Security’s Beta – an indicator of systematic risk

Assessment of creditworthiness of financial institutions or financial instruments is one of the supervision measures. Standard & Poor downgraded the long-term credit rates for major financial institutions including Bank of America, Goldman Sachs, Barclays and HSBC on 30 November. On16 December, Fitch reported the rating cuts for seven largest banks: Bank of America, Goldman Sachs, BNP Paribas, Barclays, Deutsche Bank and Credit Suisse and Citigroup. Even though the downgrades reflect the assessment of the enhanced rating methodologies those involve systematic risk analyses based on macro indicators, industry and regulatory environment, will the valuation reinforce the discipline of the financial performance and reduce systematic risks?

According to the Rating Methodologies for Banks prepared by the Frank Packer and Nikola Tarashev and published in BIS Quarterly Review, June 2011, the assessed tolerance of complex financial instruments, evaluated trends of credit growth and the increase of asset prices as well as greater focus on high quality capital would have provided an important information about the stability of entity during the pre-crisis period. As the intermediation role of banking sector is significant and financial stability is essential for economy’s development, public authorities commit to support banks by additional capital injections, asset purchases or liquidity provisions. Consequently, rating agencies use “stand alone” and “all in” ratings those reflect the financial strength of the institution without the support and with the sovereign and international institutions interventions.

Capital strengthening through the retained earnings is one of the most efficient ways to enhance the resilience of financial institutions during financial shocks. However, financial institutions commit to dividend payments as long as retained earnings are essential to attract investors.

The Goldman Sachs Group, paid dividends on all series of preferred stock on the 10th of November for the following series of its non-cumulative preferred stocks: $239.58per share of Floating Rate Non-Cumulative Preferred Stock, Series A; $387.50 per share of 6.20% Non-Cumulative Preferred Stock, Series B; $255.56per share of Floating Rate Non-Cumulative Preferred Stock, Series C; and $255.56per share of Floating Rate Non-Cumulative Preferred Stock, Series D.

Barclays paid 1p per ordinary share and 4p for America Depository Security which represents 4 shares on 9 December 2011.

Bank of America Corporation announced about regular quarterly dividend of $18.125 per share on the 7.25 percent Non-Cumulative Perpetual Convertible Preferred Stock, Series L.

HSBC declared that the third interim dividend of $0.09 per ordinary share will be paid on 18 January, 2012, the dividend of $0.45 per American Depositary Share, which represents five ordinary shares will be paid on 18 January 2012, the dividend of $0.3875 per Series A American Depositary Share was paid on 15 december, 2011.

The Board of Directors of Credit Suisse most likely will suggest dividends for financial year 2011 with the results of the fourth quarter of 2011 on February 9, 2012.

Moreover, majority of banks were downgraded because of the challenges in the financial sector, id. est. systematic risks those affect financial stability. Security’s Beta describes the sensitivity of its return to the systematic risk, the average change in the return for each 1% change in the return of market portfolio. Deutsche Bank’s Beta is 2.20, Beta of Bank of America is 2.19. So, those banks are more vulnerable that HSBC, Credit Suisse and Goldman Sachs. Beta of HSBC presents 1.19, Beta of Credit Suisse amounts 1.38 and Beta of Goldman Sachs is 1.39.

Consequently, securities’ Beta should be involved in the assessments of systematic risks and factors those reduce securities sensitivity to the portfolio fluctuations could be explored further.

The end of 2011 - political and economic changes in Russia

Week lasting demonstrations in Russia is a protest against a possible electoral fraud. According to the statement of the Central Election Committee of Russian Federation prepared on the 5th of December, 2011, the preliminary results, those represent 95 % of the overall counted votes of Russian Legislative Election, 2011, were the following: representatives of United Russia got 49.54% of total votes, Communist Party of the Russian Federation received 19.16%, A Just Russia collected 13.22%, Liberal Democratic Party of Russia got 11.66%, Yabloko received 3.3%, Patriots of Russia gathered 0.97% and Right Cause got 0.59%. However, citizens expressed mistrust in counted votes and dissatisfaction with the dominated United Russia party.


Could it be that a long lasting protest lift the prices of energy resources and diminish value of domestic corporations? Similarly, could a shift in political influence be a reason of transformation of state’s corporations?

According to the Balance of Payment of the Russian Federation for January-September of 2011, the estimated $73.6 billion of Current Account’s surpluses are mainly emerged from the oil, oil products and natural gas exports those amount $249.1 billion and represent an increase of 36.34% compared to the data of the previous year. As can be seen from the data of the Key World Energy Statistics, 2011 published by the International Energy Agency, Russian Federation was the largest producer in the world of crude oil in 2010. The production of crude oil, NGL, feedstocks, additives and other hydrocarbons in Russia amounted 502 Mt, which comprised 12.6% of the total world production in 2010. The other largest producers were Saudi Arabia with the annual production of 471 Mt which represented 11.9 % of the total world production and United States with the annual production of 336 Mt and 8.5% of the total world production in 2010. So, long lasting political instability in the country could affect the supply and market prices of energy resources.

Moreover, The World Trade Organization’s Working Party sealed the deal on Russia’s membership negotiations on the 10th of November 2011. The Working Party will send its accession recommendations regarding Russia’s terms of entry to the Ministerial Conference. It is expected that during the conferece held on the 15-17 December the Russia’s WTO membership will be approved. Consequently, Russia’s commitments to pursue open, transparent and non-discriminatory global trading could encourage investment and a new round of privatization of state’s corporations.

Should the strategies of Sovereign Wealth Funds be a subject of regulation?

George Osborne, the Chancellor of the Exchequer of the UK delivered financial statement on Tuesday 29 November, 2011. He announced about the extended Government's enterprise finance guarantee scheme for businesses with annual turnover of up to £44 million. The ceilings were set of £40 billion. The Chancellor also introduced a newly launched National loan guarantee scheme for new loans and overdrafts to businesses with turnover of less than £50 million. The initial £20 billion – worth fund for national loan guarantees will be available within the next two years and it is expected that those guarantees will let to reduce the borrowing interest rates by 1 percentage.


Moreover, along these measures innovative solutions to launch £1 billion business finance partnership was presented. The partnership with other investors such as pension funds and insurance companies could enable the Government to invest in funds those lend directly to mid-sized businesses. Similarly, over 500 investment infrastructure projects to support economic development were identified first time. Alongside the Government guarantee schemes and traditional fund rising through borrowing, the Government had negotiated an agreement with two groups of British pension funds which unlocked an additional £20 billion of private investment for implementation of infrastructure projects.

The Government’s launched partnerships with investors aimed to facilitate funding for development of domestic businesses suggest the following: is it a rudiment of the Sovereign Wealth Fund?

In general, Sovereign Wealth Funds are founded from central bank’s reserves those are accumulated as a result of budget and trade surpluses. Additionally, SWF may be set from the revenues received from the exports of natural resources. The purpose of established SWF may vary. Some of them possess objectives to stabilize the budget and the economy from excessive volatility and intend to diversify the sources of revenues. Others have goals to reduce excessive domestic liquidity and invest in higher return assets. The rest may have political strategies which are aimed to increase savings for future generations or fund domestic social and economic development projects.

Though Sovereign Wealth Funds tend to have longer-term investment horizons, the research made in 2008 revealed that seven least transparent Sovereign Wealth Funds were estimated to account for the half of all holdings. Thus, lack of accountability and transparency evoked concerns whether asset prices could be distorted through non-commercially motivated purchases. (The source: ECB, Occasional Paper Series, No 91/July 2008, The impact of sovereign wealth funds on global financial markets prepared by Roland Beck and Michael Fidora).

Some protective regulations against purely political investment decisions of Sovereign Wealth Funds were mentioned in the draft of Rethinking Global Investment Regulation in the Sovereign Wealth Funds Era prepared by the Dr. Efi Chalamish (02/09/09). Foreign investment may be blocked by national regulations if investment is classified as government-owned entity. Countries may also prohibit foreign investment based on the type of industry in which the invested company operates. Moreover, an individual acquisition may be screened and decisions could be made according to the commercial value and associated risks. Additionally, adopted open market policies could be pursued to ensure that made investment do not serve only to the single foreign country.

Analysing International Economic Law, it could be mentioned the Santiago Principles suggested in 2008. The aim of these principles is to protect state’s interests and increase SWFs’ transparency and accountability. The principles were prepared by the IMF jointly with the World Bank and proposed to adapt on voluntarily bases. However, the other set of rules to avoid adaption of any protectionist measures and be opened to markets policies were created and accepted voluntary by the OECD which represents states of the leading developed economies.

According to the Sovereign Wealth Fund Institute’s data, the 54 SWFs managed over $4.76 trillion in September 2011. The 58% of total funds were set up from oil & gas related sources. The largest owners of the Sovereign Wealth Funds by the region is Asia with 40% of total assets, the second largest region is the Middle East with 35% of total assets and 17% belong to Europe.

The 2011 Pregin Sovereign Wealth Fund Review disclosed that the financial assets under SWF’s management grew about 11% during each several years. Consequently, the rising Sovereign Wealth Funds play bigger role in rebalancing of capital flows.

The influence of the Sovereign Wealth Funds on the financial markets and improved regulations may be explored further. However, my attention is already turned on their investment strategies. The Pregin Sovereign Wealth Fund Review reveals that the Investment Portfolio division of Hong Kong Monetary Authority’s Exchange Fund has plans to move into hedge fund investment, having diversified into investments in emerging markets, private equity funds and overseas property in 2010 as a means of increasing returns while Norway’s Government Pension Fund – Global, one of the largest SWFs in the world, is set to complete its first real estate investment in early 2011 and plans to make further investments in the asset class over the course of the year.

The road to the sound fundamentals

The European Commission’s released a package of new actions for growth, governance and stability on the 23rd of November, 2011. The new economic priorities for the next year set out in the 2012 Annual Growth Survey are underpinned by two Regulations to tighten economic and budgetary surveillance in the euro area and a Green Paper on Stability Bonds. Taking into account the European economy’s stagnation, excessive sovereign debts and rising borrowing costs those simultaneously affect financial stability of the European Union’s region, strengthening monitoring of strategic development and budget discipline is an inevitable step. However, despite of well understood and accepted fundamentals of sustainable development, the recurrence to basics is sluggish.

The AGS indicated five priorities for 2012 involve pursuing differentiated growth-friendly fiscal consolidation, restoring normal lending to the economy, promoting growth and competitiveness for today and tomorrow, tackling unemployment and social consequences of the crisis, modernising public administration. The goals for 2011 were focused on fiscal consolidation, labour market reforms and growth-enhancing measures. So, the Europe 2020 Strategy adopted by the EU leaders in 2010 which foresees the re-launch of the Single Market, Aligning the EU budget and EIB lending with the Strategy and a new trade strategy improving global market access for EU companies alongside with the Integrated Guideline which set out a framework for the strategy’s incorporation into the National Reform Programmes and introduced European Semester for economic and fiscal policy coordination, enforced the implementation of the EU’s economic policy with comprehensive assessment of macroeconomic climate, progress of structural reforms and competitiveness of the member states as well as the overall financial stability. Moreover, the Euro Plus Pact which was agreed in 2011 by euro area leaders and was joined voluntary by other 6 European Union’s states obliged countries to increase competitiveness and employment as well as to contribute further to the sustainability of public finance and financial stability.

Going back further and analysing the scope of strategic decisions in the EU it could be mentioned the Stability and Growth Pact adapted in 1997 and aimed to ensure budgetary discipline as well as Lisbon Strategy for Growth and Jobs launched in 2000. The history of the EU is full of other strategic cooperation decisions with a clear evidence of great visions. However, as long as development ideas foreseen of former and current leaders are clear to themselves, do the rest of the community understand the objectives, the reasons of necessary reforms and the effective measures required to implement in order the competitiveness of the region and wealth of community were maintained in the global economy development context?

The moral hazard and the resistance to pursue consistent strategic reforms led to the following: excessive sovereign debts, downgraded credit ratings, derived mistrust in the financial markets and vulnerability of financial stability, increased borrowing costs and loss of economic competitiveness.

The borrowing costs of European structural reforms

Greece and Italy changed their leaders to restore fiscal discipline. Lucas Papademos, former Governor of the Bank of Greece and Vice-President of the European Central Bank, replaced Prime Minister George A. Papandreou in the 11th of November, 2011 to implement conditions set by European leaders on the 26th of October related to 130 billion European bailout and manage a voluntary debt swap, Prime Minister of Italy Silvio Berlusconi resigned in the 12th of November, 2011 after the 45.5 billion-euro austerity package was approved in parliament and Mario Monti, former European Union Competition Commissioner, is going to form a new Italian government. So, could those changes convince the markets about mastering sovereign debt crisis?

Both new leaders are respected economists whose contributed to the development of European Union. Hence, their understanding of the Union’s benefits and current issues as well as involvement in solving domestic structural reforms required to manage sovereign debt crises could be a successful step. It seems likely that new leaders of Italy and Greece have strong relationships with the EU institutions and their authority may be accepted by domestic citizens. Consequently, it could lead to the greater European unity through smoother critical decision making and decision implementation which is necessary to keep monetary union.

It is expected that if banks accept write-down of 50% on their holdings of Greek government bonds Greece's 350- billion euro debt may be reduced by 100 billion euro and the ratio of Greek debt-to-GDP could fall from 160% to 120%. Current Italy’s debt amount of 1.9 trillion euro which is about 120 percentage of GDP.


Italy auctioned 3 billion euro five year government bonds today and that was an opportunity to check the markets’ reaction on changed leadership. However, lenders in the markets may not be particularly interested in the successors. Whenever considerations involve lending, investors take yields into account. Italy’s demand for additional funds is clear, so massive sales of currently held Italian bonds increase yields and reduce their price. Consequently, the European Central bank is induced to buy Italian government bonds in order to relieve borrowing costs.

It seems that markets will be convinced about governed sovereign debts once countries do not need to borrow at all.

MF Global’s bankruptcy – a fail or a mirage?

A mission of MF Global to bring superior market access as well as to provide the powerful trading and hedging solutions to its clients came to the end with the authorization of the board of directors to file for Chapter 11 Bankruptcy Petition on October 31, 2011. According to the quarterly report, MF Global experienced a $191.6 million net loss and Moody’s Investors Service and Fitch Ratings cut the firm’s credit rating to the junk. MF Global announced that regarding to the Europe’s debt crisis, its $6.3 billion worth Short-Term European Sovereign Portfolio deteriorated and the company failed to raise additional capital. However, making loss in derivatives’ trade is almost impossible.

Strike price and date of expiry matter in derivatives’ trading as long as puts, calls and forwards are related through the put-call parity. This relationship gives flexibility to transform derivatives and gain from whatever the circumstances in the markets are. Moreover, according to the balance sheet for the second quarter of 2011, Revenues, Net of Interest and Transaction-Based Expenses comprised $205.9 million which shows that performance from its main activities was profitable. Additionally, the $133.5 million worth Employee Compensation and Benefits made up more than a half of net revenues, the $6.3 billion short-term European Sovereign Portfolio comprised 15% of the $41.05 billion total assets while the $1.2 billion total equity accounted for 2.9% of the total assets.

Bloomberg reported that MF Global performance is under investigation by U.S. regulators after it filed for bankruptcy protection. The news that the company violated requirements to keep clients’ collateral separate from its own accounts was published on the 1th of November and more mismatches regarding publicly available information and reality may be discovered.

The aspects of money supply policies

A message delivered on the 27th of October that the firepower of the Europe’s rescue fund will be increased to 1 trillion euros, the bondholders will accept a 50 percent loss on their holdings of Greek government debt, the European banks will be recapitalized to meet the target of the core Tier 1 capital equal to 9 percentage of assets, the bond purchase of distressed European countries will be maintained by the ECB and the EFSF as well as expectations that the IMF and countries those possess excessive foreign exchange reserves will support the European leaders plan revitalized financial markets. It also revealed how political decisions are flexible according to the external threats and prevailing demand to keep stability. As long as the intermediation role of the financial institutions in macroeconomic development is incontrovertible, different aspects of money supply policies should be considered.


A pool of traditional deposit funding might be increased by the securitization of various types of debt including the banks’ debts those are sold to the investors. However, increased money supply through market based funding can limit investors’ ability to estimate risks. Off-balance sheet treatment for securitization as well as guarantees those are provided from the issuer may hide the leverage of the securitizing firm, accordingly encourage risky capital structures. Moreover, debt securities depend on the market valuations, thus investors, including financial institutions, may experience significant losses those could have contagious effect.

In general, the money supply depends on the requirement to keep percentage of deposits that banks required to hold as reserves. The higher the reserve requirements, the tighter the money supply which may result to the decrease in lending and restrictions for business development if banks are not able to raise required capital in the markets. Moreover, considering the context of international businesses, the multipliers’ principle in one region may not have impact on its domestic economy growth; consequently increased capital requirements could mainly be associated with the strengthening banks' solvency.

The steering short-term money market interest rates and responding to the demand for the money is the other mode of money supply. Central banks buying government securities or other financial instruments through open market operations increase liquidity in the markets. However, such measures may create conditions for passive governance when central banks respond to the demand of money supply instead of being proactive and generating monetary policies those could relieve current economic circumstances and shift trends to the desirable outcomes.

Proposals of the G20 Finance Ministers’ meeting - temporary solutions to avoid default

The G20 official website provides only the calendar of the G20 meetings and therefore leaving the rest of the public only with expectations regarding the agenda. Moreover, reports about discussed issues and reviews of official statements are also primarily released by public media. However, the main idea of this article is not to criticize the publicly available information. The most important is the objectives of the meetings and the content of proposals discussed.

According to the public media, the G20 Finance Ministers mainly discussed the Europe’s plan to handle sovereign debts and banks stability in the meeting held on the 14th-15th of October in Paris. The solution for European banks to write down Greek debt was discussed alongside with the proposals to support capitalization of the banks those need to be protected against banks' exposures to other bad European countries sovereign debts. It was proposed to enhance the European Financial Stability Facility and leverage the fund for the insurance purposes to protect investors against European debt losses. The considerations regarding the write down of Greek debt ranged from a 21% to 50% were taken and additional options such as exchange of Greek bonds for new debt at a lower face value collateralized by the euro area’s AAA-rated rescue fund, or to set up an European-level backstop capitalized by the rescue fund were discussed. According to the final option the established entity would have the power to take direct equity stakes in banks and provide guarantees on bank liabilities. The IMF officials estimated that additional €100 billion to €200 billion in extra capital is needed to recapitalize banks.

Equilibrium is required to sustain well functioning systems. However, the transfer of possible default from sovereigns to banks and the transfer of banks losses to the European level backstop entity is just a temporary solution to avoid the announcement of the default until clear proposals to boost competitiveness of the region by improved conditions for the capital inflows through stimulation of investment in new technologies and optimization of processes are not accepted.

Financial transactions are zero NPV and do not have direct effect on the GDP growth

The released Federal Reserve’s decision on the 21th of September to purchase $400 billion of Treasury securities with remaining maturities of 6 years to 30 years and to sell the same amount of Treasury securities with remaining maturities of 3 years or less by the end of June 2012, called as operational twist shrank equity markets, dropped market value of corporations and slashed wealth of investors. The Federal Open Market Committee intended to support stronger economy growth by pushing down long term interest rates those could stimulate borrowing. In the judgement of the stock markets, the Committee approved economic recession. However, do slumped stocks markets equivalent to the state of economy?


A yield curve which is a benchmark for banks to determine interest rates on loans is a prime indicator in financial decisions. If it is expected that the term structure of the US interest rates become more flat and long term interest rates fall in the future companies will not be willing to take long term loans at the present. Borrowers would better choose a short term loans and take new loans only after the long term rates fall down. Moreover, yields of the US Treasury securities are already relatively low.

In general financial transactions are zero NPV and additional value is created by the choice of assets’ allocation but not by the choice of financial recourses or financial securities. Thus, the decision to change the portfolio of the Federal Reserves’ assets and the meltdown of the stock markets do not have direct effect on the GDP growth.

Coordinated quantitative easing – will intended actions lead to expected outcomes?

Coordinated actions were agreed by the European Central Bank, the Federal Reserve, the Bank of England, the Bank of Japan and the Swiss National Bank to save the European banking system from the US dollar liquidity crisis on Thursday, September 15. Three fixed rate tenders to repurchase eligible collateral with a maturity of approximately three months will be organized to provide dollar liquidity. Is this decision a strong signal to stop lending in the US dollars, or otherwise – incentive to provide more loans denominated in the US dollars?

European banks need the US dollars to fund dollar-denominated loans and other obligations. So, here we come to the QE3, the monetary policy to stimulate economy by additional injection of money. In this particular case, the agreement is achieved by the five major central banks. The coordinative actions to increase the US dollar liquidity in the markets set the depreciation trend of the US dollar. Moreover, this fact combined with the US Federal Reserve’s promises to keep low interest rates until 2013 creates a huge stimulus for investors to borrow further in the US dollars. According to that demand, banks may have great incentives to provide loans denominated by the US dollars and a closed cycle when more and more liquidity is required to sustain stability of the banking system may be established.

However, how much those decisions stimulate domestic economies? The depreciated US dollar should ease the US export while domestic economies of the rest parties are driven by domestic businesses conducted in their own domestic currencies. So, most likely provided the US dollar liquidity will not stimulate the other parties’ domestic economies.

Hence, once the US dollar liquidity issue is solved by the quantitative easing decision mentioned above, shouldn’t it be imposed restrictions to engage in new obligations denominated by the US dollars in the rest parties at the same time so, that the intended actions led to expected outcomes?

Stagnation in the financial markets is a cure for experienced recession

Economic growth is supported by well functioning financial markets. So, coordinated measures to restore the stability of the international financial markets remains the main subject for the G7 finance ministers and central bank governors to discuss on the annual summit in September 9-11, Marseille. However, could the current economic climate be recovered in recent turmoil in financial markets and insufficient liquidity? I guess that it is possible and is already underway.

Market values are driven by public expectations. So, according to the recent excessive volatility, market self regulation mechanism come into play.  Investors those consider that market value does not reflect the true value of assets, avoid possible lost by investing in mistrusted financial markets.  It follows that the crash of stock markets should encourage investors to seek investment opportunities those are independent from market valuations. Consequently, investments in private equities should increase.  

Even though, investment in private companies is illiquid, direct investment in business development, participation in business management and control of business performance might be an attractive option. Investors may expect reliable and steady returns related to cash flows generated from invested capital and avoid market risks due to undervaluation of assets.

As a result, stagnation in the financial markets might become a cure for current economy recession when the attention of investors is focused on direct control and improved management of attractive investment opportunities.
 

Banks recapitalization – market value matters

The recent financial markets' volatility forced Greece, Belgium, France, Italy and Spain to extend bans on short-selling. The updated news regarding the measures taken by EU competent authorities to prohibit market abuse were published on the European Securities and Market Authority’s website on August 25, 2011. The other warning to shield financial institutions was reported by Christine Lagarde. The Managing Director of the IMF encouraged speeding European banks’ recapitalization at the Federal Reserve Bank of Kansas City’s annual conference in Jackson Hole on August 27, 2011. So, are the fears of the financial system’s collapse reliable and are protective actions reasonable?

One of the main ratios to capture the value of a public company is the price-earnings ratio (P/E), which is equal to the market capitalization divided by the net income. If a company generates steady cash flows and its share price falls it may seem that undervalued stocks are an attractive investment opportunity. However, danger may lie in its leverage. A company defaults once the market value of its liabilities exceeds its assets. Such being the case retained earnings may be used to increase capital, or the firm can issue new shares if it has access to the capital markets. Thus, the market value of debt-equity ratio is very important as it reflects a company’s solvency.

An inaccurate measure of a bank’s solvency may arise according to the leverage ratio which is introduced by the Basel Committee on Banking Supervision in the Basel III: A global regulatory framework for more resilient banks and banking systems. A measure of the minimum Tier 1 leverage ratio of 3% is based on banks' accounting balance sheets these do not reflect the performance of the market.

Market value matters for public companies. Banks recapitalization should not be ignored.

Interventions in financial markets’ shocks

The US congressional leaders’ agreement on an increased debt ceiling until 2013 and a reduction of $2.4 trillion spending over 10 years has retrieved the US bond market; however, the concerns about the ongoing US fiscal and economic challenges and the S&P’s downgraded US long-term credit rating from the AAA to AA+, as well as set a negative outlook for the US economy, has driven down the major stocks indexes and commodities’ prices sharply. The panic in the global financial markets has boosted the gold price above $1,700 per ounce and surged the Swiss franc to 1.350 against the US dollar, these being the prices of the assets considered as secure investment to preserve investors’ capital until the fundamentals of the investments are reassessed.

The last week was notable for governments’ and central banks' interventions. The US attempted to tackle the possible default on sovereign debts, announced the debt reduction plan and raised the debt ceiling. Italy initiated constitutional changes to strengthen the budget discipline and the ECB purchased Spain’s and Italy’s bonds to calm the rally of the sovereign bonds’ yields. The Swiss National Bank rushed to decrease the three-month LIBOR to 0,00-0,25% and announced the expansion of banks' deposits to CHF80 billion as well as their intentions to repurchase outstanding the SNB bills in order that the appreciated currency wasn’t threatening the Switzerland economy. The Bank of Japan sold up to Y4,000 billion due to the similar currency appreciation threats to domestic economy. The US Federal Reserve promised to keep unchanged low interest rates until 2013 to stop panic stocks sales. It seems that only the price of gold, - the alternative currency, may not be easily manipulated by government interventions. Consequently, private and institutional investors might be willing to increase their gold reserves to hedge assets from the depreciation.

Considering the alternative investments, the Pregin’s, a research and consultancy firm which focuses on alternative asset classes noted that hedge funds become more “mainstream” rather than “alternative” within institutional portfolios. According to the Pregin’s Hedge Fund Spotlight published in August 2011, the percentage structure of institutional investors in hedge funds are the following: 21% Funds of Hedge Funds, 15% Foundations, 15% Endowment Plans, 13% Public Pension Funds, 12% Private Pension Funds, 6% Asset Managers, 5% Family Offices, 4% Insurance Companies, 2% Banks, 1% Investment Companies, 1% Sovereign Wealth Funds and 5% Others. Analysis of banks investing in hedge funds reveals that 60% of European banks, 13% of North American banks, 10% of Asian banks and 17% from the rest of the world are investing in hedge funds. The most active five banks investing in hedge funds are the Royal Bank of Canada with $751.9 billion of AUM, Pictet & Cie with $302.3 billion of AUM, F. Van Lanschot Bankiers with $29 billion of AUM, Investec with $4 billion of AUM and Credit Mutuel de Maine-Anjou, Basse-Normandie with $0.2 billion of AUM.

So, do we need it that governments and central banks were focused on short term financial markets’ shocks when financial alternatives may be used to transfer risks in the financial markets?

The US solutions on debt ceiling and further recovery policy

Markets are closed at weekends but not political debates. Consequently, the need for constant vigilant remains essential. The political negotiations regarding additional borrowing in the US went quite smoothly last week and it seemed that the deal on a new $2.4 trillion borrowing was reached. However, according to the president Obama's remarks released on the last Friday’s evening, Speaker Boehner was going away from the final deal, therefore, setting up uncertainties regarding the further recovery policy of the US economy.

A short-term extension of the US debt ceiling which should be settled till the 2nd of August in order the US was able to avoid a default on its debt was considered alongside with the deficit reduction options. According to the political negotiations the $650 billion cuts from Medical, Medicaid and Social Security programmes could be achieved immediately and budget deficit might be reduced by $4 trillion over the next 10 years. Although the solutions to cut ineffective spending were worked collectively the disagreement between the Republicans and the Democrats aroused regarding the Democrats’ suggested additional revenues. It was proposed to raise $1.2 trillion budget incomes by eliminating loopholes, some deductions and initiating a tax reform that could have lowered tax rates generally while broadening the base.

The US default on its debt may ruin the whole financial system in a moment. Thus, the US has no choice but to increase its short-term debt ceiling. The financial markets judge politicians on their short-term solutions. However, should the current state of economy become worse to empower significant decisions whose change trends of long-term recovery.

The role of the economic policy

The imbalance of the global economy and the threat of the possible double dip recession force to reconsider the role of economic policies. Like never before, functions of states to identify key guidelines of development of domestic economy should be reassessed in order the private and public interests were balanced along with restitution of domestic justice and efficiency.

The main driver of economy is demand. Thus, let’s review where the demand comes from. The criterion which may characterise the propensity to consume and determines the growth of economy is profit. In addition, it is assumed that the greatest efficiency is achieved in the market economy. However, the circumstances of perfect competition create superior conditions for domination of monopolies those dictate prices of goods and services. Consequently, the trends of global economy are also under their influence.

Thus, I consider how important the states’ economic policies are nowadays. Moreover, how long it could take for the governments of states to retrieve their authority and intellectual creativity, rethink the concepts of the states’ economic policies so that the global economy distortions were reduced and social justice recovered?

Volatility may be provoked

The Governing Council of the ECB decided to increase the key interest rates by 25 basis points to 1.5% on the 7th of July due to the high inflation in euro area. The annual HICP inflation was 2.7% in June 2011 that is inconsistent with the primary objective of the ECB’s monetary policy to maintain inflation rates below, but close to, 2% over the medium term. According to the introductory statement to the press conference such anchoring is a prerequisite condition to the economic growth in euro area. However, the ECB’s attempts to strengthen euro by increased key interest rates may evoke even higher volatility. The results of the EU wide stress test will be announced on Friday, 15 July. Moreover, participants of the financial markets are sensitive to news those increase burden of the “peripheral” countries to manage their debts.


According to the EU wide stress test scenario based on the ongoing EU sovereign debt crisis, the domestic demand of the euro area will decline affecting consumption and investment. It is assumed that the long-term interest rates will go up by 75 basis points, stock prices will fall by 15%, house prices will decline, tensions regarding the European money market will renew and contribute to an increase in short-term interest inter-bank rates by125 basis points. Considering the scenario which involves global negative effect of the US policy and a USD depreciation vis-à-vis all currencies, the private consumption and investment will be getting worse; however, it is assumed that both oil and non-oil commodities will be unaffected and the monetary policy will be unchanged. Considering the circumstances mentioned above it is anticipated that the overall effect of the EU-specific and external environment shocks will reduce the GDP growth by around 2% in both 2011 and 2012 and HICP will be lower by 0.5 and 1.1 percentage points for the euro area.

Although the ECB expects that the increased interest rates will reduce inflation and contribute to enhance economic growth, higher energy and commodity prices those are the main reason of the increased HICP little can be changed by such decision. Moreover, when the increased interest rates are used to reduce monetary liquidity and at the same time the opposite actions such as emergency liquidity to assist banking system in the event of crisis are considered it leads to higher volatility in the financial markets. Thus, I wish the ECB was able to identify though was not following the anticipated negative scenarios of the EU wide stress test.

Could the fixed balance sheets restore financial stability?

The OECD’s Economic Outlook published on the 25th of May and the BIS’s 81st Annual Report brought out on the 26th of June characterize the global recovery as self-sustained. It is projected that the US economy will grow by 2.6% in 2011 and 3.1% in 2012, the GDP in Euro area will rise by 2% in each of upcoming two years and the Japan’s GDP increase by 0.9 % and by 2.2% in 2011 and 2012 accordingly. Consequently, the safeguards of financial stability recommend withdrawing fiscal and monetary stimulus due to the rising inflation. However, these suggestions bear a strong resemblance to the decisions how to fix balance sheets instead of restoring foundations of financial stability.

From my point of view, the described economy recovery of the advanced countries in the OECD’s and the BIS’s reports is lack of structural analyses. Once the pressure of the inflation is taking under considerations I would rather like to know whose industrial sectors are overheated and why their development requires suppression. Moreover, has anybody estimated how the imposed extra costs associated with the suggested growth of interest rates would affect other fragile industries?

Additionally, increased capital (10.5% - total capital requirements that involves minimum capital plus conservation buffer), leverage and liquidity standards for banks according to the Basel III requirements and other endeavours such as accepted “ringfence” concept – the British initiative that intends to protect essential banks’ operations (deposit taking and payment systems) in big diverse banks; regulators agreement on extra capital charges of 1% to 2.5% of risk-adjusted assets on the 30 global systematically important institutions as well as suggestions of the BIS and the BCBS to apply supplementary countercyclical capital buffers are attempts to absorb losses in bad times and keep clean balance sheets of financial institutions after the banks’ bail outs started in 2008. However, those achievements do not mean that losses of the Financial Crisis are vanished. In most cases, they are just transferred to the governments’ balance sheets and the particular focus is required to recover the fragile economies of advanced regions.

However, according to the BIS's Annual Report “very low interest rates in major advanced economies delay the necessary balance sheet adjustments of households and financial institutions”. Thus, it may imply that encouragement to increase interest rates is aimed to restore price stability rather that the soundness of the whole financial system.

Trends of voluntary aid

A meeting of Eurozone finance ministers in Luxemburg today, on 20 June, ended without approval to lend €12bn  ($17bn) to Greece until the country’s parliament passes new spending cuts and economic reforms worth of €28bn. The matter is time sensitive as Greece needs the €12bn by July to avoid defaulting on its debt. The Eurozone finance ministers require further austerity measures; however, Greece may also relay on some EU countries’ voluntary aid.

French President Nicolas Sarkozy and German Chancellor Angela Merkel announced on last Friday that they will support Greece by purchasing new Greek bonds when existing bonds mature and encouraged others to follow their suggestion on voluntary basis. Such decision may not be acceptable in regard to taxpayers of Germany and France but when the possible decline of euro is directly related to the worth of governed assets, a voluntary aid is fully understandable.

However, looking to the long term perspective sound investment programmes, but not just austerity measures, should be the main focus for the Eurozone finance ministers as long as European Investment Bank, European Investment Funds and European Bank for Reconstruction and Development were established for the purpose to make a long-term finance available.

Similarly, analysing the outlook of the US economy state, id.est accomplished QE2 programme, increasing debt obligations and additional borrowing needs; the raise of yields of US long term treasury bonds and depreciation of US dollar should be expected in short term perspective. Consequently, countries those use US dollar as reserve currency and possess trade surpluses most likely will suggest their voluntary aid and buy US long term treasury bonds so that the worth of their governed assets were preserved.

Thus, for those who follow short term trends, summer time should be an important period to observe. Most likely the capital flows will be based on a voluntary aid.

The shift of the US monetary policy and the OPEC's disagreement on oil production

Ben S. Bernanke, a chairman of Federal Reserve announced further course of the US monetary policy at the International Monetary Conference held in Atlanta, Georgia on 7 June. He told that the Federal Open Market Committee decided to complete its purchases of $600 billion of Treasury securities by the end of June and will keep low levels for the federal funds rate for an extended period as economic recovery in the US is proceeding in the moderate pace. However, financial strategies those were designed for the Federal Reserve’s extended QE programme were realized successfully as well.

The US dollar declined against the major peer currencies on 8 June, the price of WTI Crude Oil jumped more than $3 from $98.15 to $101.65 over four hours, Brent Crude Oil raised more than $2 from $116.00 to $118.40 at the same time due to the disagreement between the members of OPEC regarding the oil production. The 159th Meeting of the OPEC held in Vienna, Austria, on 8 June was closed with no formal decision according to mismatched official data about oil demand and supply that triggered instability in the international oil markets.

The 160th Meeting of the OPEC will take place in Vienna, Austria on 14 December 2011; however, if nobody consider about the clear methodology and improved data management the circumstances to predict market trends remain the same - two plus two is not equal to four and clearly identified square tends to be circle.

Captured media attention - the opportunity to introduce the Greece’s potential

The Greece’s €110bn joint EU-IMF bailout package approved last year won't be enough to stabilize Greek economy. The country needs to find another €60bn to cover its deficit, repay long-term loans and support banks through 2013. However, the S&P downgraded Greece’s credit ratings to B and increased over 16% ten year government bond yields force Greece to negotiate on another rescue package alongside with considerations on debt restructuring. Thus, what else can Greece do to help itself?

According to the decision of the Greece Interministerial Committee for Asset Restructuring and Privatisations which was made on December 15, 2010, the Real Estate and Asset Privatization programme involves government intentions to transfer operational management of the country’s strategic communications: airports, railways, motorways, marinas and ports through concession agreements, search for the best available privatization options for its stake in energy and natural resources supply and operations such as natural gas suppliers and natural gas network operations, water suppliers and nickel mining operational improvements as well as the selection and privatization of major real estate assets. The estimated incomes from the Asset Management and Privatization programme amount €7bn within the 2011-2013 period and that is not sufficient to meet outstanding Greece debt obligations.

The privatization programme may be more successful if assets were sold according to the potential increase of its values after assets’ restructure and operational improvements. Thus, the country would benefit more by suggesting investment opportunities rather than sales of its real estate assets. Moreover, when media capture attention to Greece, it is the right time for the country to take the opportunity and present the guidelines of its economy development trends, advantageous of produced domestic products and provided services as well as to promote investment opportunities in private sector.

Get out from the systematic dependence

According to the article “Bank caves in over PPI mis-selling” published in the Financial Times on the 9th of May, the customers of the Lloyds Banking Group, Barclays, HSBC and Royal Bank of Scotland massively require compensation for mis-sold loan insurance. Some analysts estimated that the compensation may reach £ 8 bn and that this mis-selling case may be the biggest in the UK. It also may imply that customer protection instruments are used in full scale and the tendency to back up financial decisions by insurance is prevailing.

Financial safety nets that involve liquidity support, deposit insurance, investor and policyholder protection schemes and crisis management policies are designed to maintain customers’ confidence and protect them from the financial institutions failure. However, it seems that those risk minimization measures work well only to soften temporary disturbance and illiquidity. Managers may be encouraged by insurance to take excessive risks and increased liquidity may boost inflation. Moreover, in case of the exaggerated instability the higher insurance premiums are imposed to adjust risk to the sectors’ interconnectivity and additional costs are experienced due to tighter supervision.

So, while integrity of financial institutions supports the economy development, the same interconnections may be treated as a cause of systematic risks. The inter relations, like a chain of separate elements, create domino effect. Once the significant part of the system becomes weak, it pulls dawn the other elements.

The possible solution to manage systematic risks efficiently could be the release of connections between financial institutions that facilitate a pull back from the systematic dependence. The way, when participants do not depend on the destructive circumstances, flexibly allocate assets and hedge market risks from high volatility.

Interest rates versus inflation

What is the right interest rate for the low growth and high inflation regions? This is the main issue to consider for the central banks in Europe and US. Moreover, is the increased nominal interest rate an appropriate measure to manage inflation when financial stability is rebuilt by the increased money supply?

According to the Federal Reserve Board’s and Federal Open Market Committee’s press release in April 27, the FOMC decided to maintain the Federal Fund Target Rate at 0.25 %. Similarly, according to the press conference held in May 5, the Governing Council of the ECB agreed to keep the key ECB interest rates at 1.25 % after the 25-basis point increase on 7 April 2011. The governors of central banks promised to monitor the inflation and commodities' prices closely and respond to arisen inflationary pressure respectively.

Considering the current US’s and Europe’s economic outlook somebody may interpret that a slight, 1-3 % annual GDP growth of the region is a signal of the modest recovery while determined nominal interest rates are lower than the growth of GDP. However, from my point of view, if the projected capital flows of the state were discounted by the adjusted rate for inflation, it might appear that the current costs of output exceed the future benefits and the net present value is negative.

What is the subsequent trend of the US monetary policy?

June is approaching, the time when the Federal Reserve completes the $600 billion US Treasury bonds purchase programme. Thus, how will the Board of Governors of the Federal Reserve System and the Federal Open Market Committee evaluate the efficiency of this programme and its contribution to the main monetary policy goals to promote the maximum employment, stable prices and moderate long term interest rates? Similarly, what are their insights regarding the subsequent monetary trends?

Financial stability decision to increase money supply and keep low interest rates should have supported the global trading in the world dominating currency - dollar; however, excessive growth of the money supply creates hyperinflation and this is even harder task to manage on the global level.

So, let’s consider whether the inverted Federal Reserve’s decisions to increase interest rates and to convince international financial institutions to buy the US treasuries bonds are favorable scenario to mitigate inflation. Moreover, what should be the cost of such policy? The US long-term credit rating AAA may be downgraded as S&P lowered its outlook from stable to negative according to the estimated US ability to reduce government spending and manage limits - $14 trillion ceiling on borrowing. Additionally, the policies of emerging markets may also be disadvantageous as emerging countries most likely will keep high interest rates to avoid the domestic economy overheating. So, how much and quickly the US interest rates should be increased to make the US Treasury bonds attractive investment. Incidentally, how will the described price stability policy affect the economy growth?

By the way, could it be that international financial institutions will buy the US treasuries bonds regardless of their credibility and profitability in order to sustain financial stability. Is this scenario reliable? Maybe, but if it is not – what is the next?

Current state - the macroeconomic crisis

During the plenary session of International Monetary and Financial Committee of the Board of Governors of the International Monetary Fund in Washington in April 16, 20011 the enhanced role of the IMFC as a key forum for global economic and financial cooperation was welcomed. Also, the members committed to continue working together and intensify efforts to balance global economy growth, strengthen global financial sector’s stability and its ability to support economic recovery.

The policy makers agreed that the U.S., Japan, Germany, France, U.K., India and China will be examined by the IMF and the survey will include the monitoring and comparison of budget deficits, private debt and external trade balances for signs of excess. However, the future surveys will only supplement to the macroeconomic outlook that is already evident from the publicly analysed events: the US’s aggressiveness to boost the recovery and demand of their production by implementing QE2 programme, depreciating the dollar, keeping low interest rates and stimulating economy through measures that steadily increase sovereign debt, China’s intentions to keep export leaders positions and support domestic development simultaneously by their plans to increase M2 and hold down the renminbi as long as China is in the strong economic leadership stance and Europe’s considerations regarding slow recovery, raising inflation and sovereign debts issues.

In addition, the Financial Sector Assessment Handbook prepared by the IMF in 2005 includes the macroeconomic approach which is based on the Demirgüē-Kunt and Detragiache (1998) study and is used to predict financial crises. The study showed that the macroeconomic policies cause crisis when economy growth is low and inflation is high. The practical evidences of the current macroeconomic crisis may be the following: high bond yields of the eurozone "peripheral" countries, concerns regarding the restructuring of Greece debt and uncertainties about the financing of Portuguese debt while the Europe’s economy growth is low and its recovery suffer from the pressure of high inflation as well as the US enlarged burden to repay its debt because of its excessive liquidity policy that created high inflation in its own low growth economy.

Thus, I believe that current data and macroeconomic events are enough to acknowledge that we already suffer a macroeconomic crisis and immediate solutions are required now but not then the IMF survey of the 7 most influential countries is accomplished.

Moreover, in order the cooperation goals were achieved and significant macro policies’ cross-border effects were minimized the statement from the Integrating Stability Assessments Under the Financial Sector Assessment Program into Article IV Surveillance (August 27, 2010) that determines systematic stability as the following:

“...systemic stability is most effectively achieved by each member adopting policies that promote its own “external stability” – that is, a balance of payments position that does not, and is not likely to, give rise to disruptive exchange rate movements. In the conduct of their domestic economic and financial policies, members are considered to be promoting external stability when they are promoting their own domestic stability – that is, when they comply with the obligations of Article IV, Sections 1 (i) and (ii) of the Fund’s Articles.”

should be revised and acknowledged by the IMFC that countries those are promoting only macroeconomic policies of their own domestic stability most often cause economy recessions in other regions.

The leaders' focus on prevention rather than escape of the systematic risks

Deep anxiety over the hardly observable systematic risks that cause financial crises and therefore the fragility of the global financial systems brought me to the Guidance to Assess the Systemic Importance of Financial Institutions, Markets and Instruments: Initial Considerations—Background Paper. The report to the G-20 Finance Ministers and Central Bank Governors was prepared by the staff of the International Monetary Fund and the Bank for International Settlements, and the Secretariat of the Financial Stability Board in October 2009. The questionnaire of the survey was sent to 27 central banks, the central banks of G-20 and central banks of other countries which are treated as host countries of important international banks. The purpose of the study was to find out how countries identify and assess systematic relevance and whether the countries consider any particular sector and individual institution within that sector systematic.

According to the survey respondents identified the banks as the most systematically important institutions. It was also revealed that the stock market, interbank money market, foreign exchange market and government debt market have the greatest systemic impact among markets. Moreover, many countries acknowledged that their payment and settlement systems are critically important infrastructure which is required for smooth functioning of the financial systems and, in addition to that, the respondents specified that the size, interconnectedness, leverage, maturity mismatches and concentration risk were the most important factors contributing to the systematic importance of the financial crises.

The survey accomplished more than a year ago shows clearly views and perceptions of the 27 most influential central banks regarding the systematic risks and is a keystone for G-20 leaders, the Central Bank Governors and the financial stability preserving international bodies to pursue financial system’s improvements, id est. enhance international cooperation, improve access to timely data on inter-institutional exposures and solve existing information gaps in markets and infrastructure.

However, improved quantitative and qualitative indicators, stress tests, scenario analysis and assessments of market developments are just techniques to identify systematic risk and ongoing legal, operational, regulatory and supervisory improvements are just the emergency guidance in the event of financial crises.

Thus, I wonder more about the G-20 leaders, the Central Bank Governors and the financial stability preserving international institutions’ extreme focus and concentration on the improvements of the current financial systems rather than stepping back and analysing broader the potential impact of proposed political leaders’ decisions on the attractiveness of business environment and global economy state. From my point of view, some systematic risks may not be caused by financial institutions and the reasons of them may not be identified on the balance sheets. So, while leaders try to find solutions how to prevent but not how to avoid systematic risks, the possibilities of the recurrent financial crises are highly reliable.

Is it a financial crisis? Maybe not, it is rather a crisis of sound leadership

The budget preparation and submission for the parliament approval is a test on the political influence. George Osborne, the Chancellor of the Exchequer of the UK passed the challenge on Wednesday, however, José Sócrates the Prime Minister of Portugal resigned after the parliament’s rejection of the austerity plan.

A burden of rising debts and a threat of insolvency force Europe to undertake budget deficit reduction measures and perhaps most importantly, to seek for the effective means to stimulate the recovery of the economy. As practice shows the political intentions to achieve the financial balance by increasing tax burden for corporations and individuals as well as the political commitments to protect and satisfy the essential needs of the increased socially vulnerable community, weaken states incomes and financial reserves. Consequently, that kind of policy deepens recession. In fact, political concentration on the solutions to ease the barriers of trade and production, to support business competitiveness and even small changes in tax reduction are welcomed by entrepreneurs and investors.

According to Osborne’s unveiled budget, politicians committed to reduce the costs of public sector and social support. Instead, they obliged themselves to create 21 new enterprise zones and apply specific measures to support businesses and high value manufacturing within those zones. At the same time presented similar public cost-cutting measures by Sócrates were opposed. Thus, political uncertainty, high yields on Portuguese bonds and a threat of insolvency, will foster Portugal to seek a bail out from EU and the IMF.

So, is it a financial crisis Portugal has to tackle? I do not think so. It is rather a crisis of leadership. If the budget was presented not as a plan of changed taxes and budget allocation in percentage terms but as an action plan of the development strategy it would be easier to gain political credibility and achieve support by the majority.

The outcomes of G-7’s intervention to support Japan’s recovery

G-7 agreed on selling the yen on Thursday night to prevent the Japanese currency from appreciation and help its domestic economy to recover after the natural disaster. The solidarity of the U.S., Japan, U.K., Canada, France, Germany and Italy and the nation’s prompt response to the critical situation is respectful, however let’s view the scenarios and outcomes of such intervention.


After the sharp decline of Japanese stock markets Japan threw trillions of yen into the markets to keep financial markets functioning. These monetary actions treated as financial stability measures are based on businesses self-support expectations. While Japan’s production is competitive and exchange rate is favorable to sell produced goods in foreign markets, it is likely that export industries will keep operating and even increase their production. Those desirable outcomes are well understood as one of the most important things for Japan is to master the rise of unemployment and place people those lost their jobs during the disaster.

On the other hand, additional sales of yen by G-7 central banks should support the devaluation of yen. However, what are the long term implications of this policy?

During a couple of years we saw the financial crises in US, Europe and now in Japan. The reasons of financial instability are different but one thing is common to all crisis management - monetary policy actions are just a short term relief. The increase of money supply which is used to keep financial stability and boost recovery most likely will have negative implications in the future. Uncontrollable money spread in to the markets may not reach those who really need financial support and directly contribute to the recovery. Moreover, excessive money amount in the markets boost inflation.

Thus, from my point of view, the G-7’s purchase of Japan’s government bonds and Japanese targeted subsidies to restore the outcomes of disasters would be a better decision.

Could the eternal engines be created?

Uncontrollable disasters sweep created wealth momentary and remind about the humans’ vulnerability against the nature powers. Destructive earthquake, tsunami and the explosion of nuclear power reactors in Japan weakened Japanese stock markets and coursed self-acting decline in global markets.

According to the direct damages, the companies those infrastructure were destroyed and production suspended as well as insurance companies may have a long lasting exposure to Japan. However, shares of rebuilding companies and producers of alternative energy resources may keep accelerating.

Beside the material losses in Japan, the explosion of the nuclear power reactors rise global concerns regarding the benefits of their efficiency versus risks due to radiation. Thus, after the Japan’s disaster the most attention may be shifted to better utilization of the nature powers such as wind, solar, water and thermal heat for generating practically eternal engines.

The rationality of current financial systems

Money is equivalent of value and its main purpose is facilitating swaps of products or services. Thus, does it mean that the value of produced goods or provided services fluctuates by itself according to the volatility in the foreign exchange markets? From my point of view, intrinsic value does not change however, the demand may be affected substantially. In short term, there are measures to hedge market risks but do we have foundations to keep stability of currency?

Today’s financial systems are more sophisticated and money possesses more functions. The one is very important – it is used as a device for future value creation. So, could the interest of producers to growth their businesses as well as sustain price stability and financial intermediates goals to multiply existing capital be harmonized?

Moreover, how much the same amount of money could be multiplied? Theoretically, as much as it is not restricted, in reality the amount of money is as much as it was issued. Thus, is an uninterrupted growth of financial wealth available and isn't sustainable growth losing its meaning in the current financial systems?

The same misunderstanding may be applied to the financial decisions that are made according to the market expectations. What is a rationality of managing market expectations rather than cash flows?

I think that markets fail to reflect real value and money is losing its main purpose - being an equivalent measure of worth.

Is the quantity more appreciable that quality?

The next year leadership transition in China is discussed alongside a 5 year government priorities. Inflation is the main task to manage, however further rapid, 7% average annual economic growth and attempts to increase domestic consumption make the primary goal hardly achievable.

Pledges to keep economy growth are common for all politicians. Has anybody promised differently and is the quantity more appreciable that quality?

It is certainly true that inflation caused by imported goods could be reduced by developing effective domestic industries. However, despite of efforts to ease dependence on imports in China, the structural inflation will come into force. The government have set a 16 % growth target for M2 in their plans to stimulate local consumption. So, that even higher inflation and greater social dissatisfaction may be expected.

On the other side the statement to improve the distribution of the benefits gathered from growth evokes curiosity. What are the preferences of capital allocation?

A pitfall of accelerating inflation

There is no doubt regarding surge global demands in the near future. Thus, while production of food and raw materials rise in the slower pace we will steadily feel higher pressure of growing inflation. Additionally to the constant increase in demands, political battles to boost domestic economies encourage unsustainable decisions. As long as currently accelerating inflation diminishes purchasing power of currencies and value of financial assets, the real global systematic risk arise which is a pitfall for economy growth and financial stability.

However, while somebody concerns about sustainability of economy and measures to keep financial stability, for others - political turmoil, high volatility in the financial markets and increased money supply to maintain liquidity are essential conditions to trade options successfully.

New decision making mechanisms for sustainable development

The signals of 4 percent increase in the consumer prices in January trigger the Bank of England to tighten monetary policy as its official target is 2 percent. Thus, what would be the response and reasoning of monetary policy in the context of more competitive foreign economies when the main reason of rising inflation is the surging food and petrol costs as well as increased VAT?

Solutions to follow the target implicitly will not be successful unless the complex of actions that involves specific monetary and fiscal policies as well as particular provisions for financial institutions are coordinated.  The strategies of sustainable economy growth should include the harmonized control of money supply, efficient allocation of capital and preventive financial stability measures depending on the economy state of the region. Moreover, only decisions made according to the aggregated statistical data but not inflexible commitments could stimulate competitiveness of less attractive industries and prevent from asset bobbles.

So, is it a right time to consider new decision making mechanisms for sustainable development?

Advantage of strategic finance management system

Successful business decisions and significant achievements in the past may raise unbroken beliefs of unfailing positive conditions. However, business development in dynamic business environment meets new challenges and more flexibility is required to sustain long term stability.

Most often unexpected issues arise suddenly as shocks when unfavourable circumstances need to be solved immediately and most likely quick impact measures are implemented to preserve capital in tighter environment conditions. However, such choice may have a negative impact on the long term corporate value as reasons of the problems may not be eliminated.

Changes in legislations, economy conditions, markets, business relationships, innovations, technology or customers’ expectations require transforming business management as complicated decision making regarding future uncertainties raises tensions. Wrong solutions may lead to financial losses, so preparation for changes in dynamic environment seems to be very important.

The issues may be solved and a competitive advantage could be entrenched if changes were predicted in advance and the complex data management systems were improved so that it let to estimate the impact of sensitive indicators on corporation’s strategy and facilitate decision making due to smooth business adaptation to new circumstances and conditions.

Such being the case the prepared methodology of strategic finance management could become an advanced standard of corporate governance and the main tool of corporate decision making.

Concerns regarding Europe's economic growth

The World Economic Forum attracts business, political, academic and other leaders for opened discussions about the current economic issues. Among sustainable global economy growth and risks matters concerns regarding Europe's economic growth is highlighted at the annual meeting in 2011.

In 2010 EU leaders brought together EU cross-board groups to enhance coordination between national authorities regarding the improvement of corporate governance, harmonized monitoring and supervision of alternative investment funds and enhanced supervision of Credit Rating Agencies. EU framed the European Financial Stabilization Mechanism (EFSM) and the European Financial Stability Facility (EFSF) to assist member states in financial difficulties, agreed on permanent European Stability Mechanism (ESM) and supported Greece and Ireland. The leaders imposed greater budgetary discipline, initiated propositions regarding structural reforms for enhanced economic governance as well as established European Systemic Risk Board (ERSB) and three other cross-board supervision authorities for banks, markets, insurances and pensions - European Banking Authority (EBA), European Securities and Markets Authority (ESMA), European Insurance and Occupational Pensions Authority (EIOPA).

However, despite these actions investors still concern about the Europe’s financial stability. The collective defence efforts were taken but who will break the ice, combine the advantageous of the region and lead through the breakout?

Banks’ business models impact on financial stability

The investigation of the British government appointed Independent Commission on Banking regarding the Britain’s banking structure impact on financial stability raise my doubts, whether considerations to separate retail banking from the investment banking is a reasonable solution to keep financial stability.

In general competitiveness of the company depends on the capabilities to identify and satisfy the needs of customers. So, while assets risk is based on business decisions, it is more likely that not a standardize particular business model but enhanced corporate governance standards may lead to more efficient asset allocations, which generate positive NPVs and increase value of the company.

The problems with the financial stability arise from the financial risk that depends on the capital structure. It may seem that increased free cash flows from large leverage are advantageous decisions because of the interest tax shield. However, when the company uses excessive debt it increases the risk of equity and imposes financial distress costs.

Moreover, as long as asset risks are usually similar within the industry it is more important to look for more effective financial risk management tools rather than discuss the appropriate business models for financial institutions.

The cooperation of the US and China

The scheduled meeting of the U.S. President Barack Obama's and Chinese President Hu Jintao to discuss the cooperation of the leading economy countries in Washington on Wednesday, 19 January is an interesting event to observe because the leaders wish to agree on the power of influence.

Could China insist to stop the U.S. Federal Reserve’s economy stimulation program through the huge bond purchases that should keep long-term interest rates at the law level, depreciate the dollar and raise inflation? Is the US able to convince the China to appreciate its currency and reduce its products' export to overseas? Similarly, does Chinese suggested alternative to shift the US dollar domination in the global markets with the China’s currency would be a more reliable solution?

Agenda is full of contradictions. So, could a common interest of the cooperation arise? Maybe, the answers to the following questions should be disclosed, first of all.

What are visions of the political leaders of the most powerful economies and how they are leading towards it? Why they consider themselves responsible for the global economy issues and why do they keep on persuading each other that the policies of their own interests are mutually beneficial solutions for the rest of the world?

Banks’ bonuses versus the risk of banking system’s collapse

High bonuses for banks’ executives are not only an issue of conflicts between companies’ stakeholders, and it is not just a subject of ethics. The context of today’s fragile European economy’s recovery sends a message - new risk management challenges are ahead.

Banking system is the most important sector of any financial system as its main purpose is resource allocation. So, well operating banking system when firms ensure effective risk management of liquidity and capital adequacy by themselves is essential for economy growth. However, besides the troubles to liquidate the toxic assets after the subprime mortgage crisis the other, maybe even complicated challenge should be mastered. It is banks’ exposure to at least risky and the highly liquid class of assets - sovereign bonds, the bonds of the largest borrowers in the economy, the obligations those credibility is declining in the markets.

So, who is going to rescue the financial system once again in the event of irresponsible banks’ bonuses when actually there are no additional recourses for the bailout?

Sufficiency of the means used to stabilize domestic economies

How powerful are national decisions in open markets and globalization processes and how sufficient are broadly used indirect means such as control of the supply of the currency, regulation of interest rates, budget restrictions, tax rates and, etc. to reach the desirable state of domestic economy and the welfare of the nation’s people?

Broadly discussed economy stabilization issues and threats of rising inflation point attention to the most important goods of people’s daily life required to satisfy the minimum demands. We could hardly live without food, clothes, heating or transport nowadays, the products or services that usually do not have substitutes and those demands do not change or vary slightly despite the rise of their prices. The helpless victims of circumstances are evident once the most important goods of people’s daily life are imported and depend on the global market prices.

Consequently, the attempts to boost recovery and protect from inflation by ordinary means of national monetary and fiscal policies are not enough and should be sought direct and specific ways for the achievement of domestic goals.