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Global finance: Volcker tells a few home truths

 Sydney Morning Herald - Business - Global finance: Volcker tells a few home truths

Acting under its riding instructions from Wall Street, Washington's response to last year's globe-encircling financial crisis has been one of studied nonchalance. Not so for one prominent American: Paul Volcker.

 Mr Volcker, Alan Greenspan's predecessor as chairman of the US Federal Reserve, was careful to make no overt criticism of his Government when he spoke at a closed Reserve Bank conference last week. But his profound disagreement was plain.

 He rejected the convenient US line that the crisis could be explained by the policy failings of the countries involved rather than by inherent weaknesses in the global financial system.

 And he dismissed as mere "interior decoration" the changes the US Administration has been pushing in response to calls for reform of the international financial "architecture".

 The issue we're grappling with, he said, "is whether the emerging nations of Asia, Latin America and Eastern Europe can in fact restore a strong and sustainable growth path in the context of open international markets for money and capital".

 A good point. It's the emerging economies that suffer most under the present system. Mr Volcker noted that the recurring disturbances hit the emerging economies disproportionately hard because of their inevitably small banking systems.

 The total size of banks in Argentina or Indonesia is no larger than one regional US bank. In consequence, it doesn't take more than a marginal shift of funds in the large and fluid international markets to overwhelm a small country's banks.

 But if crises are largely the problem of the developing world, why care? Well, if you see "globalisation" as a cover for a new round of colonial exploitation (and, as a foreign lender, you're confident of being bailed out by the international taxpayer whenever your loans go bad), you wouldn't care.

 The rhetoric of globalisation, however and the economic theory promises that the gains from the extension of trade and capital flows are mutual. The developing nations get their cut. There's a gap between what the US promises and what it practises.

 The reforms the US and the G7 have been prepared to contemplate are stronger national banking regulation, better auditing standards, American-style accounting practices and transparency in all things.

 All virtuous and worthwhile. But, Mr Volcker said, "what I question is whether [this] is at all an adequate response to the seemingly repetitive, and perhaps increasingly severe, pattern of international financial crises".

 US-style supervision and regulation didn't prevent a massive savings-and-loan crisis in the United States, nor a substantial threat to some of its major commercial banks at the start of the 1990s. In traditionally prudent Scandinavia, entire banking systems collapsed, saved only by direct government intervention.

 "How many occasions can you cite, I might ask, when auditors of banks ... have given timely advance warning of the potential failure of a major financial institution?"

 Mr Volcker sees [to my surprise] a general willingness to accept limited restraints on short-term capital inflows. But though he thinks this approach is sensible, he doubts its lasting effectiveness.

 So what are the important systemic issues that are being neglected? One is the willingness of the International Monetary Fund and others to provide crisis economies with "liquidity support" which is used to repay foreign lenders.

 This is unsatisfactory. "Lenders bear some share of the responsibility of volatile capital flows," he said. "They are rewarded for the risks. They should be prepared to bear more fully and predictably in the pain."

 But a greater systemic problem is the volatility of exchange rates. The relatively huge capital inflows and subsequent outflows make it impossible for emerging economies to maintain a fixed exchange rate. But floating rates are so extremely volatile and inconsistent with orderly economic adjustment that they're not a feasible regime either.

 There's been "little fresh thinking" on the exchange rate system "in the face of the rather obvious fact that [it] is gravely flawed flawed as much or more among the major currencies as among the emerging nations".

 The reluctance to deal with this unsatisfactory situation largely reflects strong vested interests. Academic economists have "a large commitment to the theorising that floating exchange rates is a means of providing almost automatic and painless external adjustment".

 "Financial institutions and professional speculators have long since learned that exchange rate volatility can offer large profit opportunities." Their sense is that `insiders' like themselves, able to recognise and `ride' even promote herd instincts, will, on balance, make money.

 "And the available statistics seem to bear that out. The losers mainly non-financial businesses are relatively silent."

 The present degree of volatility can't fit any conception of an effective exchange rate system. "It certainly bears no resemblance to the textbook description of gradual and smooth adjustment, nor to the theorising about identifying comparative advantage."

 So how will the problem be resolved?

 "My suspicion is that, in time, independent currencies for many smaller countries that wish to participate fully in globalised capital markets will disappear, in substance if not in form."

 But that's a proposal for two or three currency blocs covering the world. It's not necessarily the ideal way to organise the world financial system.

-- Brian (imager@home.com), August 16, 1999

Answers

and Japan is redenominating their currency the euro can anyone say New World Order

And didn't Volker ride this economy into the last recession?

-- Dr. Bernard Lewinsky (Monicas@dad.com), August 16, 1999.

Interesting. It is Volcker's masters who have created this "crisis", and now the implied "solution" is offered - a convergence to but three currencies. The "crisis" has been manufactured, and I fully suspect that the "solution" will not solve the crisis. As soon as all developing economies are sufficiently hamstrung, steps will be quickly taken to accomplish this "solution". Then, the economies of the three surviving currencies will be thrown into turmoil to effect the final move to a single, fiat currency.

The world once had a perfectly adequate single currency - gold. The only problem with the gold standard was that it was too clear cut, too objective, too rational, and too difficult to manipulate. That's not to say that manipulation wasn't present. The manipulations simply required more effort. The manipulators required at least partial consent and the coordinated actions of the treasuries involved in order to cheat the treasuries' constituents. Trainloads of gold had to be moved from one country to another in order to properly conduct these manipulations. Global control and extraction of wealth is nearly impossible where a country has an objective form of money and the stewards of that country's financial system will not knowingly or unknowingly participate in their own destruction.

So, the wizened elder, Paul Volcker, volunteers his "wisdom". Say good-bye to the few remaining vestiges of personal and national economic and political autonomy. Say hello to the next phase in globalization.

-- Nathan (nospam@all.com), August 16, 1999.

Excellent point, Nathan! I have never understood why a single currency has never been established. Currency exchanges make no sense. Why should someone make money over an exchange? I used to think one currency made so much sense, but now I see better: NO currency! Long Live Gold!!!!!!

-- Goldfinger (gold@standard.com), August 16, 1999.

Inflation occurs when money is created out of thin air by the Fed. Imagine how much more they could create if it is absorbed world-wide and compared only against two other currencies?

If all three currencies are inflated equally (much to their central banks' benefit), then the appearance can be kept afloat indefinitely.

The Fed has increased money supply by around 25% (according to Ludwig von Mises Institute) since 1995, yet we've had very low inflation. They were able to get away with it because many foreign countries use dollars instead of their own currencies. (Russia for example)

The other absorption was by various countries that pegged their currency to the dollar aka "Dollarization". This has allowed the Fed to have its extra money, while creating low inflation.

Unfortunately, the easy credit is still a direct effect, and causes the Boom part of the Boom-Bust. Cause and effect still operate. As long as the distortion is injected into the system, the second half of the cycle is inevitable.

What Volker (sp?) seems to want, is a central bank for central bankers. That way, another layer of pyramiding can occur - yielding even more easy credit, and disguising inflation for a little longer. It's not an accident, of course, that one of these "super banks" is his own [former] organization.

Jolly

-- Jollyprez (jolly@prez.com), August 16, 1999.

Paul Volcker stopped the inflation that built up during the 1970s.

Republicans would like you to forget that. They'd like you to perpetuate the myth that Ronald Reagan stopped that spate of inflation, even though the inflation abated before there was time for any of Ronnie's policies to affect it. They'd like you to forget that it was Jimmy Carter who appointed Paul Volcker to be chairman of the Federal Reserve Board, precisely because Carter understood what policies were needed. They'd like you to forget that Wall Street loudly applauded Volcker's nomination. They'd like you to forget that after Nixon and Ford had allowed the inflation to build up for years, there was no painless way to stop it.

Paul Volcker understood that the monetary policies of the pre-Carter FRB had failed to ccurb inflation, so there had to be a shift from the former control-the-money-supply strategy.

In the late 1970s, people in the US were adapting to the higher inflation in ways similar to those in other countries that had suffered high inflation, notably (a) rather than save ones money for the future, spend it now to buy goods before inflation raised prices of those goods and lowered the value of ones money, (b) as long as interest rates trailed inflation rates, it only made sense to borrow as much as possible, because the future value of the borrowed money was greater than the anticipated value of future money, and (c) wages were being formally or informally indexed to inflation. The trouble is that each of these sustained or encouraged more and more inflation.

Johnson got the inflation ball rolling with a "guns and butter" policy.

Nixon tried wage and price controls. (Remember, that was a _Republican_ administration that did that!) They failed miserably.

Ford tried "Whip Inflation Now" lapel buttons. Heh.

When the FRB changed its strategy from one of controlling money supply (you kiddies may not remember that far back) to Volcker's raise-interest-rates-until-they-exceed-inflation, it directly attacked the "inflation psychology".

When inflation was at 14% but interest rates were only 11%, it made sense to borrow-borrow-borrow and spend-spend-spend. Savers were losers. That's inflation psychology. But when the FRB kicked interest rates into the 22% range, ahead of the inflation running in the mid-teens, sensible people soon concluded that it was too expensive to borrow money unless they really _needed_ to.

Who helmed that FRB change of course, one that has been consistently followed from then until now? The one we now take for granted -- that raising interest rates is the way to ward off inflation? Paul Volcker, that's who.

Of course, there's no such thing as a free lunch. High interest rates led to a recession. That was the price of stopping inflation after it had been allowed to increase so far and so long.

Do those who blame Carter or Volcker for the recession at the end of the 1970s and beginning of the 1980s think there should have been some "free lunch" painless way of stopping inflation? Sorry, guys, but there wasn't. Ask Gerald Ford.

Ronald Reagan was one of our luckiest Presidents ever. In addition to ending the 120-year string of coincidences in which Presidents elected in years ending in "0" died while in office (whew!), he took office just as Volcker's policies had had time to begin showing noticeable effects on inflation. Ronnie took credit for that in the usual presidential way, but he hadn't yet done anything to deserve it -- none of his changes of policies had been implemented by the time inflation started down.

Blaming Paul Volcker for the end-of-the-1970s recession is like blaming a restaurant for charging you money for a meal they serve. TANSTAAFL.

-- No Spam Please (nos_pam_please@hotmail.com), August 17, 1999.

A-HA!!!

No Spam comes out of the woodwork to defend his fiat momey friends - how typical of you NS.

Volcker is an archon of the wickedest kind...

He is the Chairman of the Trilateral Commission, key policy organization of Illuminati: http://www.islandnet.com/~persewen/trilateral.htm

Work it out for yourselves...

You shoul be be ashamed of yourself NS for being consistently so NAIEVE!

-- Andy (2000EOD@prodigy.net), August 17, 1999.

Andy I went and looked at your link. Secret societies and conspiracies are one thing, but according to this page it was all set up by Aliens.........C'mon now.

Got tinfoil?

-- Forrest Covington (theforrest@mindspring.com), August 17, 1999.

Andy I went and looked at your link. Secret societies and conspiracies are one thing, but according to this page it was all set up by Aliens.........C'mon now.

Got tinfoil?

-- Forrest Covington

Thats a laugh. The server is in my home town. We are supposed to have the most witches in North America. Now aliens are going to have to be added to the list.

Just shows what drugs will do to you.

Andy

You sound like you have read none dare and that Quigly (s) book. Haven't heard about that stuff for almost 20 years. I am going to have to get out more.

Volcker mentions

" This is unsatisfactory. "Lenders bear some share of the responsibility of volatile capital flows," he said. "They are rewarded for the risks. They should be prepared to bear more fully and predictably in the pain."

This is the part that blows me away, why are they giving special treatment to those that fail. Let them fall if they trip eh?

-- Brian (imager@home.com), August 17, 1999.