Stephen B. Young, "Caux Round Table" – Immoral capitalism caused the US economy crash

(Stephen B. Young)

Judging by the business cycle curve, every large crisis is followed by the period of recovery and prosperity. Rehabilitation of the global economy will start at the time of the biggest losses, and USA, according to the expectations, will “touch the bottom” in mid-2009. In the following period, Barak Obama’s Government will pump between 500 and 700 billion USD into the market to stimulate consumption, while USA’s overall aid will reach the amount of approximately 7,000 billion USD, which equals half of the US GNP. In that way, the country that was built on the idea of free market now turns to a special type of socialism.

- The basic principles of capitalism are endangered. The thesis that the mutual trust among the people guarantees successful operations was proved wrong when the trade in mortgage loans, that is, promises, suffocated some of the most powerful finance institutions – says professor Stephen B. Young, the Executive Director of "Caux Round Table", the network of business leaders who work on promotion of moral capitalism.

- Wall Street is dead. It was killed by well-paid and experienced experts who work there and who, led by greed, did not think about the consequences of approval of huge number of mortgage loans. It is the same as if you were building a house without cement, using only bricks. You can build few floors, but not a skyscraper, that is, you can build a skyscraper, but it will fall down on you, and exactly the same thing happens to American economy.

eKapija: About 75% of US citizens believe that greed and lack of trust among the managers were some of the main causes of financial crisis. How do you explain that bond?

- In the financial system that was created in the USA, as well as at global level, there was not enough pressure from the good, positive, side. People became selfish and interested in satisfying only their own needs. And when you are thinking only about your own benefit, you are not thinking about the future or the effects of such behavior on other people, and you keep forgetting that your actions cause reactions. Let’s take the sale of a bad car as an example. As a seller, I am only thinking how to sell that vehicle to you, regardless of whether its brakes are good. The same thing happened with mortgage loans that caused the crisis. People were taking money in exchange for promises that all their debts and interests would be repaid in the future. Mortgage loan is the same as any other product. It used to be good in 2000, 2001, and 2002, because the people who took the money at that time were able to return it later.

eKapija: When and why did mortgage loan become "bad merchandize"?

- That happened because the contract parties were exceptionally greedy. Since the prices of real estates were constantly growing, the buyers were trying to buy properties without paying attention to their own financial capacities and the real prices of real estates. On the other hand, the loans were approved to all those who applied, even to the people with bad credit history and to those who submitted false personal documents. I know about the case when a taxi driver from Santa Monica got the loan in amount of 1m USD based on alleged annual incomes of 100,000 USD, which is an incredible amount of incomes for a taxi driver. The basic criteria for the approval of loans were personal interest and possible profit.

The bank that gave the money got the promise that that amount would be returned some day, along with the interest, and then it sold that promise to someone else, that is, to the next link in the chain of trade based on trust.

eKapija: How did the mortgage loan trade chain develop?

- At first there was a bank or similar financial institution, which was the first to offer real estate loans. Having approved sufficient number of loans, the bank would group the loans, 100 or 1,000 of them, and create new financial product, so-called MBS (mortgage backed security), and we call this process securitization. The next step was the sale of this financial product to the third person in the secondary loan market. The "new owner" would then divide that product and sell it further by creating financial products called CDO (Collateralized Debt Obligation). Such products can be determined by the risk and the maturity date. The higher the risk, the higher the CDO. In principle, the guarantees for all these derivatives were real estates whose prices were unrealistically high. Thanks to these sophisticated financial products, the property loan risk spread through the chain and every link transferred it to the next participant. Those who were buying promises became aware of the risk and tried to secure their investments. That is why so-called Credit Default Swaps (a type of insurance) were bought. Insurance companies, such as AIG, were selling the insurance and hoped that they would not have to pay the claims since they were investing the money they obtained and did not have it. Gambling was not a profitable business, the trust was a bad merchandize, and the system started to crack.

eKapija: When was the avalanche triggered ?

- Fear triggered the crisis in 2007. Suddenly, everybody realized that the promised repayments of debts in the future, the foundations of the system, were impossible. The true value of the portfolio was unknown. The banks that had granted loans registered an increasing number of unpaid debts because the creditors were insolvent and started returning the properties they had bought. That happened to "Citibank". "Lehman Brothers" was destroyed because the huge number of its claims remained unpaid. People started losing confidence in institutions. The banks needed money, and the only sources of incomes were new debts. Insurance companies, which did not count on the avalanche effect and such big payments, were destroyed as well. In the end, the losses were much bigger than the profits. "Morgan Stanley” and “Merrill Lynch" made profits of 700m USD each, but their losses are now significantly bigger.

eKapija: The US Government has started to intervene. Do you think that it will manage to prevent further deterioration of the economy?

- I believe that such thing is possible. They are not going to stop the crisis, because it is already there, but various interventions will, probably, prevent recession. The new government will pump between 500 and 700 billion USD into the market in order to promote consumption. It is necessary for us to reach the lowest point of the curve that represents business cycle because it shows that every depression is followed by recovery of the economy. The only question is when we are going to touch the bottom. Most people think that that will happen in mid-2009, which will also be the period of the hugest losses. However, it will take much time for the people to regain confidence.
eKapija: Following the large growth of property prices, Japan first experienced collapse and then fell into recession that lasted for more than a decade. Should the United States expect similar situation?

- I don’t believe that that is going to happen, although many people fear such a thing. The American press often writes about that. There is one aspect of the Japanese economy that is often overlooked, and that is - culture. The Japanese have a specific business culture based on an incredible solidarity between the people and their devotion to the company they work for. There was no bankruptcy in Japan in the 1990’s because the owners could not just close the company and send the workers home. Their companies registered huge losses, but they did not dismiss the workers. Companies behave as if they were big tribes and, for example, there is the Mitsubishi tribe whose “members” are firmly attached to each other. The crisis in Japan was, therefore, very specific because they did not have the right tools for recovery at their disposal since dismissals were out of question. The USA and other countries around the world do not behave like that and each day we read about new layoffs that are followed by the sale of property of bankrupted companies. Therefore, the crisis in these countries will be different. It will be much harder, but also much shorter.

eKapija: Who can serve as a model for us?

- We should, in principle, stick to the norms of the International finance community. We should listen to the recommendations of the people from the International Monetary Fund, the World Bank, etc. What is, also, very important is that the access to information should be enabled to potential foreign investors, as well as to other participants in the market. If the subjects have the information, they will know where the risk lies and you will be able to reduce possible negative consequences of certain transactions. You must be smart and avoid doubtful and risky business. That is a good basis for the development of moral capitalism.

T.S

City Bank & Trust Company New York

IMF Washington D.C.

Međunarodni monetarni fond-MMF Beograd

IFC

Svetska Banka-WB Beograd

Merrill Lynch & Co., Inc. New York

Morgan Stanley New York

Mitsubishi Electric Corporation Tokyo

Stephen B Young

Caoux Round Table

Barak Obama

Lehman Brothers

MBS

mortgage backed security

securitization

CDO

Collateralized Debt

Obligation

Credit Default Swaps

AIG

Santa Monika

mortgage loan