Past IMF bail-outs have encouraged risky lending in Asiaby John Plender / February 20, 1998 / Leave a comment
The capacity for collective memory loss in the banking community inspires awe and wonder in equal measure. Over the past 25 years the banks have bombed in property (mid-1970s), wrecked Latin America (1980s), bombed again in property (first half of the 1990s) and gone overboard in Asia (second half of the 1990s). Yet despite this remarkable tally the cavalry, in the shape of the IMF, has once again come over the hill in time to rescue them from the consequences of their folly. So the banks may not lose their shirts; but we lose ours, because the rescue bill falls on the taxpayer. How does this happen?
Most bankers do not actually take big punts on the cynical basis of heads-we-win, tails-the-taxpayer-loses. Moral hazard-the inducement to imprudent behaviour which results from the existence of a safety net-is more insidious. The absence of punishment for past errors slackens credit judgements without the banker necessarily recognising it. Meantime, depositors do not demand that banks maintain a capital cushion commensurate with the risks they run where they are judged too big to fail.
The problem is compounded by the loss of conventional corporate lending business to the securities markets. Bankers feel driven to explore the outer reaches of the globe in pursuit of old-fashioned credit opportunities. Growthmanship has long been imposed on them by their transformation from national utilities to deregulated profit-maximisers, fearful of losing business to the competition. Banks have thus become a destabilising influence on the world economy.
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all the same, it is possible to feel some sympathy for the bankers over the Asian d?b?cle. South Korea, for example, was a phenomenally successful economy, growing at 8-9 per cent. Yet its banks were under- capitalised and its companies over-borrowed. The whole system was short of equity capital because this made it easier for the politicians and the dominant chaebols (conglomerates) to keep control. The banks could have said that it was not worth lending to some of the world’s most competitive companies because they were financially unsound. Or they could take the view that this was how the corporate Korean system worked and if they failed to cash in on one of the world’s fastest growing economies, their competitors would.
The snag was that if their lending in foreign currency ever became significant in relation to the overall economy, they would be taking an enormous foreign exchange risk. But because South Korea (and other Asian governments) provided hopelessly misleading figures of external indebtedness, the banks could not know the extent of the currency risk they were running.
Without the IMF’s actions in Latin America in the 1980s and the Mexican bail-out in 1995, the stampede into Asia would have been less frenetic. The dangers of moral hazard can also be seen in the way French banks were among the most enthusiastic late lenders, reflecting the influence of the generous government treatment of French banks with property problems (most notably Cr?dit Lyonnais, the most expensive bail-out in banking history).
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much of the analysis of the Asian crisis lays blame on the underdeveloped state of the financial system. True, but some British observers will have had a sense of d?j? vu. The same problem, with foreign currency borrowing and a plunging currency, emerged in Britain in the mid-1970s. One of the victims was J Lyons, then still an independent catering group. Having borrowed at seemingly low interest rates on foreign currencies in the boom, it came close to breaching borrowing covenants as the value of its currency liabilities spiralled with sterling’s collapse. J Lyons’s response was to sell some of its own properties to its pension fund at valuations which gave it badly needed profits-when the property market was close to paralysis. This is the kind of deal that looks great if the company survives-in which case it involves only a temporary weakening of pension fund solvency. But if it goes under, the trustees find themselves in Robert Maxwell territory. Happily, J Lyons came through.
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how long before property is at the centre of yet another lending binge? Property is currently an oasis of good value in developed world markets which look increasingly expensive; it is the securities markets which look a more disaster-prone environment. Bond market professionals, for example, have been in a bull market since US Treasuries turned up in the early 1980s. They have been taking ever bigger punts and, despite the Fed-induced jolt in February 1994, they are more gung-ho (and less hedged) than ever. My money would be on a big US investment or money centre bank hitting the rocks in the next 18 months thanks to own-account trading, while property will provide the next d?b?cle-but-one. Unless, that is, politicians and central bankers come to their senses and tighten capital ratios to make property lending less attractive and own-account trading prohibitively expensive. An unlikely prospect.