People with money, or the professionals who manage their money, should understand that, despite appearances, the year has not started well.
No, I’m not talking from the point of view of one of the despairing or angry goldbugs, who are looking under rocks for villains when deflationary risk is right in front of them. I’m considering how much more acceptable it’s becoming for the authorities to restrict international capital flows, or even national capital markets’ liquidity.
The first quarter generated some nice returns for many hedge funds, or even for passive strategies such as S&P 500 indexed accounts. Rather than idly doodling over lists of how you might spend the year-end bonus, though, consider whether you’ll be able to move that cash from one account to another. This is becoming a fairly immediate issue for those in southern Europe, where the example of Cypriot capital controls is most ominous. But the boundaries of “peripheral Europe” seem to be expanding, and may now be drawn at the Pyrenees, the Po River, or even the Rhine.
For the past 20 or 30 years, rich Europeans haven’t had to think about whether they could move their money across national borders. Now it’s becoming a privilege, not a right. The idea that Luxembourg or Switzerland might not want their business would have been laughable in 1985 or 1990. Now it’s a fact.
It’s not just the outright prohibitions on keeping money in unfavoured tax havens (every national government has havens they tolerate), it’s the sludge of new taxes, regulations and attendant transaction costs that is most evident in Europe, but that is creeping across the rest of the world. This is increasing the real cost of capital that supports productive employment at an accelerating rate, which is reflected in the collapse of activity in southern Europe.
Think-tank people muse and publish about a transparent and responsive Scandinavian model, but actual state policy and legislation is becoming a complex, opaque and ineffectual game for insiders.
This is not just a European problem. Last week, Timothy Adams, the new chief executive of the Institute of International Finance, a global bankers’ research and advisory consortium in Washington, wrote an open letter to the IMF and World Bank about the “risk of fragmentation in a global economy”. Mr Adams went on to elaborate about what he called “financial Balkanisation”, “incoherence and complexity”, and “extraterritorial over-reach of some national measures”. Unfortunately, the policy tribes and legislators are not listening to these warnings.
US political people are particularly careless about keeping their old commitments to relatively free international capital flows, which, given the government’s dependence on continued foreign buying and holding of Treasury bonds, doesn’t seem very smart.
Still, they may be able to retain their relative competitiveness in accessing the remaining international capital flows, which are down about 60 per cent since 2007, at least until the portcullis completely closes on captive European and Japanese money.
However restrictive and badly drawn the Dodd-Frank regulations on US banks, after all, at least the Americans are willing to continue to pay for talent, and forgo financial transaction taxes. On the first point, the US banks are already planning to sop up the best of the European financial sector talent discouraged by the restrictions on bonus payments.
For reasons I don’t fully understand, the European Parliament, and, for that matter, much of the public that votes for them, believe they have been striking blows against the dominance of Anglo-Saxon bankers. Instead, they will be reinforcing the competitive position of the US, British, and Canadian banks, and shrinking the role of European banks and financial markets.
When I considered the proposed European financial transactions tax, or “Tobin tax”, last week, I thought that official sentiment might turn against it before it goes into effect, as intended, at the beginning of next year. We should remember that just because a course of action is self-destructive doesn’t mean it won’t be taken.
I do know that those dreaded US financial institutions and corporate treasurers have already prepared “workarounds” for the European FTT. For corporate borrowers in Europe, whose cost of funds would rise significantly, lawyers are already drawing up the documents for financial subsidiaries in London, Luxembourg, Finland(!), the Netherlands and New York.
These entities would issue bonds, which, being outside the 11 core countries adopting the FTT, would not attract the tax each time they were traded. Then the subsidiaries would make loans, which also do not attract the tax, to their corporate parents.
No doubt there will be countermeasures by the tax collectors in Germany, France, etc, but those in turn would create higher transaction costs, and therefore higher costs of capital. Every little step of complexity, incoherence and Balkanisation would lead to fewer productive jobs and an ever-bigger cut for politically connected intermediaries. I shouldn’t have anything against that, personally, since so many of my friends fall into that category, but I don’t think this process would lead to a stable and happy world.
In the 1980s, I spent a fair amount of time around the so-called “countertrade” and “switch” dealers in Vienna, Switzerland and London. This was a very well-paid fraternity of people with spooky connections, who intermediated trade with the state monopolies of eastern Europe and the Soviet Union. Their high life was paid for by the stagnation and depression of the working people in those countries. High margins for the fixers, but on low volumes.
I am afraid that we are heading back to that world.
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