EMAIL DETAILS

Saw this column in the New Yorker from a couple of months ago and it seems to give a perfect explanation as to why there is a need for a Vide like product. Not sure if anyone else saw it but wanted to share. Worth reading.

THE AGE OF POLITICAL RISK
by James Surowiecki
MAY 24, 2010
TEXT SIZE:
SMALL TEXT
MEDIUM TEXT
LARGE TEXT
PRINT E-MAIL FEEDS

KEYWORDS
Political Risk; Greece; Germany; European Union (E.U.); (Prime Minister) Angela Merkel; Bailouts; International Monetary Fund (I.M.F.)
t seems crazy: the German state of North Rhine-Westphalia holds an election, and Americans’ 401(k)s go haywire. But that’s not a bad shorthand description of what’s happened to the stock market over the past few weeks. What links the two is the Greek debt crisis and the actions of Germany’s Prime Minister, Angela Merkel, the villain of the story. When the scale of Greece’s problems first became clear, she grudgingly agreed to help with a bailout. But in the spring Germans started to ask why they should pay for Greek fecklessness and, as elections loomed, Merkel began taking a harder line in her public comments. The tougher she talked, the more skittish markets got. On April 26th, Merkel gave a speech in which she said, “Germany will help if the appropriate conditions are met,” making it sound as if that help were far from a sure thing. The yield on Greek debt immediately soared, and within days a rout was on. It may well have been the most expensive “if” in history.
The European Union did eventually come through with a rescue package for Greece and other beleaguered members, like Portugal, but the markets didn’t calm down, rallying on Monday only to nosedive again at the end of the week. The fact is, this kind of volatility isn’t going away, because we now live in an environment dominated by what economists call “political risk”—the uncertainty that businesses face as a result of government actions. Of course, government actions always affect the economy, but usually in an undramatic way: an interest-rate cut here, a new regulation there. The economic downturn and the debt crisis have given us instead a world where governments are among the most important players in markets—injecting money into economies on a colossal scale and routinely propping up, or even nationalizing, troubled companies.
As a result, investors have a vast range of new things to worry about, like voter sentiment in Westphalia. They have to try to figure out whether policymakers will do things they shouldn’t, like slash spending during a downturn, and not do what they should, which is to intervene promptly when systemic crises appear. Unfortunately, this sort of thing is inherently harder to predict than, say, how Procter & Gamble is going to do over the next few years. Last week, Mohamed El-Erian, the C.E.O. of the bond giant Pimco, sent a letter to investors saying that “the new normal” is a world in which “the public sector plays a much more influential role.” That’s a more uncertain world and therefore one in which markets will be more volatile.
Political risk is hard to manage because so much comes down to the personal choices of policymakers, whether prime ministers or heads of central banks. And those choices aren’t always going to be economically rational—witness Merkel’s recent tergiversations. Similarly, the U.S. government’s failure to bail out Lehman Brothers in 2008 seems to have been in part the result of Treasury Secretary Henry Paulson’s desire not to be seen as Mr. Bailout. Investors, then, are being forced to read the minds of policymakers—not something they’re good at. Markets work best when there’s lots of information available and a historical track record to go on; they excel at predicting things like horse races, election outcomes, and box-office results. But they’re bad at predicting things like who will be the next Supreme Court nominee, as that depends on the whim of the President.

FROM THE ISSUECARTOON BANKE-MAIL THIS
Also injecting uncertainty is the fact that, even when politicians do the right thing, timing is all. Take theTARP bailout plan. Congress rejected it the first time around, in the fall of 2008, and the Dow fell nearly eight hundred points in a day. TARP passed on a second attempt, but by then the damage was done: fear and risk aversion had spread, and the stock market tumbled fifteen per cent more in a week. The bill for the Greek bailout has ballooned as a result of similar delay. In March, people were talking about a commitment of twenty-two billion euros. By early May, the E.U. and the I.M.F. planned to come up with a hundred and ten billion euros. Now more countries need bailouts and the total cost is seven hundred and fifty billion. The initial estimates were certainly too low, but, had Merkel acted sooner, the bill could have been a lot cheaper.
Politicians do sometimes do the right thing at the right time, but that’s no easier to foresee. In 1995, with Mexico teetering on the edge of default and threatening to take down much of Latin America with it, the Clinton Administration conjured up a back-door twenty-billion-dollar loan bailout that stabilized the Mexican economy. In 1998, when Hong Kong came under attack from speculators who believed that its currency and stock market were overvalued, the government daringly put enough money into the stock market to send the hedge funds packing. And, just last year, the Obama Administration’s decision to stress-test the country’s biggest banks and require them to raise capital from private investors, rather than simply nationalize them, was instrumental in stabilizing a falling market. But in each case it was far from clear that the action would really happen—all three decisions were subject to vituperative criticism—so unpredictability still reigned.
Political risk adds new complexity to markets, and, as Nassim Taleb, the author of “The Black Swan,” recently said to me, “As the system gets more complex, it becomes harder to forecast.” Claire Hill, a law professor at the University of Minnesota, argues that investors trying to manage political risk have historically moved between extremes of “optimism and skittishness,” which sounds a lot like the current situation. That doesn’t mean you should put your money in gold; over time, even volatile markets can rise. But it won’t be a smooth ride. ♦


Eric D. Schwerin
eschwerin@rosemontseneca.com

Sent from my iPhone