Global Financial Crisis - Root Cause

Many people watching the job cuts at both the global level and locally have been asking me why this is happening despite the economic rescue plans of various governments.

The effect of any major event that has a profound influence on the economy is felt only after 3-4 months. What we are witnessing today is the aftershock of what happened in October 2008. We need to wait for another 3 months for the benefits of the bail out packages to trickle down.

However, I am not convinced that the cure will be better than the disease. Putting the same people who have destroyed the economy in charge of the revival package and expecting them to turn around the global financial system by using the very same instruments and processes that brought about the crash in the first place is a no brainer.

People are talking about systemmic failures, and that the blame has to lie with regulators than with individuals. This is ridiculous. Remember the South East Asian crisis and the Russian crisis in the 1990s? The situation was similar. The developed countries then took the high handed approach and preached from the pulpit about the inability of the developing world to manage their economies. They offered free advice, the monetary agencies rubbed their hands in glee, gave money, put stringent conditions and virutally dictated the economic policies of these small countries. Even India faced the brunt of these holier than thou people of IMF, WB and ADB in early 1990's.

Now we dont hear a peep from any of these worthies. They have one set of rules for developing countries and another for the developed. This is called hypocracy.

The root cause of the current crisis lies in the compensation structure of the top executives of the financial institutions. It was one based on hefty incentives and bonuses. To achieve this, they created innovative financial products that did not meet the risk-return criteria in the long run. These products were great in isolation and got great returns to the investors in the short run. However, they did not stand the test of time. The cumulative long term impact of all these products on the system was not factored in. The bubble became bigger and bigger. The executive's bonuses were not based on long term returns but on short term profits. These guys made a fat packet and there was absolutely no accountability built into the system to take care of long term failures. Any system needs checks and balances. But the Auditors and Rating Agencies who were supposed to monitor these companies were being paid for their services by these companies in the first place. How can you expect them to make public shady dealings against their bread winners?

What is laughable is these Companies, which had for years screamed against ANY sort of governmental regulation, running to the government with a begging bowl at the first sign of crisis.

I am made to understand that the very essence of Capitalism is the survival of the fittest and the market demands the fate of a company. Why dont we follow this and allow these companies to die a natural death. It is a myth that the financial system will collapse if these companies were allowed to go bankrupt. We may face some short term difficulties. But then we would have send a clear cut message that performance, ethics alone counts in this world. And that is not a bad thing to bring about accountability in the long run.