One of the study areas of economics is productivity. It studies production of goods useful to the human beings and the most efficient use of resources. In production some surplus results and is saved in either physical assets or monetary assets. In the inflation during WWII and during the martial law, people saved in physical assets, e.g., a work animal, a house, an agricultural plot, a piece of jewelry, etc. With increased savings and need for more sophistication in the salting away savings, keeping money in the hole in the corner post is not as efficient as putting it in the bank. The banking and finance do not directly produce goods but indirectly they help to produce goods. To produce bocayo or raise bangus, a saver could use his own savings but he could produce more and be more efficient if he could borrow money to add to his own capital. This is leveraging capital. Instead of producing one kilo of bocayo, with borrowed money he could perhaps produce five kilos and return the borrowed money with interest from the extra production of bocayo. He takes an extra risk in case he is not able to produce or sell the bocayo. He incurred a debt from his neighbor or the bank. Risk up to a point is manageable. The business of the banks is to lend so producers can produce more with their time and knowledge by paying a portion of the extra income from the higher production.

Finance or bank borrowing is an indirect helper in the production of goods. People borrow because they see that borrowing or leveraging is productive.

In an article in the Atlantic, Simon Johnson, a former IMF officer says that many businessmen in developing countries get enamored by the magic of leveraging thus keep borrowing to over their capacity to take the risk involved. Opportunities for leveraging and special business privileges are obtained by those close to the political powers that prevail. In failures they pass on the losses to the coffers of the state. Since some failures are inevitable the remedy is to have the reserves to absorb the losses or have the political connections to pass it on to the state or to the innocent citizens who have to pay for it even though they did not participate in the potential for gain. The problem comes when the risks are too big so that the failures are also too big for the state to absorb. Then those responsible have to be removed otherwise they will do it again. This is hard for the politicians to do to favored cronies. Johnson says that IMF as lender of last resort will help only when corrections are made and the IMF can wait.

This is what happened in the Wall Street meltdown. The investment bankers took risks for which they had no reserves. AIG and other financial institutions are being bailed out by the state not because they are cronies (or are they?) but because they are too big to be allowed to fail. The banking system has to be saved. Its commercial banking functions are necessary for the ordinary citizens. The excesses of the commercial bankers of the early twentieth century were corrected with laws that required reserves. The excesses now of the investment bankers have to be corrected by new supervisory laws and reserve requirements. At the moment the laws are still being crafted but already Citigroup and Bank of America and other banks that absorbed the investment banking failures are already being told that they have to raise more capital aside from the bailout from the government. In the Philippines since we hardly have any investment banking activity we are not directly affected by this meltdown but only indirectly from local activity of international investment bankers like Lehman Bros. that did extensive investment banking here. Investment bankers leveraged their capital beyond their capacity to take the risks. <emeterio_barcelon@yahoo.com>