Category: dilemma of control

How Goldman Sachs helped mask Greece’s debt


The 2,500 year-old Parthenon – still standing while Greece crumbles

Yesterday European finance ministers agreed a second bailout for the Greek Government, worth more than 130 bn Euros. In light of the country’s staggering debt, and the risk it poses to the health of the entire Eurozone, it now appears that Greece should not have been permitted to join the Euro in the first place. So, why was it?

Nick Dunbar’s film on last night’s BBC Newsnight set out to provide at least part of the explanation.

The film shed new light on a slight of hand orchestrated by the investment bank Goldman Sachs, that allowed a large chunk of Greek public debt to seemingly disappear, and for the country’s finances to appear in better shape than they were in reality.

Back in 2001, the Greek government was pondering how it could meet the conditions of Euro membership. A key requirement of the Maastricht criteria, five criteria that determine whether an EU country is ready to adopt the euro, was that member states show ‘directionality’ in their public debt.

This meant that the country’s debt ratio needed to be going down year on year: ‘The national debt should not exceed 60% of GDP, but a country with a higher level of debt can still adopt the euro provided its debt levels are falling steadily’.

The solution they came up with was not to cut spending or raise taxes, as Dunbar incredulously points out, but to attempt to hide their debt. Enter Goldman Sachs, global investment banking and asset management company.

Newsnight revealed that one of the Goldman Sachs bankers hatched an ingenious plan to strike a financial deal called a ‘swap’ with the Greek Government, using it to hide 2.8bn Euros of national debt. The deal was legal but completely secret.

Back in 2003, Nick Dunbar revealed the existence of this deal. Far from ‘making something out of nothing’, as the Greek authorities alleged, Dunbar was very much on the right track. The new revelation made in last night’s film was that of the role played, or perhaps more accurately not played, by the European accounting agency, Eurostat.

Goldman Sachs passed Newsnight an email showing that they covered themselves by discussing the deal with Eurostat. Eurostat dismiss this discussion as having only concerned ‘general clarifications’, and maintain that they only became aware of the deal in 2010.

But regardless of exactly when European institutions, such as Eurostat, became aware of this deal, major concerns remain over why more attention was not paid to the employment of untested and unregulated financial products by European States. emerging from the innovation boom in the banking sector.

The deals were commonplace, Goldman Sachs said in their statement to Newsnight: ‘The swaps were one of several techniques that many European governments used to meet the terms of the [Maastricht] treaty.’

Last night’s film gained access to one of the key figures responsible for the deal, Christoforus Sardelis, then head of the Greek Public Debt Management Agency. He had been tasked with the job of bringing the national finances in line with Maastricht criteria.

With hindsight, it’s apparent to Sardelis that the deal was problematic. Under its terms, Goldman Sachs has made millions from the Greek government, yet the original 2.8bn Euros of debt has now ballooned to 5.7bn Euros. Nevertheless, this is a drop in the ocean of Greece’s £350bn debt.

To Sardelis, the deal may have been a bad one, but it wasn’t the cause of his country’s current woes, he says in the film. ‘It was a very sexy story, between two sinners, but the European crisis is not the child of the sex we had with Goldman Sachs’, he, rather salubriously, commented.


Financial Innovation and the Dilemma of Control


Innovation has been with us for a long time, and its overall contribution to finance and welfare has been positive. Nevertheless, its core benefits to society have recently been questioned following the financial crisis in 2007/2008; where financial innovation has received various criticisms from the media, the public, policy makers and top economists in society. As a result, controversies exist on the merits and dangers of financial innovation; and on the responsibility or irresponsibility with which it is conducted. To this end, there are agreements among stakeholders on the need to create a more responsible approach to handling financial innovation; and actors have become interested in finding ways to preserve the benefits of financial innovation, while at the same time limiting the effects of financial innovations that prove harmful.

Is this a realistic and attainable goal? Do we have a choice if we are to ensure that the financial crisis is not repeated again? Can stakeholders distinguish beneficial innovations from harmful ones early enough to reduce, if not eliminate, the negative impacts of financial innovations? Here the issue is one of uncertainty, ignorance and the dilemma of control; and clearly, this is not an easy task as researchers point out that for most economic and financial decisions, we do not know what all the consequences of the outcome will be; and as such will be exposed to some degree of uncertainty regarding the wider impacts of financial innovations.

The complexity of this issue is even more aggravated when it is understood that financial innovation, comparable to many forms of technological innovation, may be commercialized even before relevant authorities can consider their danger, or even know about their existence. This may also be compounded by the rapidity and complexity of financial innovation itself . Thus, a dilemma of control, may emerge; as by the time undesirable consequences become visible, the innovation is locked in; and making a change has become expensive, difficult and time consuming. These arguments lead to questioning how adequate or robust current mechanisms, including regulation, for governing financial innovations are in predicting the wider impacts of financial innovations before they occur.

Research suggests that financial regulation lags financial innovation itself as regulation in the financial industry have normally focused, to a large extent, on filling in the regulatory gaps identified after each financial crisis. Significant time lags of this type are common for many forms of innovation; and this suggest that experiences in anticipatory governance, and emerging concepts of responsible innovation in these other fields may have read across to the governance of financial innovation. These suggest that financial innovators cannot predict all the possible consequences of their innovations before commercialization; thus the key to addressing the issue of the dilemma of control may be in making the right decisions under conditions of uncertainty, and establishing a framework for responsible financial innovation to support this.

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