New risks confront the post-Lehman world

Lehman Brothers collapsed, US stocks, European Central Bank

When investment bank Lehman Brothers collapsed on 15 Sept 2008, Dr Axel Weber – then the president of Germany’s central bank and a member of the governing council of the European Central Bank – had a helicopter-view of the mayhem that followed, in the form of the worst global recession since the 1930s.

“There was huge uncertainty as to how we would navigate a difficult environment,” he recalls over coffee on the sidelines of the Singapore Summit last Saturday, which was 10 years after the Lehman collapse, to the day.

“But the crisis management went reasonably well. We had a lot of government intervention but there were no other major casualties. At the time, it was unclear if we could achieve that.” He adds, with some relief: “The collapse of Lehman shook the foundations of the global financial system, but it did not lead to the collapse of the system.”


Now the chairman of UBS, the world’s largest private bank, the 61-year-old Dr Weber is a hard-wired economist, steeped in both theory and practice. He has taught economics at the universities of Cologne, Frankfurt, Bonn and Chicago, served on the board of the Bank for International Settlements, and is on the International Advisory Panel of the Monetary Authority of Singapore.

While the global economic system survived the post-Lehman crisis, there is still unfinished business, he says. “Regulation has focused too much on idiosyncratic events – a single bank failure.” There was tighter regulation of the core of the financial system – namely banks. But a lot of banking activity then shifted to non-banks – the so-called “shadow banking system” – which is much less regulated.

For instance, the share of mortgages originated by non-banks in the United States has more than doubled since 2008, to almost 50 per cent.

“So, re-regulation was important, but it hasn’t happened holistically. The financial system is only as strong as its weakest links, and there are weak links outside banking that regulators need to address. So, if the next financial crisis has any similarities to the last, those could be the areas where the fragilities could show up.”

Dr Weber is also concerned that the authorities might lack sufficient tools to deal with the next crisis because of what he calls the “misalignment of policies” in major economies.

For example, the US has a strongly growing economy, but at the same time, a major fiscal stimulus and a tax reduction programme that is not fully funded. Germany has a housing market boom fed by low interest rates, which are likely to continue into next year. And in Japan, monetary policy is still in crisis mode even though the economy is doing quite well.

“So with these misalignments, there is less room for countercyclical policies, both fiscal and monetary.”

But that said, Dr Weber does not see any major disruptions for now – not even in the equity markets.

“In the US, monetary policy has not normalised as fast this time as it did in the past – the Fed has been very cautious,” he points out.

“Yes, the current growth of asset prices has been sustained, but it was the flip side of QE (quantitative easing, the pursuit of easy monetary policies). Several years of positive developments do not necessarily mean there will be a disorderly correction.”

He believes the rising US stock market can level off without a crash because there is still enough stimulus to keep the US economy humming this year and next. Ditto for other developed markets. Going forward, he sees weaker growth rates but no major recession. UBS still maintains a “slightly overweight” position in equities – meaning that stocks are still a good buy. But right now, the top risk for the global economy, says Dr Weber, is trade tensions, especially between the US and China, which are “rising by the day”. Last Monday, the US announced new tariffs on US$200 billion worth of Chinese imports, to take effect from September 24. China has retaliated. The US has also started trade disputes with other countries, including Canada and the European Union.

“If these disputes also end with tariffs, that will set back globalisation as well as inclusiveness,” says Dr Weber. “We would not be able to bring more people into the global economy. My hope is still that because this is so obvious, governments will not escalate things beyond the point of no return.”

Bringing services into the negotiations could help defuse trade disputes, he suggests, noting that the US has huge surpluses in trade in services. “If you look at current accounts rather than just trade accounts, the world looks a lot more balanced, including the relationship between China and the US, and the US and Europe.

“So I hope that as the authorities take a broader view and focus not just on trade but on the entire economic relationship, they’ll see more clearly that trade benefits everyone.”

The Chinese authorities as well as companies are moving towards this more holistic view, he points out. “Many Chinese companies are also big providers of services, and they also want global market access in that area.” Dr Weber flags debt as another risk. After a decade of near zero interest rates, the debts of households, companies and governments have risen sharply, and now borrowers are facing higher interest rates.

The unwinding of central bank balance sheets is adding to the problem, he says.

Dr Weber explains that under quantitative easing, some of the major buyers of central bank debt were other central banks. Now central banks are phasing out those policies and putting more debt into the financial markets.

“In compensation for the increase in government debt, the markets will ask for higher returns. We haven’t quite seen it yet, but it’s clearly likely in the longer term – the interest rate environment will look less favourable going forward.” While some countries such as Germany and Switzerland have managed to keep their debt at healthy levels, in the US, Japan and the rest of Asia, debt levels are high – in many cases, more than 100 per cent of gross domestic product. This could affect future growth.

Emerging markets, where corporate debt has doubled since 2008, might be especially vulnerable.

But Dr Weber emphasises that we need to differentiate. Argentina and Turkey, which are in the midst of financial crises, are largely victims of “home-made monetary policy mistakes”, he says, which have forced them to raise interest rates to more than 60 per cent in Argentina and 40 per cent in Turkey.

There could be contagion, but only to those markets with high levels of foreign currency debts. “Some emerging markets have let their foreign-denominated debt get too high. With a strong dollar, they are beginning to see the downsides of those policies, which were simply short-sighted.”

He won’t name countries, but says that the economies described as the “fragile five” during the previous emerging market currency crisis of 2003, when the Fed announced it was withdrawing its monetary stimulus, “remain fragile”. The five economies were Brazil, India, Indonesia, South Africa and Turkey.

Dr Weber is less concerned about China – a major market for UBS – which also has high levels of corporate debt.  While China has witnessed some depreciation of its currency, the Chinese central bank embarked on corrective policies at an early stage to stabilise the yuan.

“I’m fairly confident that what China has done will not lead to a substantial decline in growth rates,” says Dr Weber. “They will be able to achieve growth of around 6 per cent this year and next.”

Despite ample reasons to be sceptical about the United Kingdom getting a good deal from the EU on Brexit – which has to take place by March 29 next year – Dr Weber still believes it will happen, because as the deadline draws nearer, the EU will soften its position.

He points out that Brexit is not just about economics – there are also geopolitical and security concerns. “Without the UK, European capabilities in the military area would be quite strongly undermined,” he says. “There will have to be some give and take in the economic area, because you cannot expect the UK to play the same constructive role as before if they get a bad deal on Brexit.”

He believes that greater German involvement in the last stages of the negotiations – which have so far been driven mainly by the French – will tip the balance in the UK’s favour.

“The fact that Germany has the strongest ties with the UK, the fact that both countries have market-driven economies and have always collaborated well, will eventually lead to the European Commission’s stance becoming more compromising than it is now,” he says. “So I’m still confident that at the eleventh hour, the UK will be able to strike a deal.”

One of the side effects of the financial crisis has been the rise in inequality around the world. In a way, this is good for private banks like UBS, which in some of its promotional material, points out that in Asia, a new billionaire is being created every other day. More billionaires means more potential clients for private banks, but it also means even more inequality. Does this concern the world’s largest private bank?

“It is an issue for UBS,” says Dr Weber. “With the rise of wealth, there comes an obligation to use that wealth wisely and to not disregard the general needs of society.”

He points out that in its dealings with billionaires, the bank finds they are increasingly interested in philanthropy and in making investments that have a social impact. “The younger generation of billionaires do not just want financial returns. They also want social returns,” he says.

UBS is offering such investment options. For example, it has started a programme with the World Bank to issue bonds that can be sold to private clients, rather than just institutions, and which can fund some of the Bank’s social programmes. “We know financial engineering, and we can use that expertise to foster social progress,” says Dr Weber.

“The banks which were at the core of the financial crisis 10 years ago have an obligation to show that in their future operations, they can benefit society. The old paradigm of capitalism at any cost – that has gone since the financial crisis.”


The writer is Associate Editor, The Straits Times. The Asian Writers’ Circle is a series of columns on global affairs written by top editors and writers from members of the Asia News Network and published in newspapers and websites across the region.