Financial crisis still not over seven years after Lehman Brothers

"The only thing we have to fear is fear itself." This was Franklin D. Roosevelt's assurance to the US electorate when sworn in as president at his first inauguration in 1933. Unfortunately, he was wrong.

The United States remained mired in depression for another nine years, until bailed out by World War II. Fear was not the culprit. Mismanagement, misjudgments and ignorance all made significant contributions to the Great Depression of the 1930s.

The Great Recession - the one we were not supposed to have - is now seven-years- old and, despite the best efforts of an army of professional economists, recovery remains tentative. Unconventional monetary policy has driven interest rates down around the world. In some cases yields are negative.

The latest iteration of US growth released last week revealed the economy contracted in the first quarter. China's central bank reported last Friday that its economy faced increased downward pressure this year as domestic levels of debt continued to rise. China, along with Britain and the emerging markets, recorded weak performances in the first quarter. The impact of this recession has spread to every corner of the globe.

Australia had the enormous good fortune, for six of those seven years, of being the supplier of raw materials for China's unprecedented infrastructure capital expenditure programme. That lucky escape appears to have nurtured a complacency gene in our national DNA. The odds on retaining this intact well into the future are very long.

Given the current finely balanced nature of the global economy, along with the rapid emergence of geopolitical issues, our political leaders are experiencing a bumpy ride down the learning curve. Balancing our relationships with our long-term ally, the US, and our relatively recent economic dependence on China's appetite for our raw materials is a case in point.

One of the features of this recession has been its preoccupation with financial markets. As one of the root causes of the whole crisis was the mispricing of debt, the concern with capital markets is understandable. It is reinforced by the emphasis placed on monetary policy. In the US this development was adopted because congressional opposition to deploying fiscal policy was not forthcoming.

Much the same reasoning was behind the use of monetary policy in the eurozone. However, putting aside Greece, if you had to predict where the next crisis would occur on the recovery road, the educated answer would probably be "market illiquidity". Nouriel Roubini, a New York-based economist who rose to fame via his accurate calls during the early phases of the recession, describes the present situation as being a "liquidity time bomb". Unconventional monetary policies have created a massive overhang of liquidity.

A series of recent shocks in financial markets involving high-frequency traders and sudden steep falls or flash crashes has raised the question of whether these markets are deep enough to handle the investing of professional traders when they engage in herding behaviour.

Roubini wrote in The Australian Financial Review on Tuesday: "This combination of macro liquidity and market illiquidity is a time bomb. So far it has led only to volatile flash crashes and sudden changes in bond yields and stock prices.

"But, over time, the longer central banks create liquidity to suppress short-run volatility, the more they will feed price bubbles in equity, bond and other asset markets. As more investors pile into overvalued, increasingly illiquid assets such as bonds, the risk of a long-term crash increases."

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Max Walsh


Max Walsh was for many years one of Australia’s top economic and political commentators, highly regarded as a journalist, author and broadcaster. Throughout his career, Max was involved in all dimensions of the media industry, which has encompassed positions with two of Australia’s largest publishing companies and television networks.

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