State of Play | David Taylor | Finance News Network

State of Play

by David Taylor

The current economic climate reminds me of the game Hungry Hippo. You'll come across it at most major fun parks or video arcades. I used to play it with my brother as a kid. You essentially stand in front of a panel waiting for the hippo heads to pop us. When they do, you whack them over the head with a padded mallet. The trouble is, once you successfully whack one, three others pop up at the same time. It becomes overwhelming as the more hippos you whack, the more hippos seem to jump up at you.

With so many issues now to address on the international macro-economic stage, it's easy to get lost. I think it's useful to focus on two aspects of the situation at present.

The first is to remind ourselves of the basic problem. That is, asset bubbles and debt. The debt problems of the US were exposed when the housing market collapsed (bubble burst). The problem was so large, it brought down entire investment banks. The risk of a complete banking sector collapse meant that the governments and central banks around the world had to step in. That created moral hazard - which is why Lehman Brothers was eventually allowed to collapse. Now, governments who have been reckless with their spending over the past decade have been caught out. They've essentially run out of money. The solutions have included printing more money and becoming more fiscally responsible, but there's more to it than that - including the fact that some economies have been 'trashed' by recent events and risk slipping into recession because growth has stalled to a crawl - as investment dries up and consumers go into hiding.

So where are we at now? Well I was reading an article in The Australian this morning that contained two sentences that really capture what's going on. The first is this:

"Now the focus is on the ability of Europe's major banks to withstand the shock of a sovereign default in the euro-zone."

As mentioned, some governments have been caught 'napping'. Greece is one such government. A Greek debt default would have major ramifications for the private banking sector. That's a problem that's currently trying to be addressed. Solve that problem and you help prevent another financial crisis.

The second is this:

"Both Mrs Merkel and Mr Sarkozy face political pressures that are becoming increasingly enmeshed with Europe's search for a solution to the euro-zone debt crisis."

We've seen the gradual build-up of the political rally to hit Wall Street and there's also been rioting in the streets in Greece - not to mention the civil unrest in Britain earlier this year. Fact is the 'rich' don't want to have to foot the bill for those who have been irresponsible (or just run into trouble through no fault of their own), but political leaders the world over are afraid that, if they don't, the not-so-well-off, or financially weak, will drag everyone down with them. It creates the potential for more moral hazard but as yet no one's come up with a better solution.

At this point, the medium term solution to this on-going crisis may be to accept an outcome which is the lesser of two evils, or the least painful of two options - even that though may be a luxury we can't afford.

One thing is for sure, there are still some very wealthy companies and individuals doing a lot more than just surviving this crisis (especially on Wall Street)... that's a moral issue that needs some very careful reflection as part of any meaningful plan to navigate ourselves out of this mess.

David Taylor

Disclaimer

The content in my blog is non advisory, please do not interpret this as advice in any way shape or form. These are just my thoughts and nothing I say should be acted upon.