Friday, July 25, 2008

Sub-prime - a crisis in journalism?

In an important article, independent journalist Paul Lashmar, has explored how newspapers and other media covered the developments in the financial markets which led up to the sub-prime crisis in 2007.

He opens the article citing former BBC economics editor, Evan Davis, saying that he felt that journalists did not adequately fulfil their role in helping the general public to understand the problems that were building up:

"I do ask" Davis is quoted saying "whether we did our best to warn people of impending problems during the upswing of the [economic] cycle."

The question is rhetorical, but the answer must be a resounding no.

Lashmar's research into reporting prior to the sub-prime market collapse in mid-year 2007 suggests that very few journalists had made any serious investigation into how significant economic risks were being disguised and hidden in complex offshore structures. Too often, the journalists simply accepted the line that these structures formed part of a new "innovative" form of financial capitalism: an issue covered in the editorial of the most recent edition of Tax Justice Focus. More importantly, journalists were deterred by a dangerous combination of complexity and opacity from asking crucial questions about how offshore structures actually add economic value to the wealth creation process.

The upshot of this failure to lift the rocks to see what lurked underneath, is that journalists contributed to the build up of the current banking crisis through their largely uncritical analysis of the free market miracle, and misled the public in the process. This led to a situation in which the public were lulled into a wholly false sense of security, with lamentable economic and social outcomes which challenge the bedrock of liberal economics: without perfect market knowledge, buyers cannot understand the nature of the transactions they engage in. As Paul de Grauwe commented recently in the Financial Times:

If we have learnt one thing from the credit crisis it is that individuals did not understand the “truth” and, it must be admitted, neither did economists. Individuals who sold the new financial instruments did not understand the risk embedded in these instruments, nor did the buyers. When the bubble started many interpreted the happy turn of affairs as permanent and took on massive levels of debt that turned out to be unsustainable. When the bubble burst, they did not understand what had happened and nor did most experts. Our world is one of a fundamental lack of understanding of the “truth”.

Its not as if the warning signs were not flashing red long before 2007. Lashmar reports that major figures in the City of London were raising alarms about "toxic" collateralised debt obligations (CDOs) in 2002. This blogger attended a meeting attended by senior officials of the UK Financial Services Authority in 2004 when similar warnings were given, but the clear impression was conveyed by the officials in attendance that the FSA regarded such concerns as (a) alarmist, and (b) not their responsibility since so many of the derivative instruments involved were being traded offshore.

Experts associated with TJN were raising concerns about unsustainable levels of leverage in 2003. They were also commenting on the rapid growth in the number and size of hedge funds operated from tax haven jurisdictions, many of which lack capacity to regulate such funds effectively, or even decline to do so entirely. More recently, Richard Murphy, for example, has raised concerns about how Jersey, which was a major centre for the type of mortgage asset securitisation that underlay the sub-prime credit crisis, now allows hedge funds to operate entirely without regulation. The UK government has responsibility for the good governance of its Crown Dependencies, of which Jersey is one, but still shrugs its shoulders and allows business to continue as usual. This attitude should not be allowed to continue one day further: important commentators have already signalled that the days of unregulated financial capitalism are over. Martin Wolf of the Financial Times wrote in March 2008:

Remember Friday March 14 2008: it was the day the dream of global free- market capitalism died. For three decades we have moved towards market-driven financial systems. By its decision to rescue Bear Stearns, the Federal Reserve, the institution responsible for monetary policy in the US, chief protagonist of free-market capitalism, declared this era over. It showed in deeds its agreement with the remark by Josef Ackermann, chief executive of Deutsche Bank, that “I no longer believe in the market’s self-healing power”. Deregulation has reached its limits.

The British government, beleagured on all sides and facing a massive loss of public confidence, must urgently accept its primary responsibility for protecting the public interest from the predatory activities of its Crown Dependencies and Overseas Territories: without any further delay. The current Treasury Committee hearings into the role of offshore financial centres in undermining financial stability and transparency is an important step in this direction (click here for TJN's major submission to this inquiry), but we need clear evidence that this inquiry is supported by both the Prime Minister and the Chancellor, and they will take action on its findings.

TJN has been warning for years about the hazards that tax havens have created in the new world order of disorder. These hazards extend beyond the creation of unregulated and undisclosed market risks. Tax havens create a crimonogenic financial infrastructure, which both encourages and facilitates crime and grand corruption. By and large journalists have failed to make this connection. They are not alone in this failure: politicians and researchers have also largely ignored these issues. But the fourth estate is supposed to act in the public interest in exposing what goes on below the surface, and this is generally not happening.

Several reasons might explain this failure. First, the bulk of financial "innovation" in the past decade has been both complex and opaque, and therefore difficult to investigate. Second, the advertising revenue from banks, accounting firms, and other major financial market players, contributes a significant income to financial papers and the specialist media: dare we suggest that this might dull objectivity. Third, and perhaps most insidiously, major media companies throughout Europe and America are owned by individuals and companies who are themselves users of complex offshore structures (and they don't come much more complex than Rupert Murdoch's News International, to cite one example), rendering editors less likely to take a critical stance of how tax havens are used.

Whatever the reason, there has clearly been a major failure on the part of financial journalists, and the few exceptions prove the point. Lashmar does the public a major service by raising this important point.


Anonymous Anonymous said...

You fail to explain how Offshore tax havens have had any role in the sub-prime crisis. As fas as I am aware the whole mess was caused by lenders giving money to people who had bad credit rating to buy over valued houses, primarily in the USA. Please enlighten us just how tax havens fit into this toxic bank scandal.

7:20 am  
Blogger TJN said...

@anon: for detailed analysis of how tax havens have contributed to the current global banking crisis see:

9:09 am  
Blogger TJN said...

and, for further exploration of tax havens' role, see this:

3:29 am  

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