We have already covered many of the angles of the current US and increasingly global financial turmoil in this blog, from questioning the financial architecture to the impacts of the crisis in Asia. We also looked at the role of Asian investors in helping push the US Treasury to bailout the two US mortgage finance giants, Fannie Mae and Freddie Mac. Since that time, the US Government has pursued or arranged a number of other bailouts in the financial sector. Now, the US Congress is considering authorizing the US Treasury to purchase “toxic” assets of financial institutions up to a ceiling of US$700 billion in value to help these institutions recover from this crisis, stabilize the financial markets, particularly the mortgage market, and get credit flowing again into the economy. This is truly new territory and being done on an unprecedented scale.
But, what lessons are being drawn by Asian policy makers from this recent de facto nationalization of some large financial institutions and the active intervention of the US Government in the financial system? Can we expect more government intervention in financial markets in Asia where many governments already have a heavy hand? Will governments in the region maintain and even increase state ownership of financial institutions? Is it worth the cost to taxpayers to intervene, especially if the goal is to prop-up market prices? Ultimately, who will gain from such market bailouts?
Although the lessons from this crisis will take some time to be fully understood because we are still in the middle of it, it seems that Asian financial policy makers are already taking actions based on their interpretation of events and addressing some of these questions. There are five basic lessons (and there are many more to come) from the US that Asian policy makers can learn from and apply now.
The first lesson is on the purpose of government intervention. Most recently, actions have been considered and in some cases, taken to bolster sagging stock markets. In the past few months, Asian governments – ranging from Vietnam to Taiwan – have considered establishing “stabilization funds,” to help maintain stock market prices as Hong Kong did in 1998. However, this none have done so yet and given the scale of most of the markets and loss of capitalization this year, it would be an extraordinarily expensive form of intervention. Instead, more targeted actions have been taken, most recently in China. The Chinese Government ordered its sovereign wealth fund, the China Investment Corporation, to buy shares in the three largest listed state owned banks to bolster market confidence and break the negative cycle – the domestic markets are down over 60% this year alone. However, propping up stock prices has not been the over-riding goal of the US Government actions in the market. The principle objective was to stabilize the financial system with primary focus on the mortgage markets, as well as the general credit markets, both of which have immediate economic impacts. Thus, this lesson might be misinterpreted in Asia given that the stock markets in emerging Asia have dropped by about 37% this year alone with little apparent spillover into the wider economy.
The role of the Government in directly owning and managing financial institutions is a third lesson area. It may appear that the US Government has gotten itself into the business of owning and managing financial institutions, from Fannie Mae and Freddie Mac to American Insurance Group, but fundamentally this is not the goal. This sentiment appears to be gathering steam in China. Again, these aggressive interventions are intended to shore up the health of financial institutions and return them, or some of their assets, back to the private sector. The issue for most of the recent institutional failures in the US was not one of ownership, but of inadequate risk management, skewed incentives, and limited regulation and enforcement among others. The exception are Fannie and Freddie, both of which had a bizarre status as a “Government Sponsored Enterprise” with no government ownership, and now under the Government bailout they are effectively government owned and their final status is unknown. However, it would be a misreading by Asian policy makers that the US Government’s actions represented an “end to capitalism” as has been hyped in the media and some commentators, and a shift to state ownership.
A fourth lesson that is not being talked about much, but Asian policymakers would be wise to take into account, is the need for developing a framework for financial crisis management and resolution. Such plans would include the criteria for government intervention if and when it is needed, as well as the triggers and thresholds for specific types of actions. The one thing that seems to be clear from the crisis in the US is that the ad hoc policy responses deployed thus far have not worked to resolve the problems or decrease market uncertainty. Therefore, Asian financial regulators, central banks, and ministries of finance now have the opportunity to be fully prepared and avoid some of the problems encountered with the US Government responses to the current crisis.
The fifth and final lesson is on the “big picture” – the new financial regulatory and supervisory architecture, which will likely be under discussion for some time. It is simply not clear what models, approaches, and types of enforcement are most effective going forward. But, these are areas where action tends to be relatively slow for good reason as they are the most fundamental to the sector and require a high degree of politics as well. Thus, Asian policy makers may want to take a wait and see stance on these broader issues before taking any action because no one knows when the crisis will end!
The bottom line for Asian financial sector policy makers seems to be to take some of the early lessons of this crisis under consideration now, but to take a slow approach towards some of the bigger picture issues at hand. The crisis is still unraveling before our eyes, but in due course we will all soon see the results on the topics discussed here and hopefully, we can all learn some positive lessons from them to avoid repeating the same mistakes in Asia and elsewhere in the world.