Many people in Bangladesh and those around the world who operate outside the ebbs and flows of financial markets, must be wondering what has caused the greatest financial crisis since the depression. We can discuss complex derivatives and financial structures and instrument ad nauseum. But US Treasury Secretary Henry Paulson summed it up best when going to Congress for the emergency bailout stating “lax lending practices earlier this decade led to irresponsible lending and irresponsible borrowing".
To say the speed at which financial markets have unravelled is unprecedented, and that we are facing a crisis of capitalism, is no exaggeration. In the past two-three weeks, the US government, the supposed flag-bearer of free markets and private enterprise, has: nationalised the two engines of the US mortgage industry, Fannie Mae and Freddie Mac, and flooded the mortgage market with taxpayer funds to keep it going; seized the world's largest insurer, American International Group, fired its chief executive and moved to sell it off in pieces; extended government insurance beyond bank deposits to $3.4 trillion in money-market mutual funds for a year; banned, for 799 financial stocks, a practice at the heart of stock trading, the short-selling in which investors seek to profit from falling stock prices; allowed or encouraged the collapse or sale of two of the four remaining, free-standing investment banks, Lehman Brothers and Merrill Lynch; asked Congress within a week to agree to stick taxpayers with up to $700 billion of illiquid assets from financial institutions so those institutions can raise capital.
Goldman Sachs and Morgan Stanley added the latest twist to the rapidly evolving saga of the greatest financial crisis since the 1930s. The two largest and most prestigious investment banks have been converted into bank holding companies, which will make them safer by allowing them to access depositors and borrow from the Fed's discount window, but will curtail potential profitability and subject themselves to far greater regulatory scrutiny.
The impact of de-leveraging on global growth may be significant. Some analysts have suggested that if investment banks were to cut leverage ratios from 30 times (or recent levels) to 20 times, which is more typical of commercial banks, this would trigger $6,000 billion worth of asset sales, excluding likely deleveraging by hedge funds too.
Bangladesh's capital market is an island of stability in an ocean of unprecedented volatility. This is not the result of clever policy decisions by government regulators and officials here. In fact it actually reflects the lack of successful integration of Bangladesh into the global capital market. If our past efforts to attract more foreign investors had been more successful, they undoubtedly would have rushed to withdraw capital in this time of global market turmoil and would have dragged the DSE down with other emerging markets.
The consequences of the global crisis of 2008 for Bangladesh can be thought of in the following terms: 1) Risk appetite falls: If global risk aversion persists then this might reduce appetite for developing and EM equities which might be negative for Bangladesh. In the past three months emerging-market funds have seen an outflow of $26 billion, compared with an inflow of $100 billion in the previous five years; 2) Diversification attractions: However, the volatility of the BRICs (Brazil, Russia, India and China) in 2008 may actually trigger a greater hunt for alternative investments in more frontier markets like Bangladesh which are less correlated with developed markets and hence offer diversification benefits; 3) Economic slowdown: If the US and European economies continue to move into recession then Bangladeshi exporters will see a further decline in demand and hence weaker GDP growth here; 4) the weak dollar: A renewed downturn in the dollar seems likely as global investors worry about the fiscal implications of the US bailout and the reduced creditworthiness of the US government as a result of a massive rise in bond issuance. This is likely to offer some offset for Bangladeshi exporters since the taka is tied to the dollar and more of the country's exports go to Europe than the US.
The US bailout will not reverse the fundamental drag on US growth from the fallout of the bursting of the US housing bubble and the process of credit deleveraging. But looking beyond the prospects for a further near-term slowdown in Bangladeshi growth, we believe turmoil in the developed and BRICs markets, and the relative stability of the DSE, will potentially increase interest in Bangladesh's attractions as a diversification destination further. The stock market authorities need to continue to encourage more large IPOs to attract foreign investment along with the necessary reforms to encourage liquidity.
The next elected government in 2009 must remain focused on re-energising the Board of Investment to maximise the chances of translating greater interest into frontier markets into a substantial increase in Bangladesh FDI.
International investors will likely be encouraged by the fact that an election date has finally been agreed on. The key challenge is to ensure the next elected government takes ownership of the economic reform agenda to deliver tangible results. We are waiting for greater focus and discussion in the parties' respective manifestos in terms of their strategies for overcoming the power shortages and relieving the traffic congestion that has hampered growth.
Also, reforms must be in place to strengthen the BOI to ensure Bangladesh attracts FDI flows. For this, the September 20 Iftar party held by the Federation of Bangladesh Chambers of Commerce and Industry for both parties is to be welcomed.
Global investors are ultimately likely to come to Bangladesh if they feel that a more favourable economic and enabling environment in terms of stability and infrastructure. Cheap labour costs are an important attraction. But given the competition Bangladesh faces from Vietnam, India, Pakistan and others in the region, the next elected government and parliament must formulate an effective economic strategy if the country is to maximise its opportunities. Bangladesh cannot afford to blow the chance to become an alternative investment destination for global investors who seek respite from the current financial crisis.

Ifty Islam is the managing partner of Asian Tiger Capital Partners. He welcomes feedback at [email protected]