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I Told You So!

The current financial crisis is perhaps the single largest catastrophe that has hit us, says the author

Over the last few years that I have been writing this monthly column, I have never till now used the 'I' word. True, yours truly expressed opinions on everything under the sun - primarily on politics and macro-economic policies - for good or for bad. That was precisely what my friend Dhirendra Kumar, who edits and publishes this magazine devoted to mutual funds, told me to do. But I never felt the need to refer to myself in the first person, that is, until now.

We are living through interesting and unusual times - sorry that was a gross understatement. We are living through tumultuous and cataclysmic times. Even if one believes that the world goes through a severe economic depression only once in a generation, this financial tsunami sweeping the globe can at best be compared to the Great Depression of the 1930s that was followed by the Second World War. Earlier, in 1907, Wall Street had collapsed in the wake of a financial crisis.

Why is this crisis different from the earlier ones and why will its impact be felt across the world, including India? First, the financial systems of all countries are today more closely integrated than ever before. Secondly, the last twelve months have witnessed wheat and rice prices doubling. Thirdly, the ice cover on the North Pole is thinner than ever before - paradoxically, while the ozone layer has depleted because of the burning of fossil fuels, global warming has enabled a resurgent Russia to find more hydrocarbon resources in areas earlier inaccessible and thus become the world's largest producer and exporter of oil and natural gas. Fourthly, stock markets across the world have collapsed despite the fact that international prices of crude oil have plummeted from close to $ 150 a barrel in early-July to less than $ 80 a barrel (at the time of writing on October 12).

Last but not the least, the current financial crisis is not merely one that started in the sub-prime housing loans market and spread across America's financial system devouring some of the biggest names in the business. This is arguably an unprecedented crisis in international capitalism, the single largest catastrophe that has hit those who blindly believed in the virtues of free market forces and its alleged ability to correct itself and emerge stronger. The year 2008 marks the demise of a kind of capitalism that was associated with Ronald Reagan and Margaret Thatcher, the working of an economic system that thought the benefits of growth would automatically "trickle down".

When I was first approached by a salesperson who wanted me to purchase a credit card in the early-1990s, I told the person I did not want to be like an American who believed in the dictum: "I owe, I owe; therefore to work I go". Then, one day in October 1991, my late father suddenly fell ill and I could not fly immediately to Kolkata where he had been hospitalized because I had to wait till the next morning before I could withdraw money from my bank. That was the day I decided to obtain a credit card.

I have been a journalist and commentator-cum-analyst on Indian economic issues (including on the working of the country's capital markets) for more than three decades now. During this period, the only shares I have possessed are the ones that were "gifted" to me as stock options by two of my former employers. Yes, I kept - and continue to keep - my savings in bank deposits, including fixed deposits, and insurance policies. My old man had bequeathed tax-saving infrastructure bonds to me. Everybody I knew, including my wife, argued that I should park at least a small portion of my savings in mutual funds, if not in stocks.

For reasons I have never been able to fully fathom, I desisted from investing in shares. I met dozens - sorry, hundreds - of people including experts on the capital markets who argued that I should better plan my future (as well as those of my children) than I had. Some of my friends and well-wishers described me as a fool. My own logic was very different. I would claim that since I was often called on to comment on the share markets and the working of corporate entities, nobody should have the temerity to point a finger at me alleging that I was talking up the market or worse, indulging in insider trading. I saw around me dozens of financial journalists who had sold their soul rather cheaply in the hope of earning a fast buck. I decided I didn't want to be like them.

I would argue that I was after all, no different than the overwhelming majority of the people of India who believed share markets were little else than a gambling den. Investments in equity shares and other financial instruments including mutual funds account for barely 8 per cent of the total household savings in the country. Statistics put out by the Reserve Bank of India indicate that this proportion has varied between 4 per cent and 8 per cent over the last few years. The bulk of India's household savings are parked in banks and post offices and depositors have no reason to fear that their hard-earned savings would disappear or diminish in value. Various studies conducted to calculate the total number of investors in India indicate that this group accounts for between 3 per cent and 4 per cent of the country's total population (or between 30 million and 40 million people).

Over the last decade or so, the mood in India's stock markets has been determined by the purchase and sale decisions of foreign institutional investors. In calendar 2007, FIIs pumped in an estimated $ 18 billion into the country; this year, the amount taken out has been close to $ 10 billion. This not only explains why the markets have collapsed but also why the rupee-dollar exchange rate has fluctuated the way it has thanks to the rush by many FIIs to purchase dollars to bail out their principals and affiliates in the US. In June 2007, the value of the rupee against the US dollar was at an all-time high of just under Rs 40 to a dollar. The exchange rate nearly touched Rs 50 to a dollar on October 10.

Since I was (and remain) an educator I would try and explain to whoever was willing to listen, the intricacies of speculation and derivatives, not to mention CDOs or collaterised debt obligations. I tried my level best to point out how bodies like the Bank of International Settlements (BIS), the Basel, Switzerland-based "grandfather" of all banks and father of central banks, were anticipating a financial meltdown. A working paper published in March by Claudio Borio of the BIS had pointed out that the "unfolding financial turmoil in mature economies…Regardless of its future evolution…already threatens to become one of the defining economic moments of the 21st century."

He wrote: "The turmoil is best seen as a natural result of a prolonged period of generalized and aggressive risk-taking, which happened to have the sub-prime market at its epicentre. In other words, it represents the archetypal example of financial instability with potentially serious macroeconomic consequences that follows the build-up of financial imbalances in good times." The BIS has estimated that derivatives trade has grown five times between 2002 and 2007 to touch a level in excess of $500 trillion - this 'shadow' economy is ten times larger than the 'real' economy of the world and five times bigger than the volume of 'actual' trade in securities backed by tangible assets.

I'm no sadist. I derive no pleasure witnessing people's hard-earned savings disappearing into thin air. My ego gets a boost when I say: "I told you so". Perhaps a better expression would be: "Every dog has its day". The canine species is in any case far superior to homo sapiens.