De-leveraging and Lebensraum

The Government's moves to guarantee bank deposits and interbank lending is a policy bulls-eye. Whether or not deposits were safe before the guarantee is not the issue. The issue is confidence. In this crisis as in others, authorities tend to believe that denial is the best insurance, saying that banks are safe until, whoops, they're not. Now the UAE has broken from the pack by actually beginning to shore up its banking system before it starts to slide into failure. Hopefully, this will enable the country to better weather the continuing storm. Provided oil prices provide the government with a continued surplus, it will not have to dip into reserves and assets like Adia, whose treasure chest of securities is undoubtedly declining in value fast. The central bank governor offered on Sunday reasons for the continued health of the banking sector. They were unfortunately not very compelling. He offered assurances that most deposits belong to locals. So do most mortgage loans. If there is a correction in property prices, that concentration of deposits among the 20 per cent of UAE residents who account for over two-thirds of property transactions, will likely prove a weakness. Perhaps the most compelling argument he made was that most of the biggest banks are already partially government-owned. This means the taint of government ownership doesn't stand in the way of further capitalization of the banks by the state. The government should begin injecting cash into the banks now in return for warrants and a requirement that they begin reducing their overall exposure to risk assets, including mortgages for uncompleted properties. Continuing the farsighted policymaking it has demonstrated so far, it should go ahead and set up a vehicle for purchasing non-performing loans and any other problem assets. With any luck, it won't have to buy anything. But its mere existence could help improve confidence in the ability of banks to handle any downdraft coming from offshore. The risk of being a safe haven amid the storm in financial markets is a gradual return of hot money. Already, job applications are flooding in and it seems a matter of time before the deluge of foreign jobseekers and their money resumes. Inflation is likely to get worse as the money supply improves. There may, therefore, be no time like the present to re-examine the peg. For the moment, the dollar is rising, as investors flee risk and paradoxically buy the currency that is going to be printed in unprecedented volumes to finance the US bailout. So the nationalization of the global financial system continues. Taxpayers are bailing out the banks that grease the wheels of the economy. Eventually, this will come to be seen as a tax on saving nations like China and the Gulf, payment for years of having extracted wealth from people who could no longer afford it - the West. Living standards in the West may not be the same for years to come, but the wealth being lost belongs not to the overleveraged and technically insolvent American household, but to those with positive net asset values. Fortunately for them, they have something to lose. US officials appear to be preparing to offer new inducements for these saving nations - China, Japan and the Gulf - to invest in their troubled financial sector, including possible guarantees. Washington is reportedly offering such protection for Mitsubishi UFJ in its bid for Morgan Stanley. Officials appeared to be telegraphing this "all-clear' in their opinion piece published in today's edition of The National, written by Hamad al Suwaidi, a member of the executive council of the Government of Abu Dhabi and a director of the Abu Dhabi Investment Authority (Adia), Henry Paulson, the US Treasury secretary and Tharman Shanmugaratnam, the Singaporean finance minister. It would be a mistake to underestimate the gravity of the situation. The world is in the midst of a systemic financial collapse that seems almost certain now to create a global recession. How long and how severe depends on the response, but the rise in joblessness is likely to create a convulsive period for world politics. Remember that the Great Depression ended only with the rise of Adolf Hitler and the start of the Second World War.

warnold@thenational.ae