Saturday, May 06, 2006

John Gardner: The money game can be a wobbly business

That odd vibration you may have noticed in the wallet region this week was just a symptom of another great national achievement. According to a study reported this week the kiwi dollar is, with the Japanese yen, winner of the "world's wobbliest currency award".

The study by Victoria University's Professor Roger Bowden and doctoral student Jennifer Zhu pointed out that between late 2000, when the kiwi dollar stood at below US39c, and late last year, it had almost doubled to reach US74c.

Today, of course, the switchback has taken it to around US63c - not so much wobbly as wandering.

Professor Bowden came to the faultless conclusion that this was a bit of a problem for New Zealand importers and exporters. They've noticed that too.

Although he cast doubts on the effectiveness of inflation target guidelines, Professor Bowden suggests the problem isn't going to go away and that firms exposed to currency fluctuations should actively manage their risks.

And, of course, major companies do treat hedging as a major part of their business.

They have no option. Making the best mouse trap might bring the world flocking to your door but you will go bust if you lose 10c on every one you have priced in zlotys.

You can have a great year's business and yet make less than if you've had a poor trading year if the dance of the dollar catches you out.

There is, as seen from the outside, something insane about the world of money.

It is not unknown for companies who engage in currency dealing for the purpose of securing their profit to earn more from the currency dealing than from the million widgets they export.

It's a bit like the car dealers who do better by providing finance for your purchase of the old banger than they do from the car. The days of traders being so pleased to get cash you expected a discount have gone. They'd rather have a slice of the hire purchase interest, thanks.

The big players have taken this to the logical conclusion. A fascinating piece in The Business this week profiled Goldman Sachs, the phenomenally successful investment bank which in the first quarter of this year turned in a 40 per cent return on equity.

How they do this, as the article admitted, is something of a mystery, but what isn't mysterious is that they don't actually make or sell anything. They handle money.

That all this activity lies at the fringes of rationality is not surprising, because it all falls within the province of the science of economics, a field more contradictory and less endearing than the charm, spin, quarks, bosons, leptons and fermions of particle physics.

Whether economics is actually a science is open to question. As long ago as 1849 Carlyle called economics "the dismal science" and its ability to generate any certainties is dismal.

It is, of course, fashionable in these relativist days to argue that no science is anything other than a cultural construct and that no science enshrines definitive truths.

But physical sciences do exist on a basis of repeatable consistent results, a claim it is hard to establish for economics, no matter how complicated the equations it generates.

The practitioners of the dismal science employ an increasingly sophisticated barrage of statistical techniques and computer models to analyse growth, inflation, productivity and the movement of capital.

But the lights are still out. They seem not to have the answers to the most fundamental questions.

Admittedly the questions are tough and the irrational and complex nature of how people act can derail the best laid analyses.

In his book Critical Mass, which is largely concerned with applying mathematical approaches to human behaviour, Philip Ball chronicles a series of attempts to model stock market movements. None work.

A survey of doctoral candidates in leading American economics departments, published in the Journal of Economic Perspectives, found that only 9 per cent of them believed that economists agreed on fundamental issues.

And these people are governing our lives.

According to Professor Bowden, commenting on his study of our volatile cash, the Reserve Bank often raised interest rates at the wrong time, making the currency rise inappropriately.

Fair enough. But the Reserve Bank will not have made its decisions by studying the tea leaves or by reading the horoscopes column in the Woman's Weekly. They will have based their actions on solid analyses by highly trained, and probably highly paid, economists, perhaps just as eminent as Professor Bowden.

When I worked in developing nations their policies were guided by some of the best-respected brains in the economic business and their advice, tendered with great conviction, was not only often wildly differing but frequently calamitous.

Stephen Morgan, the chief economist at Morgan Stanley, has been saying for years that the world has been on the brink of economic Armageddon because of the imbalance between the United States current account deficit and the Asian-held reserves of foreign exchange. He may well be right. But it hasn't happened and now he seems to be saying it probably won't.

He will undoubtedly have cogent explanations for both of these positions, but one might be forgiven for thinking only psychics do better than economists in getting away with being proved wrong by events while not suffering any loss of reputation.

The suffering is left for the poor punter with the wobbly dollar or the developing nation squeezed to death by the wrong fiscal policy.

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