Look back in anger at the spirit of the age


Every era spawns financial follies. Every era spawns observations that, with hindsight, protagonists wish they had not made.

Every era spawns financial follies. Every era spawns observations that, with hindsight, protagonists wish they had not made. The best of these remarks encapsulate the prevailing, though transitory, mood of the times.

The 1950s and 1960s represented a golden economic age. Developed world economies grew steadily and in many cases rapidly. That era was captured in UK prime minister Harold Macmillan’s slogan: “You’ve never had it so good.” US President Dwight Eisenhower, who rivalled George W. Bush in eloquence, put it more discreetly: “Things are more like they are now than they ever were before.”

In the 1970s, this complacent order was upset by the oil crisis. Banks recycled global surpluses and deficits, lending extensively to developing countries. Walter Wriston, then Citibank’s cerebral chief executive, explained the logic: “The country can’t go bankrupt.” Almost immediately Argentina and Mexico repudiated their debts and, within a short time, most of Latin America followed. Countries couldn’t go bankrupt but that didn’t mean they need pay. It became apparent that the absence of an effective framework for handling sovereign default was a problem not a source of reassurance for lenders.

So in the 1980s lenders turned their attention to the expansion of domestic credit. Personal sector borrowing began its dizzy rise and Michael Milken of Drexel Burnham Lambert invented junk bond financing for flaky companies. Mr Milken explained that he was motivated by a deep sense of social responsibility. “I would not have been true to myself if I didn’t use the tools I had to try and raise capital for these people. If you say to me what characterises Drexel, it’s a commitment to helping people.” Australian entrepreneur Alan Bond expressed the spirit of the age: “It’s not how rich you are that matters, it’s how much you can borrow.”

But soon Drexel would be bust and Messrs Milken and Bond in jail. The focus of fashionable folly would switch to the stock market; in 1996 Alan Greenspan, then chairman of the US Federal Reserve, described its mood as “irrational exuberance”. But he would soon be converted. The heroine of the age was the internet goddess, Mary Meeker, who explained that we lived in “a brave new world for valuation methodologies”. “It really is land-grab time.” Chiding Mr Greenspan, she would say that: “This is a time to be rationally reckless.”

How to sum it up? Perhaps, in the frequently rediscovered aphorism attributed to many different people: “The four most expensive words in investment are ‘This time it’s different’.” Or perhaps, in the words of Ernst Malstrom, architect of Boo.com, the most lavish spender among internet start-ups: “Are you sure it was a dream?”

Mr Malstrom would be echoed a decade later by Dick Fuld, the last CEO of ill-fated Lehman Brothers: “I wake up every single night wondering what I could have done differently.” But much had happened in the meantime. Mr Greenspan described the new world in 2002: “The use of a growing array of derivatives and the related application of more sophisticated methods for measuring and managing risk are key factors underpinning the enhanced resilience of our largest financial institutions. As a result, not only have individual financial institutions become less vulnerable to shocks from underlying risk factors, but also the financial system as a whole has become more stable.”

That must rank high among observations the speaker wishes he had not made. “Those of us who have looked to the self-interest of leading institutions to protect shareholders’ equity are in a state of shocked disbelief,” Mr Greenspan told Congress last year. “The whole intellectual edifice [the modern risk management paradigm] collapsed in the summer of last year.”

But the comment that best captures the past decade must surely be found in the interview Chuck Prince, then CEO of Citigroup, gave this newspaper one month before the credit crunch crunched: “So long as the music is playing, you’ve got to get up and dance. We’re still dancing.” His statement reflected the groupthink in which people not only imitate each other’s behaviour, but reinforce each other’s magical thinking, and also the inability of men who occupied powerful positions in the financial services industry to control their own organisations.

The investor Warren Buffett had earlier described the dilemma: “The giddy participants all planned to leave just seconds before midnight. There’s a problem, though: they’re dancing in a room in which the clocks have no hands.” Sir Isaac Newton, four centuries before, had remained a wallflower, seeing the South Sea Bubble for what it was. But he was persuaded to take the floor for the last waltz. “I can predict the motion of heavenly bodies,” he observed ruefully, “but not the madness of crowds.”

Mr Malstrom was anticipated by Alexander Pope: “They have dreamed out their dream and awaking have found nothing in their hands.” Perhaps that old cynic, Adam Smith, should have the final words on past and present financial follies: “The chance of gain is by every man more or less overvalued, and the chance of loss is by most men undervalued and by scarce any man who is in tolerable health and spirits valued more than it is worth.”

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