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Learning from the mistakes of others

Clouds gather over the Parthenon atop the ancient hill of the Acropolis. Greeks were kept in complete darkness about the lack of sustainability of their lavish lifestyles financed by generous pay packets and social benefits. Photo: Reuters

Clouds gather over the Parthenon atop the ancient hill of the Acropolis. Greeks were kept in complete darkness about the lack of sustainability of their lavish lifestyles financed by generous pay packets and social benefits. Photo: Reuters

The German word schadenfreude is roughly translated as ‘pleasure derived from the misfortunes of others’ – an all-too-common human attitude that often leads to complacency. In the last few years, some political leaders in different EU states resorted to this tactic to convince their people that they should be grateful for their leadership that has helped us avoid the fate of countries like Ireland, Spain, Portugal, Greece and Cyprus.

Regulators should ensure that banks’ business models are sound
- John Cassar White

Learning from the mistakes of others is a precious virtue, but gloating at the misfortunes of others simply to assert one’s perceived superiority is no more than moral weakness. We now know why a country like Ireland, that was once presented by some politicians as a model of good political and economic govern-ance in the Garden of Eden that was the eurozone, ultimately found itself in trouble.

Ireland relied on the property development boom to boost its economy. Irish politicians believed that they had discovered the secret of eternal economic growth by allowing its banks to finance ambitious property deve-lopment projects. The government income was boosted by massive inflows of tax from property sales, while bankers registered impress-ive profits and bonuses. As usual, the chickens eventually came home to roost.

Greece was another eurozone country that up to some time ago was depicted as an example of how a poor Mediterranean country could become affluent simply by joining the rich countries club also known as the eurozone. The mandarins in Brussels failed to notice the massive inaccuracies in the Greek statistical returns; or rather they preferred to ignore them. This ensured that EU funds continued to flow into Greece, politicians could distribute wealth that did not exist, and the Greeks were kept in complete darkness about the lack of sustainability of their lavish lifestyles financed by generous pay packets and social benefits.

Up to a few years ago Cyprus was one of the success stories of the eurozone, but they were not conscious of two major risks that were ticking like a proverbial time bomb under their economy. Cyprus was too dependent on the Vasilikos power station located in one of their ports. When this power station was put out of action after the explosion of an arms depot carelessly located in the port the Cypriot economy was crippled. Yes, dysfunctional energy providers can cripple an economy.

Cypriot banks used to boast of their British banking tradition. But these banks never imagined that their political and cultural affinity to Greece was dulling their professional judgement. They over-exposed themselves to the Greek economy by loading their balance sheets with Greek sovereign and corporate debt. We now know how hollow the Greek bankers’ claim to professional and conservative practice was.

The Royal Bank of Scotland and Northern Bank at their peak passed stress tests set by the UK financial services regulators. The successful outcome was savoured with gusto by regulators, politicians and bank leaders. After all, the UK was a centre of excellence for the financial services industry. Yet these banks had to be rescued by taxpayers’ money when unidentified risks and lack of contingency planning struck.

Economic and business risks lurk everywhere. We need to admit that we are not very good at identifying those risks that threaten to cause most damage to our eco-nomy. Rather than resort to schadenfreude, we should be making contingency plans at the macro and micro economic levels to ensure that when some unforeseen threat materialises we would have sufficient resources to survive.

In practical terms this means that when the economy is functioning well we need to build reserves that will come in handy when the economic cycle passes to the lean phase. Reducing national debt when the going is good is just one example of good economic governance.

At the micro level, we must ensure that our banks make adequate provisions for debts that are doubtful rather than be obsessed to project an image of successful management by recording short-term profitability while ignoring the risks that lurk in their balance sheets. Regulators should ensure that banks’ business models are sound as in recent years regulators have often been slow to react to threats that led to major bank failures.

We need to indulge in some sobering soul-searching to identify where the risks to our future economic prosperity lie. This exercise should be done at both the macro and micro levels of our economy. Schadenfreude can only lead to dangerous complacency.

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