The Hindu Business Line : Tale for the gullible in bubbledom

Greenspan bailed out the world’s largest equity bubble with the world’s largest real estate bubble, writes William A. Fleckenstein in Greenspan’s Bubbles: The Age of Ignorance at the Federal Reserve ( www.tatamcgrawhill.com ). “That combination easily equates to the biggest orgy of speculation and debt creation the US (and the world) has ever seen,” he rues.

During Greenspan’s tenure, the creative destruction component of capitalism was routinely suppressed, the author observes. “The main consequence of this suppression was a loss of fear. Thus, the normal risk reduction response to periodic financial pain never occurred, as Greenspan wouldn’t even allow small crises to run their course.”

Fleckenstein describes how when people lost respect for the idea that they might lose money, risk-taking continually escalated, even while swimming in oceans of debt. He sees the year 2004 as a high point in the housing bubble, as much as 1998 was to the 1990s’ stock market bubble — the moment in time when participants started to feel truly invincible and behaved accordingly.

“During that phase, in both the stock market and real estate bubbles, imagination was king. In the case of the stock market, back in 1998, disbelief was suspended for stocks generically, but blindly so for anything related to technology. In the real estate bubble, it was assumed that not only would prices continue to go higher indefinitely but literally any financing scheme would not be turned down…”

As grim a read as the case history of a comatose patient, especially for those who want to understand why the economy is in a similarly critical situation.

Off-beat ratios

In a chapter on ‘MNEs (multinational enterprises) and market valuation of firms,’ included in Changing Policy Regimes and Corporate Performance ( www.oup.com ), B. L. Pandit and N. S. Siddharthan discuss a few off-beat ratios. Such as ROY, ratio of royalty payments to sales turnover, and LP, lump-sum payments made for import of technology as a ratio to sales turnover; MK, the ratio of import of capital goods and sales, and MRAW, the ratio of import of raw materials and stores to sales.

Finding that in most high-tech and R&D-intensive goods, intra-firm trade dominated, the authors explore if import of capital goods and materials (MK, MRAW) could influence market valuation of firms.

Another metric in the essay is AGE, the age of the firm measured by the ratio of its depreciation reserves to its gross fixed assets. This is a source of salience from the point of stock market valuation, the authors reason. “Older firms with an established history could be expected to fare better in the stock market.”

Of interest to the avid researcher.

D. MURALI

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