Easy money now, hard luck later
Remember 'zaitech' - the financial engineering in Japan in the late 1980s? Easy money drove asset prices, which drove profits - especially of financial intermediaries - which then justified further increases in asset values. And so it went on, until the music stopped and Japan spent the next 15 years clearing up the mess.
In the financial world, history has a habit of repeating itself with only minor changes. The epicentre of this latest version of zaitech is the United States. But do not imagine that in a world awash with US dollars, any economy is not being affected to some degree.
Profits in the US are going great guns, having recovered well from the mini-recession after the technology bubble burst. But what should we make of the fact that the profits of financial firms now make up 40 per cent of all US profits? General Electric is now as much a finance company as a manufacturer, while most of General Motors' profits come from financing car sales, not making them. Most banks are reporting healthy earnings - boosted by reduced loss provisions and write-backs. HSBC is boasting of its acquisition of the sub-prime-rate lender, Household. Add in the spectacular growth of mortgage and credit card lenders and you have an idea of why profits are booming, along with lending and many asset prices.
But how come these players are all doing so well when the economy is quite sluggish, real wages are in a rut and employment is growing only slowly? That is simple: easy, cheap money courtesy of Federal Reserve chairman Alan Greenspan has meant that debt has been rising far faster than incomes. Rising asset prices have encouraged consumption based on borrowing against people's increased notional value of their house, which has been inflated by artificially low interest rates. US asset prices are still modest compared with those in Japan in 1989, but household debt is bigger. And while Japanese owed money to themselves, Americans owe much to foreigners, so the impact is global.
The world is awash with 'funny money', as evidenced by the extraordinary growth of credit derivatives and so-called hedge funds.
There must be some suckers paying for all this. There are: those stupid enough to hold US dollar deposits with a negative real yield. And, of course, the Asian central banks whose purchases of US bonds are almost as much to blame as Mr Greenspan, and which will incur huge losses when the US dollar tumbles against their currency, or the US unilaterally writes down its debts. (As presidents Richard Nixon did in 1971 and Franklin D. Roosevelt in 1933).
Mr Greenspan is now tightening things, but the Federal Funds rate is still negative in real terms and five-year treasuries' yield is just 3.9 per cent. So what happens when rates return to normal? The end of zaitech is nigh.
Does this matter in Asia? Although interest rates are close to all-time lows, and asset prices have been picking up, memories of 1997-98 are still with us. Banks are liquid and Hong Kong loans are up only 6 per cent on a year ago. But China has caught a dose of the American monetary fever. Local investors, so cautious for so long, are tempted to get out of a near-negative real interest rate and a dodgy currency and back into property or stocks.
Taiwanese, South Korean, Singaporean and Thai investors are luckier. They have been able to enjoy currency appreciation while sitting on low-yielding bank deposits. There is going to be more where that came from, and Malaysia will surely join the revaluation party soon.
Eventual higher interest rates should not be a problem, even for mature, property-dependent Hong Kong. Asian households, companies and nations with modest debts have no need to fear a cataclysm when the US zaitech hits the wall.
But they will need to live with a situation where the American consumer is no longer the borrower of last resort, and profits of US financial firms fall from 40 per cent to nearer the 4 per cent they represented in the early 1980s.
Philip Bowring is a Hong Kong-based journalist and commentator