Is the call for regulation of the financial market just a lip service?

The financial crisis from 2008, caused by the American real estate bubble, the complicated structured finance products, the huge amount of defaulted loans, and the downfall of Lehman Brothers, impacted the world economy like few other events in the history since the Great Depression.

In an unprecedented effort the governments spent trillions of Dollars to stabilize the market and their “system-relevant” financial institutions, avoiding the total collapse. Some of the banks are now government owned; some had to agree to more control and more restrictive bonus and incentive systems for their employees. This quick response saved (more or less) the economy and also helped to win back some trust in the credit market. However, it also showed the banks that they can take on risks to an extend that is not backed up by their own equity ratio, because they know – in case of mayor problems – the governments will support and save them.

What measures are required in order to prevent this scenario from repeating itself in the future?

At the peak of the crisis, governments around the globe asked for more regulation, for more restrictive rules to better control the financial market (especially hedge funds and structured financial products), the rating agencies, and the key players. The G20 summit in 2009 agreed to more control and discussed more stringent rules but so far it is looks more like a lip service. The financial market has recovered, the stock market is showing new heights almost every day, the financial institutions are chalking up enormous profits again, and the incentive system for their management has not changed. The payed out bonus is reaching still enormous levels and is – most of the time – still not related to long term goals.

France made an effort in changing the mind-set of their mayor banks. They announced that they will only work with banks in the future for government orders who comply with the rules of more control, higher equity ratios, and long-term goals as standard for their incentive plans. While this is a step in the right direction, it can only succeed if it is adopted on a global level. Mr. Sarkozy, the president of France, therefore tried to join forces with Germany. Ms. Merkel, the chancellor of Germany, supports his efforts but also points out that it needs to be accepted by all economies to avoid disadvantages for the local economy. That is the challenge!

France and Germany are both export oriented economies. They have strong industrial industry and are not fully dependent on the financial sector. This is different for the UK. They made the decision in the 1980s to transform their whole economy, away from the industrial sector towards the service industry. They wanted to become a global player for financial services. They established London as the second largest financial market, next to Wall Street. Most of the hedge funds worldwide are located in London!

Therefore the British economy was extremely hit by the financial crisis and some of the big banks are now in the hand of the government. Yet, it did not lead to a change in the government policy. Their main concern is to lose their position in the global financial sector. Thus, Gordon Brown, prime minister of the UK, is doing his best to avoid strict rules and hardened control that could torpedo his leading role.

This may be understandable, as long as tiger states in the Middle East and Asia are eager to jump in and gain a larger market share of the financial business, but it will not solve the issue and will not prepare the global economy against a repetition of such a problematic financial situation.

Hence we can only hope that the next G20 summit held at the end of September will reach conclusions and come up with binding solutions for the global market.