As financial systems and economies worsen, innovation comes from an unlikely source

After some apparently good news yesterday, the news today has turned distinctly sour.

As stories in the FT show:

  • The world’s financial systems still seem to be getting worse, not better
  • European solutions seem to be tinkering at the edges
  • The ‘real’ economy is becoming increasingly volatile
  • Innovation is needed

The world’s financial systems still seem to be getting worse not better:

A new prime minister has been appointed in Italy but “There is no real recovery today, no turnaround in sentiment. It feels like people are having to liquidate positions and there is no one willing to take the other side of that — there is no real marginal buyer.”

At the same time the situation in other European countries is worsening: Spain’s borrowing costs rose (bringing the margin that the country pays in excess of Germany to a new, euro-era high); and France’s economy is “poised on a knife-edge”, together with its triple-A credit rating.

The fate of Europe’s governments and banks are inextricably linked: the banks fund the government, and government bonds provide the major assets of the banks. This has been used as an argument that the banks are “too big to fail”, but a different perspective shows that Europe’s largest (not smallest) banks are now “too big to save.” So argues Jim Millstein (previously of the US Treasury) who says that the largest banks need to be broken up, and governments and banks both need to find new sources of credit — and those who provide it will acquire fire-sale assets.

The US banking system is being criticised as being “too free” and making the US political system ‘dysfunctional’. While the IMF is warning that the Chinese financial system is facing a “steady build up of vulnerabilities.” (China has missed its 10m unit affordable housing construction target — an important swing factor in commodities markets.)

And as the leading banks take steps to address their own balance sheets, it looks as if this will lead to credit crunches in Eastern Europe and other emerging markets, with economic disruption ‘inevitable’.

European solutions seem to be tinkering at the edges:

European regulators are to crack down on traders who fail to settle deals within the prescribed time, and will harmonise those times down to the two days currently used by Germany.

Brussels wants to gag ratings agencies from saying what they think about sovereign debt — but only in ‘exceptional circumstances’, you understand. Thankfully some EU commissioners are protesting on the grounds of free speech and fundamental rights. (And frankly, if a gagging order were invoked, the situation would be pretty clear anyway — except perhaps to the population of the country concerned.) [Note: These plans have since been shelved, though plans to aggressively reform the business models of the agencies continue.]

And Angela Merkel is still calling for stronger political union and a radical change in thinking. “The task of our generation is to complete economic and monetary union and build political union in Europe… That does not mean less Europe, it means more Europe.” With respect, that does not sound like radical thinking — it sounds like more of the same.

The ‘real’ economy is becoming increasingly volatile:

The price of iron ore continues to be volatile, rising 20 per cent in two weeks, having fallen 36 per cent between early September and the end of October. (Both changes were driven by changes in demand in China.)

German road-builder Hochtief has been hit by Greek motorists refusing to pay tolls on roads it built in the country, leading to “major shortfalls in income.”

EDF is worrying that a change of president in France next year would cut nuclear electricity generation by a third by 2025, significantly affecting EDF’s operating profit.

A find of around a billion barrels of shale oil in Colorado seems like a lot, until you realise that it is equivalent to only 50 days of US consumption. And this is “one of the largest discoveries anywhere in the world in recent years”. Given the environmental costs of production and consumption, it seems that the third leg of the current system (along with government and banking) is completely unsustainable.

Innovation is needed:

The Occupy Wall Street camp has been removed by Mayor Bloomberg (whose girlfriend happens to be a director of the company that owns Zucotti Park). A former director-general of the CBI and editor of the FT says that “capitalism may be approaching some kind of tipping point. Public support for free markets is based on two broad arguments. The first is that they deliver more efficient outcomes than the alternatives. The second is that over time they create increased prosperity for society at large.”

“Both these assumptions have taken a severe jolt in the past few years. We now know that the efficient market theory is for the birds, and that market failures can have devastating consequences for wide sectors of the public. We also know that the fruits of economic success have become increasingly unevenly distributed.”

“Capitalism has adapted to changing political and social pressures in the past, and now is time for it to do so again.”

Innovation, as this piece says, is all about the customer.

And as this story about Lipton tea relates, there was [is] an opportunity to win market share by making the brand 100 per cent guaranteed environmentally friendly and socially sustainable.

If one brand can do it, so can and industry, an economy.

That is the solution, the way forward.


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