for many emerging markets crises in the past, where financial markets differentiated relatively efficiently. Most recently, stress was seen with the Taper Tantrum of 2013, when a small group of countries with wide external deficits came under pressure as markets worried about premature Fed tightening.”
Analysts say among the Asian countries, India, Indonesia and Philippines to a lesser extent run current account deficits.
However, the external funding needs, at less than 3 per cent of GDP, seem manageable relative to the size of these countries’ foreign reserves and capacity for policy response.
“Given Asia’s limited financial and trade linkages with Turkey, Turkey should not pose systemic risks for Asia’s growth,” said Sim Moh Siong, a Bank of Singapore currency strategist.
“We expect the spillover from Turkey’s turmoil on Asian currencies to diminish over time. China/US trade war risk matters more than Turkey to the outlook for Asian currencies.”