Opinion Second time,a farce

The answer is a matter of fierce debate. Many economists say the risks are lower today — at least for an immediate crisis — because the financial system is healthier overall,with fewer hidden problems. But they do not rule out a quick downward spiral if politicians in the US and Europe cannot calm investors by addressing fundamental financial threats.

The core problem,as it was three years ago,is too much debt that borrowers are having a hard time repaying — but this time it is government debt rather than consumer debt.

“So far it’s not as bad as 2008,but it could get much worse because the sovereign debt concerns are much more global than the subprime mortgage risk of 2008,” said Darrell Duffie,a professor of finance at Stanford. A growing lack of confidence is perhaps the most troubling similarity to 2008 and the biggest worry. “There’s a level of fear out there that is a little similar,” said Michael Hanson,of Bank of America-Merrill Lynch. “It’s not just the fundamentals. It’s the fear of the unknown.”

Most of the attention so far has been focused on volatility in stocks,with investors spooked by three heart-stopping declines in the last five trading days — including Wednesday’s 4.6 per cent drop in the Dow Jones. But a bigger concern was stress on Wednesday in European credit markets,which are essential to financing the day-to-day operations of banks and companies there. Financial institutions across Europe have huge holdings of government and corporate bonds from Greece,Ireland,Portugal,Italy and Spain. Concerns about defaults are growing.

Some insist that the comparisons are overblown. “It feels completely different,” said Larry Kantor,the head of research at Barclays Capital. “I don’t think there is a US debt crisis right now,and European debt is not held as broadly as mortgage debt or derivative debt was back in 2008. The prospect of a 2008-like drop in the market is remote.”

Experts add it is important not to confuse a stock market rout with an all-out panic. “I think it’s quite different than 2008,” said John Richards of RBS. “This is a stock market correction based on slower growth and the increased probability of a recession. In 2008 we had a genuine funding crisis,where banks were reluctant to lend to one another.”

Others on Wall Street maintain that the turmoil is playing out in similar fashion. Traders compare the threat from Greece that prompted the sovereign debt crisis a year ago to Bear Stearns,whose fall in March 2008 was a dress rehearsal for the broader crisis that followed six months later. For them,the huge debt loads of Italy and Spain are now equivalent to Lehman and AIG,institutions whose downfalls threatened the stability of the entire system.

In an ominous echo of 2008,European bank stocks on Wednesday fell 10 per cent or more — and banks in Europe are beginning to hoard cash,crimping the interbank loans that keep the global financial system operating smoothly. While borrowing costs for banks in the United States and Britain have crept up only slightly recently,borrowing costs for Continental banks that lend to one another have doubled since the end of July. There are,however,some very important differences between now and then that could make the banks more resilient.

Financial institutions in the US have one-third more capital than they did in 2007,and have reduced their risk-taking. Instead of lending $25 for every $1 dollar worth of capital they hold,they are now lending a more reasonable $16. What is more,consumers and companies alike have scaled back their debts — albeit modestly — even if governments have not. Moreover,the scope of the problems today is better understood than in 2008,when policymakers were repeatedly surprised at the amount of subprime mortgage debt and how it had coursed through so many corners of the world’s financial system.

Not all the differences are benign,however. Unlike in 2008,when policy makers in moved swiftly to bail out banks and provided guarantees to keep the financial system from seizing up,political divisions in Washington and Europe make bold action like another stimulus package much more difficult.