Many financial commentators blew hot and cold yesterday with the unexpected crash in share values following the rejection by a good margin of the bailout scheme in US congress. The dreaded ‘R’ word was on every international TV newscaster’s lips after the Dow Jones Industrial Average fell heavily in trading following the announcement and shares were down across the world. Needless to remind readers that a 10 per cent drop is equated with the start of a deep recession 1929 ‘style’. We were just 3 per cent short of an official recession as yesterday the Dow Jones Industrial average was teetering on negative territory having dropped almost 7 per cent. It closed down 778 points, which is quite a freefall drop. Many agreed that the rejection of the $700 billion rescue package has caused this demoralising feeling, which plunged stock exchanges globally to their knees. The plan was criticised by Carsten Klude, strategist at MM Warburg saying it is simply not enough to overcome the crisis for the foreseeable future. Many world leaders have tried to pass a consoling word in between to calm the waters and in particular German Chancellor Angela Merkel has called on US lawmakers to pass the $700bn bailout package for Wall Street sometime this week. But this cannot be guaranteed as a lot depends on scheduling of House business. Going back to the cause of what has certainly broken the camel’s back and landed the world into a deep crisis one can only sympathise with US taxpayers who aired their objections. After all it was their cash being used to prop up institutions such as banks, which had caused the credit crunch with dollops of greed leading to irresponsible lending. But blaming others will not heal the rout suffered by top banks and financial institutions. Those incriminations should have been seen to by regulators. It is no good closing the barn after the horse has bolted. Typically, we hear another victim of the crush by the name of Wachovia. The Wachovia bank demise is the latest in a series of events that has wiped out hundreds of billions of dollars of shareholder wealth. Back to Europe and the latest casualty is the British government decision to nationalise mortgage lender Bradford & Bingley. After Northern Rock this is the second bank to be taken into public ownership this year, after intense talks failed to find a private-sector solution. Another patient in the casualty department is Fortis. The bank is jointly owned by the Belgian, Dutch and Luxembourg governments who agreed to inject €11.2 billion. At a local level, it is unwise to sound alarmist at times of financial turmoil but the sentiment in Malta is of a surreal denial. It looks like we are busy rearranging the deckchairs and fine-tuning the violas while the Titanic sinks. A case in point is The Times of Malta last week reported that it could not elicit information on the amount of damage which hit a local bank following the collapse of Lehman Brothers. The regulator was also non-committal.
Realistically, shall we stop and reflect what started this so-called credit crunch? It is only a year old although Malta seems to have been relatively unscathed. On its anniversary, we remind ourselves how it all started by the development of new and sophisticated ways for the financial markets to make and lose money. As the old adage goes, taxpayers on both sides of the Atlantic were living beyond their means, borrowing money to buy houses or mortgaging excess equity to fund their spending habits. Does this sound familiar? Yes – summer bonanza was chosen as slogan by banks who regaled us with colour adverts in most tabloids exhorting us to borrow until there is no tomorrow. Similarly the hard-sell practices of other domestic banks offered 48 hour loans and free credit under the guise of plastic money where interest can scale up to 14 per cent. Buy your dream yacht and let us talk tomorrow. Regulators went soft on banks who are the milking cows generating a welcome tax stream. A nondescript notion is the risk averseness shown by bankers.The worrying thing about the crunch for us is that there are still people who insist on clinging to the view that it will never hit us much like the famous ostrich example hiding its head in the sand. Typically the editorial of The Times of Malta of yesterday focused meekly on water sports ignoring completely the turmoil hitting the global financial scene. Is this altruistic policy of a calming nature to soothe the nerves of many Maltese investors who burnt their fingers on lost investments? It seems so, by hankering on what a certain Mr Ciantar did an outstanding show in powerboat racing at the Vigo Grand Prix of the Sea and at the Portuguese Gran Prix of the Sea Sprint. Of course the decision to focus on more light hearted news can never make us forget to think about our own financial travails and the eventual catching up. It is no coincidence that Farsons, the main brewery, has announced today a severe drop in its annual profits. It is a sign of times that as an icon and leader in Maltese manufacturing it has seen its turnover increased slightly but its pre-tax six months profit dropped to €1,520,000 compared to €3,312,000 in 2007. It is not surprising that its board of directors are in the course of implementing a permanent cost reduction programme. More goodies will be revealed this winter as banks disclose their annual results. Pundits contend that our closeted economy is resilient mainly since it relies strongly on domestic factors such as the strong multiplier effect of its property and construction sector. Some economists contend that the price of land will spiral up acting as a natural shelter for the Lm millions of undeclared currency during the euro changeover. Sheltering blindly behind our smallness will not wash since the openness of our economy is directly influenced by outside factors beyond our shores. Back to the global dimension and one meets with a lot of theories postulated as to how the crunch started and financial disasters that it has brought in its wake.
One may recall how a year ago in UK started the phenomena of long queues of depositors snaking on high street branches of Northern Rock claiming back their deposits. Everyone appreciates that the European Central bank did react positively to buttress the distress of banks by injecting billions into the money markets but it was too little too late. Hence the recent troubles faced by HBOS being UK’s largest mortgage bank which was rescued by Lloyds TSB at a mere £12 billion after its shares plummeted.
If the proposed deal goes ahead, there will be massive redundancies due to the significant overlap between staff. Lehman Brothers sealed its fate on 15 September when it filed for Chapter 11 bankruptcy protection and Washington Mutual followed suit. UBS, the biggest casualty in Europe, admitted in early July that it faced further write-offs estimated by analysts at $7.5bn . Of gargantuan proportions was the bailout of $85 billion of AIG as a major American insurance company.
To conclude, the economic crisis of 2007-2008 came as a complete surprise. Economists didn’t think such things could happen. On a local front, the newly appointed finance minister needs nerves of steel to calm the waters while preparing his first budget. His quest to balance the budget is getting more elusive given that as reported by NSO the current deficit in the end of the second quarter reached €169.2 million. We all wish him well and do not envy his ministry a bit – as they say the impossible can be performed now but miracles have to wait.
George Mangion
Partner at PKF – an audit and business advisory firm [email protected]
