Book Review : The Trillion Dollar Meltdown

I just finished Charles Morris's The Trillion Dollar Meltdown which was published in January 2008. Since the book is based on an area of professional interest, I think it deserves a detailed review and not just an update.

Morris' book was one of the first texts on financial crisis to come to the market. In less than 200 pages the book covers a huge breadth of topics. Starting from the precedents and history of the recessions during the Lyndon & Reagan presidencies, it goes on to talk about the previous market crashes caused by portfolio insurance & the failure of Long Term Capital Management. He describes the current crisis starting of course from the usual CDO's and derivatives, predatory lending practices including the NINJNA (No Income, No Job, No Asset) loans, the cascading effects of high leverage at hedge funds and other financial institutions and the roles of  the raters, insurers and government bond market. He reconfirms my view that loose monetary policy at the time of Alan Greenspan was one of the leading causes of the crises. (Read my previous post here). Morris strongly approves Paul Volker's handling of the problem in 80's. But what really impressed me about the book is that it covers to the global distribution of money, trade deficits &surpluses and also reserves in countries like China, Russia & in the middle-east. By including the power of sovereign wealth fund of these countries and the recent academic debate about China's savings rate & currency valuations, the authors covers the issue from both domestic & international angles. Any review of the book must take into account that Morris was forecasting the future & not analyzing events.

But there are some drawbacks of packing too much into so few pages and shipping the first book and at some places it misses depth. But for a bird's eye of how thing went wrong and where, The Trillion Dollar Meltdown is great book. In fact I definitely recommend it for any bookshelf. Coming from the other side of the table, Morris sees huge limitations of free markets in cleaning up the current mess. According to him the only immediate option America had was to deleverage (and hopefully in an orderly fashion or things would turn really bad). With the benefit of hindsight, here is a passage from the book

The recent woes of the dollar are important for our story because they effectively take the Fed off the board. As credit crunch works its way through banks and investment funds over the next year or so, there will be no soothing fountains of new dollars coming out of Washington. The days of a universal put to the Federal Reserve are finally over.

Clearly even the best of people did not anticipate how many dollars the Federal Reserve and the government would be willing to print. Here are author's views about the $800 TARP in an interview in October 2008.

Book Update: Right now am reading 'The World is Flat' and 'Eat, Love Pray'.

Credit Bubble in a Slum ?

Far away from the credit boom of USA from 2004 - 2007, both in distance and in time.

A front page article in the Wall Street Journal states that the micro-finance push maybe creating a credit bubble in India. What started as a social initiative, caught the eyes of investors due to higher returns. Micro-finance loans have interest loans to the tune of 24% - 39% and are generally given to women (more than 90%) who are supposed to be better repayers. Apparently the RBI (Reserve Bank of India) does not regulate interest rates in this market except for advising organizations not to charge too high rates.

Today the number of lenders offering micro-finance has jumped almost 400% from 50 in 2004 to more than 200 in 2008. NBFC (Non Banking Financial Companies) have entered the fray. The loaned amount has grown from less than 0.5 million to 2.4 million. As a result, atleast in some towns and villages there are too many lenders are chasing few good borrowers and - funds loaned for starting business are being used to buy TVs or spent on marriages. Apparently in some over-crowded markets - lending practices are lax; it is often difficult for lenders to cross-check with each other or to verify the utlisation of funds. I just hope the stories of Ramanagram are not being repreated across the country.

This is not to the say that the credit needs to Rural India are being met. Rural Indian economy has very few sources of funds and an even lesser understanding of financial products. I know this by virtue spending an year scaling my organization's distribution beyond metros. It will be really unfortunate if poor lending practices deprive the region and the people their chance for development.

The article published on August 13, 2009 written by Ketaki Gokhale is titled - A Global Surge in Tiny Loans Spurs Credit Bubble in a Slum. You can read it at the WSJ website, but a subscription is needed

Banks find accounting tougher than non-profits?

An important take-away, from  last hearing of the congress committee where the nine top bank CEOs presented their case regarding the update on new loans and how the bailout funds were spent, was the banks stand that the money that has been injected into their balance sheets can not be tracked separately.

   

Have been catching up a little bit on the non-profit space these days. Interestingly this article here article explains that, what banks claim as impossible, non-profits do on an everyday basis. 

Apparently it a basic requirement in non-profit accounting to track the money received for any particular project is spent on that project only. The link here.

The article calls it, soup-kitchen accounting. Interesting right? But hold on before you blame the banks, maybe the never received the money at all. This may sound quirky but another article points that the government has been actually injecting capital into bank holding companies and not banks. With banks barely managing to stand upright, shareholders have non incentive to inject the money into those subsidiaries. Link

Maybe we all have been whipping the wrong poster boy.

Global Financial Crisis : Coach Buffet, politicians & accounting

By the looks of it Warren Buffet is playing the role of saviour, an angel investor in quite a few big companies today. 

The Washington Post article compared Buffet to the man who saved the Wall Street in 1893 & 1907 & also loaned Gold to the US government, J P Morgan.  The world's richest man (Buffet) provided $ 3 billion as new capital to GE (now it strikes me GE was actually founded by JP Morgan) on ofcourse very sweet terms. He earlier showed his faith in Goldman Sachs. Interestingly the article also mentions the Buffet as the coach, guiding the US treasury secretary Henry 'Hank' Paulson. Buffet also backed the  $700 bn mentioning that it was such a great deal, he wants one percent of it, provided the troubled securities are bought at market price.

Think he puts 'the words' to assuage the concern and the take care the interest of ordinary tax payer. If you could convince (& ensure the corresponding action) that the troubled assets would be bought at right price, this proposed 'Bailout'-please-call-it-by-other-name actually becomes the great investment of 'American tax payer money'. All consequences of the 'bailouts-please-call-it-by-other-name then actually look good. Financial institutions are ready do business with each other and the with the consumers. Companies, banks & individuals are able to borrow money at reasonable rates for short periods (not at current levels which probably are the highest in decades). Government & taxpayer make money while we have liquity in this system. Lets face it we are used to faith & trust and the use of a currency. To think of going back to the barter system is just not possible.

This brings to me another of the much debated 'MTM'  rule.  Quite a few of politicians want me to believe that the 'mark to market rule' is the cause of all failure. That all problems of the world will go away if we pretended that they weren't there. Just ask financial institutions to showcase their assets through some tinted lens that makes them look healthier. If only we could make all of them sit in a Finance & Economy class. Ok its difficult to mark assets to market when there is no market but the fact of matter is an accounting 'fix' will furthur deepen the crisis of trust. It will send the institutions deeper into our current credit contraction because the balance sheets will be even farther from the truth than they are today.

As a matter of fact, financial institutions hold a lot of their assets for investment and hence do not mark them to market. The percentage varies for example in the case of failed Washington Mutual ,  75% of the assets were not marked to market. A WSJ article this morning analyses this well but the online content is only accessible through a subscription. Hence not posting here.

The Washington Post articles are here & here

Back home, there was a run on ICICI Bank's stock & the chairman KV Kamath, RBI , Indian finance minister quickly moved to control the damage after the stock fell 22% in one week to reach the price at which it issued equity almost three years ago. The interview by KV Kamath in Mint is here. ICICI BANK - Kamath sees agenda, says bank is safe

Books Update : 1984 by George Orwell