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  • China's Growing Debt

    China's economy continues to thrive compared to others around the globe. The growth rate for the third quarter was near 9%. Great returns for 2009, and the near future looks even brighter to most economists and investors. But at Fortune/CNNMoney.com , Bill Powell writes of some concerns over China's escalating debt. According to Powell, the Chinese government has issued massive loans to boost infrastructure, manufacturing, and real estate. The loans total $1.27 trillion, "up 136% from the same period last year." According to a recent analysis by Monaco-based hedge fund Pivot Capital Management, China's total lending reached 140% of GDP at midyear. That kind of lending makes China an "outlier" compared with other BRIC (Brazil, Russia, India, and China) countries -- and is already well beyond the levels that "have led to sharp and brief credit crises in the past," the Pivot Capital report contends. Moreover, an increasing number of Chinese loans are being funneled into projects unlikely to generate an attractive economic return. From 2000 to 2008 it took just $1.50 in new credit to generate $1 of GDP growth. Now that ratio is 7 to 1. (In the U.S., just before the financial crisis hit, the ratio was only 4 to 1.) That's because the loans are creating huge amounts of manufacturing capacity -- which is unneeded in the bears' view. China's spare capacity in the cement industry, for example, equals the total annual consumption in the U.S., Japan, and India combined. So where will the growth come from? China's export markets are tapped out. Its domestic consumption, stalled at around a third of GDP, hasn't yet started to rise significantly. Additional manufacturing investment would be crazy, leading arguably to a global deflationary bust of epic proportions. Read the full article here .

  • 'The Warning' from Frontline

    As head of the Commodities Futures Trading Commission , Brooksley Born was concerned about secretive trading practices of derivatives. She wanted more oversight of the derivatives market. But Alan Greenspan, Larry Summers, and others wouldn't listen--and blocked her attempts to put more regulations into the financial system. When 2008 hit, her worst fears started coming true, as she tells Frontline : It was like my worst nightmare coming true. I had had enormous concerns about the over-the-counter derivatives [OTC] market, including credit default swaps, for a number of years. The market was totally opaque; we now call it the dark market. So nobody really knew what was going on in the market. And then it became obvious as Lehman Brothers failed, as AIG [American International Group] suddenly appeared to be on the brink of tremendous defaults and turned out had been a major credit default swap dealer and needed hundreds of billions of dollars to keep it alive, the contagion in the marketplace from those failures brought many, many of our biggest financial services companies to the brink of collapse. And it was very frightening. Born's story is at the center of a new Frontline documentary called The Warning . Here's a preview: You can watch the full program here .

  • Geithner in Istanbul: Reform, Fiscal Stimulus Must Continue or Recovery Will be Halted

    Treasury Secretary Timothy Geithner joined other G7 finance leaders in Istanbul to tell members of The Institute of International Finance --representing many of the world's largest bank--that reform is a necessary component of recovery, and to expect "sweeping changes," according to a Reuters report . Reuters quotes Geithner as telling bankers, "We're not going to adopt an approach that does stuff at the margin, and delays any changes that help preserve a bunch of practices that helped make this crisis much more damaging than it otherwise would have been." Geithner also stressed the need to continue fiscal stimulus, as The Wall Street Journal's Andy Jordan and Bob Davis report below:

  • De-mystifying Finance

    Joe Knight , co-owner of the Business Literacy Institute , and co-author of the book, Financial Intelligence (both along with Karen Berman ) is out to de-mystify finance. He travels the country to teach business owners and comapny managers the basics of finance. In his mind, the notion that finance is a specialized field is a mistake. He believes that all employees should have a sense of a company's finances, and that the more they understand, the more care they take to build a stronger business and make a stronger balance sheet. He explains his approach in this Harvard Business video:

  • Warren Buffet Cartoon

    ( updated with better clip) Maybe Warren Buffet is getting a little tired of trying to explain finance to adults...because now he's going to go straight to kids--or at least an animated Warren Buffet character is:

  • Daniel Kahneman on Rationality

    Daniel Kahneman was awarded the 2002 Nobel Memorial Prize in Economics "for having integrated insights from psychological research into economic science, especially concerning human judgment and decision-making under uncertainty." He is one of only two non-economists to be so honored. Some credit his work, alongside the late Amos Tversky , with laying the groundwork for the now-hot field of behavioral economics. Kahnneman spoke last month about that field, and about how rationally we all really behave when it comes to finance and economics, at Georgetown University's commencement. And he says the very definition of "rationality" in economics is different than it is in everyday language:

  • A Tale of Two Companies: Credit Market Conditions Stabilize for Some Firms and Worsen for Others

    Each quarter the Duke University / CFO Magazine Global Business Outlook Survey polls thousands of chief financial officers around the world. The most recent survey concluded May 29 and reflects the views of 1,309 CFOs in the U.S., Europe, and Asia. This entry is by John R. Graham of Duke University's Fuqua School of Business, and CFO Magazine's Kate O'Sullivan . We recently surveyed CFOs of 540 companies in the US, and nearly 800 in Europe and Asia, to gauge the status of credit markets and the world economy. About one quarter of companies has been severely impacted by tight credit markets, and another third has been moderately affected. These financially constrained companies are in a troubling position because they for the most part have negative earnings and have seen their cash holdings shrink on average by about one-fifth over the past year. Finding credit is difficult for them, and when a loan can be secured, the interest rates and fees are high. If these financially constrained firms are losing money, their cash is disappearing, and they can not borrow on favorable terms, what can they do? More than 80 percent have had to postpone or cancel valuable investment projects due to credit tightness. Half have sold assets just to fund their remaining operations. When they do obtain funding, these companies draw heavily on their bank credit lines, rather than using lines as short-term funds or as a bridge as intended. For these companies, credit market conditions have worsened during 2009, despite the historic efforts of the central bankers and Treasury Department. Moreover, many of these firms indicate that they will need to borrow before year-end, though it is not clear whether lenders will be willing to provide them funds. But not all companies are in such dire straights. Among the 40 percent of companies that say they have been largely unaffected by the credit crisis-mainly those that have remained profitable and retained a good credit rating-four out of five have found stable or improved credit conditions during 2009. These stronger companies are able to borrow and the fees and rates they pay have not increased. These firms have been able to build up their cash reserves this year, and they are not leaning heavily on their available lines of credit. While these companies are cautious about their hiring and capital spending plans, the cuts they have made are not as severe as those at the troubled firms. Overall, these strong companies have been able to tread water as the economic turmoil has raged, and they are hunkered down and appear able to ride out the rest of the storm. It is on the backs of these companies that the economic recovery will ride when it starts. The great risk for the economy, as we see it, is that the liquidity crisis among troubled firms continues unabated, with the banking system not willing to aid them, in large part because they are troubled. Should this scenario play out, the second half of 2009 might be worse than the first half. But even for these weaker companies, one glimmer of hope is that the majority have been able to negotiate more favorable terms (reduced prices, delayed payments) with their suppliers. While helpful to the weak firms, of course, this does shift some of the burden to their suppliers. Two other pieces of good news. First, CFO optimism is up from last quarter's record lows. While still below the long-run average optimism, this leading indicator is moving in the right direction, which bodes well for early 2010. The majority of CFOs say that they believe a recovery will be underway as 2010 begins. Second, an internal recovery is occurring in Asia, not dependent on the West. For example, in China, a majority of companies report an increase in orders from other Chinese firms. With this important part of the world economy stabilizing, export demand for goods produced in the US and Europe should in time increase, aiding a 2010 recovery in the West. John R. Graham is the D. Richard Mead Jr. Family Professor of Finance at Fuqua School of Business. The Global Business Outlook Survey has been conducted 53 consecutive quarters. For more information on the survey click here .

  • Ten Questions to Help CFOs Prepare for Recovery

    Top Chief Financial Officers have earned their keep through this recession as the credit crunch has put a lot of companies in tight spots. IF the recession does end in the coming months, CFOs will have to shift gears and help steer companies through a whole new set of challenges. McKinsey Quarterly offers up ten questions to consider for this next phase. For example, question 2: Have you restructured enough? A weak economy makes it easier to implement unpopular operational changes and divestitures: companies have more leverage over suppliers, unions and regulators are more cooperative, and employees understand the need for change. When the economy strengthens, these advantages will quickly vanish. CFOs should challenge their colleagues to examine how much more restructuring might be undertaken to secure a company’s cost position for the medium term. And question 9: Do you know what risks a recovery might bring? Risk management and contingency planning are typically better at highlighting day-to-day issues than at anticipating major shifts. Yet an economic turnaround could bring a number of structural changes, some relatively predictable and with far-reaching effects. How well, for example, do you understand your company’s exposure to major currency or commodity price movements? Do you know whether the health of channels, customers, or suppliers might create substantial structural change or whether your company is prepared to deal with high levels of volatility that may continue even as a recovery builds? Read the full list and get into the conversation here .

  • France's Finance Minister Calls for Coordinated Regulation of Financial System

    The finance ministers of the G7 nations met in Washington on Friday, and they agreed that there are "some signs that recession-fighting efforts are finally starting to work" according to a Reuters report . But the finance ministers are not satisfied with the pace of recovery, and remain concerned with "the slow progress in cleansing bank balance sheets." Christine Lagarde, France's finance minister, says banks in her country are in relatively good shape. She is concerned that the global leaders have not yet dealt with fixing the overall regulatory structure of the global economy. She was a guest on Charlie Rose last night, and in the interview she told Rose that she isn't calling for more regulation, but rather coordinated regulation--"common regulation, common principles." When asked if governments should wait until after the economic crisis is halted to revamp regulation, Lagarde says that the French position is to do it simultaneously. If we don't reform the regulatory structure before we stimulate growth, she says, we will soon have false hope. That is, we will see a period of growth, causing people to then ignore the call for regulatory change, while the system remains be broken. Here is Lagarde's interview with Charlie Rose:

  • Robert Merton on Derivatives and the Global Economic Crisis

    Robert Merton was rewarded a Nobel Prize in Economics (along with Myron Scholes ) for his work on " Analytical optimal control theory as applied to stochastic and non-stochastic economics ." Or, to put it another way, he and Scholes were recognized for coming up with new ways of determining the value of derivatives. In this lecture at MIT he explains how put options, a type of derivative, are at the center of understanding the root cause of the global economic crisis: Here's a good one page summation of Scholes and Merton's work on derivatives from Nova . (Hat tip to Greg Mankiw and Arnold Kling)

  • UK Chancellor on International Cooperation

    Finance Ministers and Central Bankers of G20 nations are meeting this weekend, 3 weeks ahead of the G20's London Summit. Britain's Chancellor of the Exchequer Alistair Darling will be chairing the meeting. He says that international leaders need to get on the same page and accept that this is "one of those few occasions that occur in a century where action is needed, action is needed immediately, and we need to take action together and it can make a real difference to the people who send us here." He explains his goals for the weekend here:

  • The weak get weaker: Corporate liquidity, asset sales, and the extensive use of bank lines of credit at lower-rated firms

    Each quarter the Duke University / CFO Magazine Global Business Outlook Survey polls thousands of chief financial officers around the world. The most recent survey concluded February 27 and reflects the views of 1,268 CFOs in the U.S., Europe, and Asia. This entry by John R. Graham of Duke University's Fuqua School of Business draws on the February 2009 and November 2008 surveys. The credit crisis of late 2008 has spilled into 2009, and the lack of funding has hampered the ability of many corporations to make the ideal operating and investment choices. We recently completed an in-depth study of how tight credit is affecting corporate activity. When a company is able to invest in positive net present value (NPV) projects, this means that the project returns more than the company's cost of capital, thereby increasing firm value in the long run. When credit is tight, as it is now, companies are not always able to obtain the necessary financing to pursue positive NPV projects. Due to the current credit crunch, more than half (55 percent) of U.S. companies tell us that they have recently had to cancel or postpone positive NPV projects. European and Asian companies are in a similar situation. This is bad for the economy in the long run because it spreads the effects of the current credit crisis into the future - less cash flow will be produced one or two years from now due to the cancellation of good projects today. Limited liquidity can hurt any company, but the problems are most acute among firms with poor credit ratings. For these firms, credit markets have nearly shut down. When external borrowing is limited, a company must rely more on internal funds, such as profits, asset sales, or cash on the balance sheet. For low-rated firms, profits are often poor, further limiting options. In our analysis, we found that struggling U.S. firms started 2008 with cash and marketable securities on the balance sheet equal to about 15 percent of total assets but ended the year with cash and marketable securities amounting to only 12 percent of assets. These financially constrained firms burned through a startling one-fifth of their cash holdings in just one year's time. Again, similar patterns are observed in Europe and in Asia. On the bright side, companies that are stronger financially were able to maintain cash of about 15 percent of asset value. Ironically, this indicates that most financially strong firms should not need to borrow extensively from credit markets, even though these are the only firms for which credit markets remain fairly open. In contrast, low-rated firms are burning through their internal reserves, while at the same time finding limited access to external sources of funding. What can a poorly performing firm do if it has limited profits, shrinking cash reserves, and little access to external capital? One option is to sell assets in order to obtain funds. Among firms that tell us they have experienced problems accessing credit markets, an astounding 56 percent indicate that they have sold assets in order to free up funds for other uses. While it is possible that some companies are finally shedding underperforming divisions (which would be a good thing), when you consider the depressed state of asset markets, it is likely that many of these recent asset sales have occurred at fire sale prices. Thus, asset sales have provided little relief. Firms that are struggling to access new capital can also rely on previously established lines of credit. Normally, credit lines are used for temporary "bridge" loans or as a short term substitute for cash. Today, we find evidence that lines of credit are instead serving as a "last resort" source of funds. U.S. firms have lines of credit with maximum borrowing capacity equal to about 23 percent of total asset value on average. We also find evidence that credit lines do in fact substitute for cash in that firms that have less cash on the books have a tendency to maintain larger credit line capacity. What is most astonishing about our credit line analysis is the degree to which they are currently drawn down. The typical U.S. company has drawn about 38 percent of the maximum allowable borrowing on its credit line. Companies with credit ratings of A or higher have drawn down less than 30 percent of maximum on average, while companies rated BBB or BB have drawn nearly 40 percent of the maximum allowed by their credit lines. Notably, companies rated B or lower have drawn nearly 70 percent of their line of credit capacity. This is alarming because it indicates that poorly rated firms have nearly used all available debt capacity. This draw down on credit lines among poorly rated firms has been exacerbated by a "just in case" phenomenon at some companies. That is, many poorly rated companies are drawing on their credit lines now as a precaution, fearing that their banks will eliminate their credit lines in the future (if, for example, the...

  • New Enthusiasm in Finance Classrooms

    From Virginia Business : As a finance professor at George Mason University’s School of Management, Gerald Hanweck is used to seeing students treat his subject with quiet dedication — not overt enthusiasm. But since Wall Street began a financial meltdown this fall, Hanweck has learned to check his expectations at the door. Thanks to the media attention surrounding the crisis, many GMU business students have made the switch to finance or added it as a second major. The sudden interest is incredible, Hanweck says, noting that classroom discussions are spirited and a little known elective called “Derivatives, Futures and Options” is overenrolled for the spring semester. Today’s financial crisis offers “essentially a living laboratory for students to learn in,” says Hanweck. “Who would have thought that [the insurance giant] AIG had a huge portfolio of credit default swaps? It’s like the early studies of human anatomy: Now we suddenly have the bodies opened up, and we can see inside. It’s quite exciting.” We're looking for similar stories of students taking a new interest in finance and related fields because of the global economic crisis. If you have any, please share.
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  • Niall Ferguson and 'The Ascent of Money'

    Niall Ferguson has been making the rounds lately, talking about his latest book The Ascent of Money. The book came out last fall, and the timing seems right for this history of finance and, as Ferguson cheekily puts it, "moolah." Watch Ferguson on The Colbert Report : niall ferguson You can read a synopsis of The Ascent of Money here . Ferguson is professor of history at Harvard University, professor of business administration at Harvard Business School, fellow at Oxford, and contributing editor at the Financial Times. If he were a basketball player Bill Raftery would call him a "stat sheet stuffer." Now he's a television host as well. This week, PBS stations around the country are airing Ferguson's video take on The Ascent of Money. The full 2-hour documentary is available online, along with a host of useful web resources, here . And here's a segment from the program:
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