Posts Tagged ‘corruption’

Are government interventions the first steps towards corruption & inefficiencies?

Tuesday, January 27th, 2009

The global financial crisis (GFC) has seen governments all over the world engaging in stimulus, special plans, guarantees, rescues, bailouts, nationalisation and other forms of interventions. The Australian government is no different. The first was the guarantee of all Australian bank deposits and loans. Next was the AU$10 billion economic stimulus. Then recently, there was a plan to set up a special purpose fund to help banks refinance as much as AU$75 billion worth of loans. Other plans include help for certain industries (e.g. car, construction, child-care, property sectors) cope with the global shortage of money (credit crisis). In addition, the Reserve Bank of Australia (RBA) is busy cutting interest rates. In the US and Britain, massive banks and GSEs were gobbled up through nationalisations while their limping peers have their incompetence covered by the monetary printing press. As Australia approaches a hard landing (see Realisation of hard landing ahead for Australia), we can expect what happened overseas to happen in Australia.

Among the various forms of government interventions, we have the strongest reservations against bailouts and rescues. While they ease the pain in the short term, they are detrimental to the economy in the long term. While the sting of this GFC may be soothed by each government intervention, there will always be longer term side-effects, many of which will be unintended and initially unforeseen. All these unintended side-effects will eventually accumulate and turn the GFC into a long-term economic malaise that result in a bleak future for the next generation. In other words, anyone who is concerned for the next generation will have strong reservations for today’s bailouts and rescues.

Here are some of the issues with bailouts and rescues:

Unfairness

They are inherently unfair because the government will have to act as the judge and decide which businesses/industries should live and which ones should die. Unfairness, by its very nature, implies preferential treatment. What is the government’s basis for favouring one business/industry over the other? Due to the ’emergency’ nature of bailouts and rescues, transparency over such government decisions will be in short supply. This will open the door for corruption as lobby groups and vested interests jostle and fight over the government’s preferential treatment. This is not to say that the current government is corrupt. Instead, our concern is that this will open the door for future governments to be corrupt.

Moral hazards

Bailouts and rescues introduce moral hazards because by not letting the free market punish incompetent, reckless and stupid business behaviours, they are making conditions ripe for more of such nonsense to continue. After all, why bother be good when bad behaviours are not punished?

The whole point of free market capitalism is to let the incompetent businesses be eliminated so that the competent ones can take over the incompetent ones and be rewarded. This competition forces the survival of the fittest and most efficient. By bailing out and rescuing, the government is taking precious economic resources (which is scarce in such a time) from the competent (via taxes) and awarding them to the incompetent. The net result is that the economy as a whole will become more and more inefficient. This is precisely the reason why communism ultimately fails.

Now, there are talks of the need for more government regulations to curb such nonsense in order to prevent future financial crisis. The idea is to bailout and rescue first, then come up with more rules and regulations to ‘prevent’ another global financial hazard from happening again.

The problems with rules and regulations are:

  1. Administering, monitoring and enforcing them are costly. They are a drag on economic growth as they introduce more red tape for businesses to handle.
  2. Rules and regulations may be so effective that while they prevent the bad things from happening, they cab also stifle the good things from bearing fruit too. Those entrepreneurs with brilliant ideas who have to battle government red tape to get their projects moving another step forward can relate to that.
  3. As we said before in Where do we go from here? A journalist?s questions…,

    … at the root of this Global Financial Crisis (GFC) lies the moral failure of humanity. Through this moral failure, the world is allowed to get carried away and believe in what it wants to believe.

    Rules and regulations can only work up to a certain extent because beyond that, it is impossible to legislate morality.

  4. No matter how tight and comprehensive rules and regulations are, there will always be loopholes and gaps to allow circumvention. For example, as Satyajit Das revealed in his book Traders, Guns & Money, derivatives routinely make a mockery out of laws. It has come to a point that poking holes at the legal system via derivatives has become a sport!

As we quoted Jimmy Rogers in Jimmy Rogers: ?Abolish the Fed?,

More regulations? You want Alan Greenspan and Ben Bernanke? These are the guys who got us into this situation. They are supposed to be regulating the banking system for the past 50 years. These are the guys who let it all happen. I don?t want more regulations. Let the market regulate it. If xyz needs to go bankrupt, let them go bankrupt. I promise you, that will send a very straight signal and you will have a lot of self-regulation when these guys start to go bankrupt.

If the Federal Reserve did not bail out LTCM in 1998 and let it go bankrupt instead, it would have sent a very strong signal to the market back then.

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One day, the GFC will end. But this generation will leave a legacy of corruption and inefficiency for the next if today’s governments continue to intervene in such an unprecedented scale.

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Posted in Looking Forward, Market Observations | 11 Comments »

Will China succeed in navigating its way out of the Global Financial Crisis (GFC)?

Thursday, January 15th, 2009

In our previous article, Global Financial Crisis (GFC) is real in China, we mentioned an interesting conversation with a retiree in China regarding his opinion on whether China can succeed in navigating its way out of the GFC. He believes that this local Chinese perspective on that matter is not well appreciated and understood by those outside China.

Firstly, we will introduce some background understanding. With the Chinese export industry declining significantly, its economy is facing a major crisis. Therefore, it is generally accepted that the way forward for the Chinese economy will be for it to develop its own internal consumption demand instead of relying on the over-indebted US consumers.

Here comes one problem.

The majority of the Chinese are still very poor (we add that the vast majority is poor when measured in terms of Australian dollar purchasing power). For example, we were told that some families in the nearby Anhui province are so poor that each member of the family takes turn to wear a trouser. As we mentioned before in Two faces of the China growth story,

Then there?s the other face of ?China?- the backwater rural regions. They have yet to experience much of the benefits of the prior economic growth. These rural regions still form the majority of China?s population. In other words, the majority of Chinese has yet to fully benefit from the two decades of economic boom.

How can China ramp up its own internal consumption when there are still vast numbers of poor among themselves? For these people to consume, the government has to at least somehow put cash on their hands.

Then, even if the government succeed in doing so, there’s another problem. Unlike all of us here who live in the Lucky Country, there’s hardly any safety net (e.g. Medicare, unemployment benefits, etc) in life for these people. Even in the major cities like Shanghai, their ‘medicare’ still has a lot more to be desired. Put it simply, if you are poor in China, you cannot afford to be sick.

As a result, unlike the perennially spendthrift Americans (and British, Australians, etc), the average Chinese tend to save as much as they can, just in case the proverbial rainy day comes. Given the recent history of wars, civil wars, revolutions, invasions, civil unrests, hare-brained programs and natural disasters of the past couple of centuries, this prepare-for-rainy-day idea is probably deep in the psyche of many Chinese. That explains the high savings rate of China. Therefore, stuffing cash into the pockets of the poor rural Chinese will not be enough to persuade them to spend and consume.

Then, even if the government overcome these two problems, there’s a third one- corruption. There’s where it gets interesting.

That retiree told us that in the area where he lives, the district chief was caught for corruption. That district is a very low-level one, which we understood to be equivalent to the level of a village. The amount of money involved was in the amount of around 100 million yuan, which is around AU$20 million.

Guess how did that chief hide his dirty money? The accounts clearly showed that he stole the money. But that money could never be found. Then one day, someone noticed that the floor in his house was suspiciously high. It turned out that this corrupt chief hid the money as thick sealed stacks of physical cash underneath the floorboards!

Now, here comes a crucial question: If corruption in such tiny low-level district involves so much money (100 million yuan), then how much corrupt money is still floating around in the entire country? This is a very critical question because the effects of any Chinese economic stimulus will be dampened by corruption. As stimulus money flows down from the central government to the provinces, counties and districts, corruption will siphon it away. How much will be left for the poor masses? If corruption at just the district level involves $100 million yuan, how much more is involved at the higher levels?

That retiree told us that this is the perspective of China not well understood by foreigners. He also added that the future prospect of the Chinese economy will depend on the outcome of 2009. If signs of recovery can be seen in 2009, then there’s hope.

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Posted in Looking Forward, Market Observations | 14 Comments »