ANALYSIS:State-issued currencies, bonds and guarantees are now the only acceptable repository of value, writes Tony Kinsella
THE SHELVES of our local supermarket were well stocked and the electronic payment system worked. Such routine banalities have (almost) become newsworthy, which says a lot about just how extraordinary the world in which we find ourselves has become.
As each morning's news reports that yesterday's impossible has now happened, even banalities are worth a second glance. That the retail distribution system continues to operate is almost as amazing as California being virtually bankrupt. If California was an independent country it would be the world's ninth largest economy, yet it cannot borrow the $7 billion it usually needs at this time of the year. Governor Schwarzenegger is sounding out the federal government about an emergency loan.
The UK's New Labour government has partially nationalised the country's banking system, with the support of the Conservative opposition. Angela Merkel was openly critical of the Irish Government's move to guarantee bank deposits - until the impending crash of Germany's Hypo Real Estate mortgage bank forced her to offer something very similar. Then Josef Ackermann, the chief executive of Deutsche Bank who used to champion unfettered capitalism, started calling for a governmental rescue package.
The economy of Iceland, among the world's oldest republics, hangs by a thread. The country's three biggest banks, Kaupthing Bank, Landsbanki and Glitnir, were portrayed, just a few short weeks ago, as trailblazers of the new global economy. Collectively, they held assets worth €94 billion. As this is more than 11 times Iceland's gross domestic product (GDP), those assets were financed by borrowing on world markets. When global liquidity dried up, the Icelandic banks changed from market-makers into headless chickens, flapping their wings although actually dead.
It is tempting to dismiss Iceland's misadventures as tragicomedy, an economic version of The Mouse that Roared, a country of some 320,000 people (roughly the same as Cork and its immediate surroundings) borrowing €94 billion.
Two chilling realities quickly freeze the mirth. The first is that the investments of the Icelandic banks were largely sound. Like Northern Rock in the UK, their lending was far from unreasonable. Their Achilles heel was that their loans were funded, not by deposits, but by borrowing on the world market. Once banks refused to lend to other banks, they were dead.
The European Central Bank provided Iceland with some operating credit, while the central banks of the other Nordic countries assemble a €10 billion package and Reykjavik negotiates a €5 billion loan from Russia. This, and further assistance, should be adequate to keep the Icelandic economy operational while its government sorts through the rubble. In time the authorities in Reykjavik will most likely recuperate much of their former banks' assets. An Icelandic request to join the European Union has become a political probability.
If the rest of the world can, with a little effort accompanied by a shredding of the rule book, bail out Iceland, it is doubtful whether it could so easily digest a 20 times larger rescue of Swiss banking. The Icelandic ratio of bank assets to GDP was 11:1. The Swiss equivalent is around 5.5:1. The two largest Swiss banks, UBS and Credit Suisse, have assets of just over €2 trillion, while Switzerland's GDP stands at €332 billion and rumours about UBS refuse to go away. Sacrosanct rules and long-established reference points are being swept away by seemingly irresistible torrents of change. The process has become so rapid that even radical analyses become redundant almost as soon as they are put forward.
US author David Rothkopf, a former member of the Clinton administration, last March published his controversial book Superclass - The Global Power Elite and the World They Are Making. The book argues that the world's six billion people are governed by an elite superclass of 6,000 individuals. This superclass, he argued, has helped create complex financial instruments that replaced currency as the primary repositories of "value". These are not issued by governments, most are not regulated, and the risks associated with them are hidden. Research among big US institutional investors reveals that over 80 per cent of staff felt their boards did not understand the risks inherent in the portfolios they were responsible for.
The argument that corporate bonds and share certificates had replaced currency as the repositories of value made for interesting debate last March. Today, just eight months later, events have rubbished it. Currencies, particularly the US dollar and the euro, and government bonds in those currencies are where liquid wealth now finds refuge. Banks refuse to lend to other banks, but are relieved to lend to governments and central banks even when the return on such loans is close to, or below, zero.
Once civilisation moved from barter to currency, monies tended to blend inherent wealth with symbolic guarantees. Babylonian and Egyptian coins were struck in precious metals. The coin was literally worth its weight in gold - a value confirmed by the monarch appearing on the coin.
In the next incarnation, money became a token backed by gold. The coins and notes could, theoretically, be redeemed for their equivalent in gold. This gold standard was amended at the end of the second World War to a system where currencies were convertible into US dollars, while the dollar remained convertible into gold.
The late president Nixon, under pressure to finance the Vietnam war, ended this dollar convertibility in 1971, ushering in floating exchange rates based on perceptions of a country's economic performance and stability. This confidence-based system of value was, briefly, challenged by stock market instruments, but that challenge is now buried in the rubble of Wall Street. State issued currencies, bonds and guarantees are now the only acceptable repository of value. And what stands behind those notes? We, the people. You and me. Now there's a sobering and decidedly non-capitalist thought.