Opinion

Edward Hadas

BP’s governance lesson: don’t trust formulas

Edward Hadas
Jun 18, 2010 19:59 UTC

The Gulf of Mexico disaster has wrecked many reputations. BP, President Barack Obama and the whole offshore drilling business are all struggling under the weight of an uncontrolled flow of oil. A key feature of British corporate governance — a separation of the role of chairman and chief executive — is also under threat.

The two-at-the-top approach has some thoughtful defenders. Paul Myners, a high profile British critic of supine institutional shareholders, told students at Yale on Thursday that his board experience, on both sides of the Atlantic, supports the case for separation. He says a single leader can stifle “effective and challenging discussion”.

Myners does not discuss BP. But the oil company is certainly no poster child for the British way. The crisis has shown the current chairman and chief executive, Carl-Henric Svanberg and Tony Hayward respectively, to be a pair of relative weaklings.

Their predecessors, Peter Sutherland and John Browne, were both considered tough and the duo was widely admired. In retrospect, though, it seems clear they presided over the creation of a dangerously weak safety culture.

To get the split model to work, it is necessary to find chairmen who are strong enough to keep the boss in check, but restrained enough not to meddle unnecessarily. Purists also insist that chairmen should come from outside the company — if not the industry — guaranteeing a high level of ignorance about many important matters.

EU has to choose its model: Italy or Yugoslavia

Edward Hadas
May 28, 2010 21:41 UTC

The European Union has rarely looked so united. The disparate members have joined up to mount a strong defence of the region’s single currency. But the EU has also never looked so close to dissolution, divided by tensions between more and less fiscally responsible and economically successful countries. The fate of the union could follow either of two historical precedents with starkly different outcomes.

Exactly 150 years ago, on May 27, 1860, Giuseppe Garibaldi started to besiege Palermo. The city was the capital of the Kingdom of the Two Sicilies, which had lasted in roughly the same form for almost six centuries. Most of the establishment at the time, including the Pope and Emperor Napoleon III of France, dismissed the notion of an Italian nation.

The romantic nationalist Garibaldi proved them wrong. Italy was unified under the Turin-based king of Sardinia. Huge regional differences in history, economy and culture have been diminished by the flow of people from south to north and of government money and bureaucracy in the other direction. The unified Italy has survived and prospered.

Korea embargo adds to market’s political fear

Edward Hadas
May 25, 2010 21:01 UTC

By Martin Hutchinson and Edward Hadas

Investors rarely like wars or rumors of war. But for global markets, the renewed military tension on the Korean peninsula comes at a particularly sensitive time. The threat to this fairly big economy — South Korea’s GDP is four times larger than Greece’s — adds to the impression of a world out of control.

South Korea’s response to confirmation that the North torpedoed a Southern naval vessel in March seems proportionate, merited and economically minor — sanctions will hit an annual trade of only $286 million, about 0.3 percent of South Korea’s GDP. The effect on the already impoverished Northerners may even be mitigated by China, Pyongyang’s traditional ally.

In more settled economic times, markets could probably absorb this increase in Korean tension without too much difficulty. Everyone knows North Korea is dangerously unpredictable. Investors usually respond to provocative actions with only a brief flurry of worry. They sometimes even interpret aggression as desperation, and dream of potential gains from eventual Korean unification.

Greek default should not be taboo topic

Edward Hadas
Apr 6, 2010 08:46 UTC

Forget about Greece for a moment. Just think about country X, which has lived well beyond its means for years thanks to loans from inattentive or foolishly optimistic lenders. When the crunch comes, the X-people will have to cut back on spending. And the X-lenders will generally suffer from the famous rule of banking: “Can’t pay, won’t pay.”

If Herman Van Rompuy, the president of the European Council, has his way, Greece is not going to be country X despite its weak government, bloated civil service and poor trade position. Van Rompuy said on March 25 that a vague new support agreement should “reassure all the holders of Greek bonds that the euro zone will never let Greece fail”. This default taboo should be reconsidered.

True, the Greeks might manage to tough it out. But it won’t be easy, even if the EU, the IMF and foreign investors are willing to help. A near miraculous economic recovery is required: from sharp recession and falling wages to fast growth. The euro makes the task more difficult, because Greece cannot stimulate growth through devaluation.

Greek interest rates should stay high

Edward Hadas
Mar 29, 2010 21:53 UTC

Greece has come to the market again. It has successfully sold 5 billion euros ($6.7 billion) of seven-year paper at a yield of 6 percent, about 3.5 percentage points more than comparable German government debt. If politics were all that mattered, the new bonds would be a steal.

Greece clearly has political leverage over the European Union. Even Angela Merkel, the German chancellor who has been taking a hard line on helping Athens, does not want to countenance a default by a euro zone government. The International Monetary Fund is also interested in helping.

But ultimately, Greece has to make good on its existing 270 billion euros of government debt, not to mention the roughly 25 billion euros of new debt it is expected to raise in 2010. For that, the politicians need not merely a financial, but an  economic, work-out.  The constraints are daunting. On one side is the mountain of debt, set to rise to 125 percent of GDP this year. Yields on new paper are 3 percentage points higher than at the 2005 trough.

Reforms shouldn’t stop at Wall Street

Edward Hadas
Mar 17, 2010 23:00 UTC

The financial industry isn’t the only one that needs reform. The Federal Reserve, which if Senator Christopher Dodd has his way will get even more authority over the banking system, needs a transformation of its own. After all, the most senior U.S. financial watchdog missed one of the biggest credit bubbles since its founding.
But while action is called for, it’s not obvious what sort. After all, mindset, not the rulebook, was the Fed’s main weakness during the credit bubble. It had enough legal authority and political independence to fight against financial excess, but chose not to.
The politicians who are trying to redesign the national financial landscape can’t legislate a new intellectual paradigm, but they can try to avoid three pitfalls.
First, beware of the monolithic mindset. The 12 regional Federal Reserve Banks, each with its own traditions and expertise, provide a healthy check on groupthink in Washington and New York.
Second, don’t let politicians micro-meddle. The Fed needs political guidance on how to balance its objectives, but it’s healthy to have tension between a strong central bank favoring financial stability and elected office-holders primarily wanting happy voters.
Finally, beware of regulatory capture. As it stands, the two best-informed members of the board of the New York Fed are chief executives of giant financial companies: Jamie Dimon of JPMorgan and Jeffrey Immelt of General Electric. That creates unacceptable potential for conflicts of interest.
Mr. Dodd’s plan, unveiled on Monday, gets it mostly right. The regional Feds will stay, which is a plus. Bankers will be kicked off their boards. That’s good, but the plan goes too far by also banning all former bankers, whose expertise could be useful.
The plan goes wrong by making the New York Fed president a political appointment, just like the members of the Fed’s central board of governors. Politicians aren’t ideal judges of who has the technical expertise needed to sit at the center of the financial markets.
Still, one more political appointment might not be too high a price to pay for a generally sensible reworking.

Stock market rally celebrates bittersweet birthday

Edward Hadas
Mar 9, 2010 23:05 UTC

Birthdays are a good time to look back. The first anniversary of the global stock market rally — the lows were hit on March 9, 2009 — certainly brings back memories. It’s easy to see why the MSCI World Index  is 71 percent higher now than then.

Then there was a steep recession, now there is GDP growth. Then it was realistic to worry about such horrors as rapid deflation, serial banking crises and a competitive protectionism. All of those menaces have now receded. And stock market investors can be cheered to see companies sufficiently in control of their short-term destiny for most of them to meet or beat analyst expectations of reported profits.

But this birthday celebration is no better than bittersweet. The stock market rally has spluttered somewhat. While the UK’s commodity-heavy FTSE 100 index is hitting new highs, most others have made almost no progress for five months. That stalling reflects both an unexpectedly tepid economic recovery and serious worries about whether there will be much to celebrate on future birthdays of the 2009 stock market trough.

Currency buyers suffer from King Lear’s problem

Edward Hadas
Mar 1, 2010 15:10 UTC

Currency buyers are suffering from King Lear’s dilemma. Shakespeare’s monarch could not decide which of his two ungrateful daughters was less awful. What looked like a bad deal from one, permission to stay with 50 knights, suddenly seemed attractive when her sister’s alternative was a mere 25.

Trading floors may not echo with Lear’s desperate words — “when others are more wicked, not being the worst stands in some rank of praise” — but foreign-exchange dealers know the feeling.

Only a few weeks ago, they were mostly worrying that the mix of huge U.S. fiscal deficits, political gridlock and tepid economic recovery would undermine the dollar. The euro, by comparison, looked less awful. The region’s sluggish recovery and expensive currency in terms of relative prices were offset by a positive trade balance and signs of fiscal discipline.

Japan’s experience should comfort policymakers

Edward Hadas
Feb 23, 2010 22:22 UTC

The conventional wisdom is that Japan has never really recovered from the bursting of the stock market and real estate bubbles in 1990. That view is basically wrong.
Sure, prices have never recovered. The stock market is still almost 75 percent below its peak and land prices are down 60 percent. After two decades of nearly stable consumer prices, the Japanese government is once again badgering the central bank to do something to create a bit of inflation.
This appeal, like so many before it, is likely to end inconclusively. Japan will continue with its longstanding pattern of near-stable prices, slow growth and gargantuan government deficits. But the economy is basically in pretty good shape.
Sure, an annual GDP growth rate of 1 percent since 1990 sounds unimpressive. But the number of people below retirement age has been shrinking by 0.4 percent a year. Annual growth in U.S. per capita GDP over the same period was 1.4 percent – not much different from Japan.
Other economic indicators suggest Japan is managing pretty well. Even in mid-recession, car sales are only 20 percent less than at the 1990 peak. Housing starts are down 50 percent, but the population was rising then and is declining now. The 5 percent unemployment rate is modest by Western standards. And the 1.4 percent yield on the 10-year government bond hardly sounds like a vote of no confidence in the government or the country.
The country’s financial burden — gross government debt at 200 percent of GDP — could yet prove too much to bear for a rapidly aging and steadily declining Japanese population. But for now, Japan should be more a sign of hope than gloom for the United States, UK and euro zone countries that have endured a severe financial collapse.
However, Japan had advantages in dealing with a financial collapse. It has a high savings rate, a big trade surplus and a powerful tradition of cultural and political unity. Few Western countries have all of these. Most also face almost Japanese-style demographic challenges. They will be fortunate to do as well as Japan.

Markets right to take Fed move badly

Edward Hadas
Feb 19, 2010 14:30 UTC

The Federal Reserve deserves some sympathy. The U.S. central bank did everything it could to stage-manage its minimal tightening moves, announced late on Feb. 18. But markets reacted as if to serious bad news.

The changes really are small. The main one was to increase the Fed’s discount rate, which is not currently crucial to the financial system, by a token quarter of a percentage point. That widens the spread between the policy interest rate, currently zero, and the discount rate, which is used for emergency lending to banks, to half a percentage point. Before the crisis, the gap was a full percentage point.

The Fed tried to keep markets calm. It had hinted the move was coming and the press release announcing the changes started by explaining that they were a response to the “continued improvement in financial market conditions”. To hammer the point home, the Fed added that the moves “do not signal any change in the outlook for the economy or for monetary policy”.

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