Sunday, February 7, 2010

Finance - Banking and Insurance

The world of finance has indeed become a more integrated sector to work in these past two decades. Somehow, in my trail of thought and philosophical musings, I found it both enlightening and alarming to realize how the economic beliefs of capitalism have gradually become the dominant force through the aid of technology and advanced communications infrastructures. Just a few decades back, at a tense stage of human civilization, the competing philosophies of Marxist USSR and the capitalist’s democracy of the United States polarized the world as the Cold War dragged-on through their proxy wars and socio-political suppositions. After the fall of the Soviet bloc, it was open skies for capitalism to thrive in, more so with China becoming more attuned to what the West has been encouraging the whole world to put in place – an integrated economic system that ran on the philosophy of free markets. I am not one to completely side with any of the poles that either claimed that risk-taking should have been regulated or that, barring corruption and dishonesty, the laws of supply and demand should have aided the market’s dynamics (in correcting itself) because in any case, most nations have already dipped their toes in the pool. There are now only a few states that run on the Marxist philosophy, Cuba, Vietnam and North Korea just to name a few. In any case, however, the point of all this is whether there was indeed a flaw in the capitalist system, we have yet to find a more conducive means by which to efficiently distribute and allocate the limited amount of resources in the world to so many (humans) who want to have as much of it (this is, after all, what Economics is). Most anti-capitalist movements (especially by those linked to Islamic terrorism and the “have-nots” in the system) have committed themselves to destroying this system, while those (“the haves”) have dedicated themselves to protecting the order that the system stands for. For the conspiracy theorists that have held a belief that behind the scenes there are a few powerful individuals or institutions that could sway the market according to their whim, I do not completely doubt or ridicule them, but neither do I give them full credence, because somewhere in the churning of this economic system, I believe, there works the ‘invisible hand’ that influences the dynamics of supply and demand. This dynamism of the market, that as if it has a life of its own, is the collective consciousness of people and trained professionals who understand how the system works, which by-and-by gives the corrective nature of bids and asks, spreads and volumes, the supply side and the demand side of all assets imaginably for sale or ready to be bought.
Within this economic system is a microcosm of life. Perhaps, seeming to be highly sophisticated to the uninitiated, if one looks close enough, it is simply a summary of choices in an organized system where one has to steer towards returns (good luck/profits) and away from risks (bad luck/losses). Unfortunately, however, the insurance industry, seeking to push innovation to the limits, saw traded assets in financial and capital markets as items that were embedded with insurable interests and undeniably they were! There was no arguing that as far as event risks are talked about, financial instruments were something that people could be worried about, too, and so therefore were insurable, and compensable in case of contingent losses, for the right price. Amid this line of thinking, however, in my opinion, what the insurance industry overlooked was its exposure to a little financial concept called leverage. Whereas, insurance institutions usually deal with real and tangible capital assets and equity, banking institutions were very much acquainted with the concepts of leverage/credit/debt/(OPM) other people’s money. While insurers dealt with the probability of events, banks dealt with foreclosures, total losses and an integrated economic and financial system that has time and again exhibited a domino-effect through previous economic recessions. When something awry happens in a sector or portion of a country’s economy (especially that of the US, which is singly the most powerful and influential country in the world), most if not everything in the economy follows. It is not hard to illustrate such a scenario, especially when economic fundamentals tell us that more expenses beget more income; again, it is the churning of the system that promotes the cycle (or the “struggle” if you will) to keep everyone busy and oriented at developing industries that promote better living standards, better products and services, longer human life-spans, advancement in science and space exploration and other “productive” or worthwhile activities that are far better than living a sloth’s life. This is an economic system that facilitates and encourages humanity to push itself to the limits for the future benefit of the species because we are after all self-consciously capable of leaving a legacy for future generations to treasure.
Before drifting further from the discussion, the business of insurance indeed provides a service in the form of compensable security against events that bring about losses. Banks and other financial institutions, on the other hand, concern themselves with the returns on their products, even the most basic banking product, which is the savings deposit, cannot hide what banking firms operate for, which are returns. Depositors and investors are compensated with interest rate returns and capital gains. Barring concerns on the dilutive effects of inflation to the value of one’s money, is there any other reason to lend one’s money to a bank, versus perhaps just keeping one’s stash under the mattress? This, of course, may as well be a rhetorical question. There is still a distinction between insurers and bankers and I would like to think that insurance is a bit more noble, especially for those who have elected to give themselves peace of mind against the uncertainties of tomorrow.

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