Even the hardest of Winters is followed by Spring
Essay:
Wolfgang Gerke, professor of economics and expert in banking and stock exchanges, on
the lessons of the financial crisis.
We are currently experiencing the most severe financial crisis since the Second World War and are in the midst of a global recession. So it comes as no surprise that apocalyptical scenarios are in fashion. Yet before we buy into the negativity being predicted by doomsayers for the next ten years, it is important to question the long-term forecasts they themselves submitted at the start of 2007. Even after the onset of the financial crisis, many economic research institutes were still convinced that the problems of the banking industry would not affect the product and employment markets. It seems even economic forecasts are subject to herd instincts, often predicting continuation of existing trends in a linear or even exponential progression and ending up at dramatic positive or negative extremes. This trend illusion was supported more than two centuries ago by the British social researcher Malthus, according to whom humanity should have long since died of starvation. And the scientists and industrialists of the Club of Rome also underestimated, in their investigation into the limits of growth in 1972, the ability of mankind to correct errors and break through damaging trends using innovation.
As repeatedly shown in times of crisis, we fail again and again in our attempts to prevent the worst from happening. In light of the disaster caused, we then draw lessons from the crisis as a way of preventing similar developments in the future. Alongside their destructive force, crises therefore also facilitate structural improvements, changes in behaviour and innovation. Unfortunately, however, this does not prevent new mistakes from being made or excess indulgence, because we as humans have regained courage, converted this into overconfidence and invested in innovations that themselves sow the seeds of the next crisis.
Almost all laws of the financial market are based on lessons learned from financial market crises. The Stock Market Act, Insurance Supervision Act, German Banking Act and Investment Act are to a large extent reactions to investment fraud, insider trading, bank insolvencies, market manipulation and accumulation of risk. They remind us of spectacular speculations and cases of fraud. Indeed, there has been no shortage of escapades on the financial markets, with some key events including the collapse of “Darmstädter und Nationalbank” in 1931, the silver speculations of the Hunt brothers in 1980, the interest rate speculation of the finance broker Münemann in 1970 and the IOS scandal caused by Bernie Cornfeld in 1970. A few years from now, Lehman Brothers, the Kaupthing Bank, IKB and Hypo Real Estate will all be included in the portrait gallery of unsuccessful financial market gamblers. The Argentinian Baring crisis of 1890, the Dutch tulip crisis in 1639, the bad speculations of Long-Term Capital Management in 1998, the bursting of the Internet bubble and the collapse of the New Economy at the start of the 3rd millennium all shook the world’s financial systems. They destroyed companies and punished both guilty and innocent alike. The protagonists, followers and outsiders in the financial markets all suffered the same fate. Yet even the hardest of winters is followed by spring. So with this in mind it is still worth sowing seeds, even in difficult times.
Swimming against the current in the middle of a recession and addressing clients driven by panic requires great courage. Some have been so hard hit by the financial crisis that they simply lack the means to do this effectively. And many are still licking their wounds from the collapse of the New Economy and the plummeting price of the Deutsche Telekom share. Yet who would have thought in 2003 when the DAX was at a level of just over 2,000 points that this would increase to 8,000 points in just five years? Private investors only started finding renewed interest in the stock markets when these were set to hit record highs.
So should we already be comparing 2009 with the low of 2003? No scientists or analysts can answer this question with any degree of certainty. And anyone investing now may share the fate of those entering the market early in 2002. Yet with a long-term view of investment, acceptable rewards are certainly achievable. It is always a good idea to follow the generally accepted principle among investors of spreading risks across asset classes, but in the midst of a crisis investors would also be wise to diversify over time. Choosing the optimum time to invest, of course, remains a matter of luck, so spreading investments over several years seems prudent.
Greedy investment bankers are certainly not the only cause of the financial market crisis. The main culprits are the US government and the US central bank. They used cheap money to flood the state, its companies and citizens with a massive wave of indebtedness. Interest rates that sometimes fell below the inflation rate fuelled subprime credit and capital expenditure. In 2009, efforts to combat the crisis continue to rely on low interest rates and ever greater national debt. In the short term, there seems to be no other alternative in order to prevent the collapse. But national debt will not be paid back in the midterm. The deflationary trend that automatically accompanies recession will therefore be followed by high rates of inflation. Through indirect tax progression and demonetisation, the state will then rely on the financial illusions of its citizens in its debt management. This should be warning enough for everyone involved to prepare themselves and the investments they wish to make as early as possible. What today looks like devalued real estate and worthless holdings in companies can enjoy something of a renaissance in times of high inflation.