Markets usually only have three identifiable moods, euphoria, panic and boredom, and they switch among them like someone who has been taking too much Prozac. This past few days they have added a new mood, one with unpredictable consequences. That mood is defiance.
One point of lasting relevance to the financial community following last week's attacks on New York and Washington is that this was an attack on the markets themselves. What measured, moral response can be made by those who work in the markets? It seems clear from the amount of planning and care that went into staging the attacks that the targets were chosen with deliberation and care. The 110-story World Trade Center made a good target for attack by a civil airliner, not exactly a high-precision weapon. If the emerging global order of corporate supremacy, free trade and worldwide capital markets -- the package of stuff we loosely refer to as globalization -- had a headquarters, this presumably was it. By blowing it up, the terrorists were trying to blow up that system.
While the New York Exchange remained closed for four days last week, and even when it re-opened, the response of the big investment banks and big investment funds was strangely muted.
That is partly because many were coming to terms with their own losses of people, or the loss of friends and colleagues. But it was also because nobody wanted to appear to be undermining confidence in the market. That would, in a way, be treason: not just to the US and its allies, but treason to the markets themselves. It would be aiding and abetting the enemy, and nobody wants to be seen to be doing that.
The attacks, however, raised lots of issues that in time will have to be dealt with. Can the airline industry ever recover, or will we all just fly less, and have more business meetings over the web? How should Boeing Co and Airbus make their planes safer from terrorist attack? Should developers be building quarter-mile-high skyscrapers, or should we content ourselves with smaller, less grandiose buildings?
Patriotism and profiteering
For the moment, many of those issues look to be on hold. We have stumbled into a situation where criticism looks unpatriotic, and where short-sellers run the risk of being condemned as profiteers.
One characteristic of a free market is that it is completely devoid of sentiment. The market has no feelings. For the critics of free market capitalism, that is a fault -- the system, they argue, is uncaring. But, in truth, it is one of its best features. It allows a market to make judgments that, though sometimes harsh, are also fair. It's part of why a free market is the most efficient way yet devised of distributing capital.
Yet, the market is also made up of people, and people, of course, have sentiments and emotions in abundance. This is a contest between hearts and heads. Our heads tell us to act one way, our hearts another. That is an old and compelling conflict: usually the heart wins. In this case that is wrong.
It is important that the capital markets get back to doing what they do best, which is allocating scarce resources in the most efficient way possible. But that is not the same as saying they should do nothing. In a war, the players in the market should adjust their behavior, but they should think hard about the right way of doing so.
That debate will be a long one. For now, all we can hope to do is start establishing a few ground rules. Here, with no claims to be doing more than starting a discussion, are a few suggestions on how the financial markets can make their own contribution to that war.
Virtual exchanges
One, surely it is time each national exchange developed multiple locations. For equity trading in the US to stop for four days was understandable given the damage inflicted on New York, but it shouldn't happen again. America should have several exchanges, or just one virtual exchange. So too should Britain, Germany and France, and every other major economy. If the enemy is virtual and elusive it would be better if the targets were virtual and elusive as well. It is up to all the main banks to work out ways to operate even in the most extreme circumstances.
Two, a distinction needs to be drawn between defiance and burying your head in the sand. It benefits no one to pretend that a major attack such as this hasn't damaged economic confidence, and banks and brokerages should not feel guilty about discussing that. They need to figure out a balance between re-ordering prices to take account of new realities and alarmism.
Three, there is a difference between short-selling and profiteering. Short-selling is an orderly part of a functioning market. However, investment funds trying to exploit the disruption caused by terrorist attacks should be discouraged -- a brokerage has a responsibility to refuse to trade with anyone they thought was doing that.
Four, trading strategies, particularly among hedge funds, based on extremely short time periods should be discouraged. In a world where terrorists attack the markets, there are likely to be moments of intense volatility and uncertainty. Over-geared funds could easily go bankrupt, spreading further panic and confusion in an already fragile economy.
Five, terrorism is expensive, and terrorists use the markets to launder funds. There are even suspicions they took options in stocks they knew would be hit by the attacks. Banks need to stiffen their resolve to stamp out money laundering, and they need to freeze out of the system offshore banks that don't co-operate with the authorities.
A patriotic stock-market, under siege from unknown enemies, is a novel and unusual concept. With resolve and fortitude, and a willingness to change, the financial markets will be able to make their own constructive contribution to making sure this is a war the civilized world can win.
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