Ru En

It’s possible that once again we will exchange kilograms of salt for kilograms of sugar

Chairman of the Board of Directors at Troika Dialog Ruben Vardanyan on the no return from the crisis

Ruben Vardanyan Troika Dialog Manager

Date: 31 August 2011

Source: Kommersant

Chairman of the Board of Directors at Troika Dialog Ruben Vardanyan on the no return from the crisis

The zone of turbulence that the financial markets found themselves in at the start of August is still with us – indexes remain extremely volatile. Do any effective instruments for extinguishing the tension on the markets exist? Who benefited from the derivatives market of financial instruments growing to $1,200 trillion, despite the fact that the world economy is equal to about $60 trillion? Why is it more convenient to throw rubbish out the window and why are traders becoming cleaners? Ruben Vardanyan, Chairman of the Board of Directors at Troika Dialog, talked about the above in this interview with Kommersant, which continues the cycle of materials evaluating the situation on the financial markets.

At the height of the crisis in 2008, everyone said that what was happening was a massive lesson, that the system needs to be changed and the risks need to be revaluated. But the markets were flooded with liquidity, two years have passed and it seemed like everything had calmed down. And suddenly at the start of August, the financial markets started to plummet and now many have a feeling of déjà vu.

In 2008 the danger was over quickly. Everything happened too fast for anyone to really get scared.

Now, two weeks after the S&P rating downgrade, the stock markets aren’t plummeting upon opening. Everything has quickly passed again?

It’s like the joke about the lover who, when falling from a balcony, vows to never look at anyone else’s wife again and promises that he be a respectable family man. A second later he finds himself lying in a snowdrift, shakes himself off and says “I only fell through the air for a few seconds and yet I managed to promise so much nonsense.” The situation was a bit like this for the 2008 crisis.

You’re laughing. Aren’t you scared?

I’m scared, but you have to be prepared for such events all the time. If we want to find the reason for the 2008 crisis, we have to look a lot deeper and further back, we have to consider what has been happening for the past 60 years. Remember Sholem Aleichem’s Tevye the Milkman? It had this scene where a suitor goes to Tevye in order to propose to one of his five daughters. The milkman is certain that the man wants to buy his cow. The dialog between the two is rather amusing: they talk about the war, then about the cow and after half an hour of chatting they realise that they’ve been talking about completely different things: one has been talking about the cow and the other about girl he wants to marry. Next they restart the conversation “What did we start with? We were talking about the Russo-Japanese War?” It times of crisis it is important that we all talk the same language and talk about the same thing.

It’s almost as difficult as trying to take in what is happening on the markets at the moment: is it a reaction to actions of S&P, which recently lowered the USA's credit rating or is it revaluation of the risk system?

It’s been a long time since many things happening on the market are not so much due to fundamental factors as they are to technical, psychological and many other factors. America’s credit rating downgrade was long awaited. But despite the fact that the American economy is faced with many problems and despite the speculation surrounding the actions of S&P and the negotiations between congress and the president of the United States, America is still the largest and most powerful economy in the world. The American budget deficit is huge, but it’s not that difficult to turn it into a surplus. To do this the United States requires much less time and effort in comparison to the time and effort required by other companies in order to solve similar problems. Everything is not as bad as may seem: American companies have generated large amounts of cash on their accounts. The volume of IPOs held so far this year has exceeded $25 billion and the M&A sector is undergoing a colossal revival. We talk about the loss of confidence and volatility on the financial and commodity markets, but the real economy is somewhat isolated from what is happening on the stock exchanges.

You mean to say that the actions of S&P are a manifestation of cunning driven by quite specific interests?

That’s not exactly what I'm trying to say. We’re returning to the key, basic challenges. The fairness of rating scores which everyone feels they have to unreservedly focus on have been giving rise to doubt for over 100 years – for as long as the ratings agencies have existed. The preciseness of ratings assigned by agencies depends on access to truthful, unbiased information. In many cases there has been a lack of access because there were no mechanisms to provide for it. Faith in these agencies is similar to a belief in the idea that the authorities are able to regulate everything. Agencies can only react to what has already happened and regulators are not capable of determining future risks. Even if attempts are made to construct a warning system on a legal basis and by making checks and so on, everyone knows that there are methods for bypassing it. It’s a different matter that any model of economic development has informal rules as well as formal ones: for example “that just isn’t done”. Unfortunately, in recent times we have been operating in a system where the formal rules differ according to country or they don’t always work and at the same time there are no informal rules. And that’s why it’s every man for himself. The logic is simple: “who cares about the consequences if there’s an opportunity to make money.”

Are we currently in that sort of situation?

I must admit that the current formal and informal systems of checks and balances have unbalanced themselves. Now all systems, be they political, economic, moral or cultural, all require serious reconsideration. In developed Western countries, the individual’s right to decide how he or she will act prevails over social norms. In the world there is one remaining mechanism that works (but not always) – legal regulations and laws. They also require a serious rethink. One of the elements that partially worked in previous centuries but then ceased to work was the system of self-regulation. If you think about it, these are not just pretty words. In the past, guilds of merchants, associations of brokers and other professional organisations attempted to live according to the rules they set out, since the legal field did not cover several areas. Of course, you can try to ban everything, but bans just lead to new violations, for example, prohibition. Regulators’ attempts to construct a system of limitations just lead to an increase in of expenses incurred by the regulator as well as the entity being regulated, which does everything possible to get around the rules. But now a new approach dominates: “those who are drowning must save themselves”. We don’t try to significantly change anything in this system until a serious crisis begins and the risk of losing big money appears.

Evidently it’s because there were many opportunities to make money before the opportunity to lose it arose. Is this not a reason to keep quiet?

You can’t simplify the understanding of the capitalist system. Given the fact that in the world, money is the main criteria of success and many live by the code of “innocent till proven guilty”, modern, developed capitalism does not equal this code. Unfortunately, we need to admit that we have seriously departed from the basic laws that have directed history since Adam Smith. For example, at university I was always told that only companies that don’t have enough money for development become public companies. And this is the most expensive way to generate money. The question arises: why should auditing firms become public companies? What is the economic sense of this? After all, they don’t need large capital. And now an auditor, even a shareholder, can easily switch from one company to another and his or her personal liability has been reduced to a minimum. Another example is the stock markets. Why do they need public company status? This is another area where a “sewn-in” conflict of interest arises: when an exchange becomes a public company it starts to care more about the interests of its shareholders than the interests of its clients. It seems to me that we live in a world where many decisions are not made for reasons of economic viability and business development, but instead on the basis of the interests of simply enriching certain groups of shareholders. A large number of financial bubbles have been inflated that are not in any way related to the real economy. For example, the derivatives market has grown to $1,200 trillion, yet the world economy is equal to about $60 trillion. Has no one noticed that there is something inconsistent in these figures? There is an excess of such bubbles in the market. These bubbles are not just inflated for a single day, and when we notice them we attempt to find a new explanation to justify why they were inflated. This only causes sarcastic smiles.

Do these bubbles really get over-inflated? And are there people who actually have an interest in this?

It’s all real, but the other question is: who has an interest in this, who must make these decisions and who has enough leverage to do this? One of the principles of the Roman Empire was that the world that under our control is subject to our rules. Everyone else is a barbarian. This is an example of how principles were developed which implement solutions. Now there are no solutions: there is only powerlessness.

But the process of changing the political and economic situation will take quite a long time. Accordingly, the decision-making system will fundamentally focus on the principles of “innocent until proven guilty”, which only contributes to the appearance of new bubbles in the economy and the financial market.

That’s not a fact. There are two scenarios. The first is the acceleration of the crisis of the existing systems. Everyone is already close to understanding that crises force us to make changes. This is a time for making painful decisions that are often very tough and are accompanied by cataclysms for today’s elite. The second scenario is as follows: you arrest the disease and thereby avoid making any serious decisions. This has what has been happening in Japan for the last 20 years. The thing is that there the problem isn’t so much in the economy as it is in society: the Japanese are enduring a conflict between the country’s inner reality and the values of previous generations which have been developing for thousands of years. The old society, striving to preserve its traditions and rituals and the country’s closed system in the face globalism, has encountered the necessity of structural changes that conflict with the traditions of Japan’s closed culture. The Japanese elite do everything possible so that the country remains the same as the one it was in the past. In attempting to save traditions they have cemented over the sources of economic growth. It’s not yet clear what our elite, the Russian elite wants – and I’m talking about the elite on the whole, not just about government officials but also about businessmen. We have our own unique path, but what is it? Are we building capitalism? Are we living by the rules or “by concepts”? We don’t have a concise model: everything is mixed up.

But you said that the mechanism for making money dominates. Why isn’t that a model?

That sort of model cannot provide for the long-term existence of an economic system. In the 6th century BC, Confucius developed principles. If a country followed these principles it meant that it had a Path and it was possible to live and develop in said country. In countries where these principles are not adhered to it was only possible to survive. These principles still apply: firstly, the existence of a leader with noble and ambitious goals, secondly the existence of traditions and rituals in the country and thirdly, the existence of strong, loving families. There are currently no countries in the world where these principles have been realised in full. The value of the family as the most basic unit of society has almost been lost, especially in cities, as in an urban environment it is much harder to maintain family ties. The matter is not the increasing number of divorces and same-sex marriages. Earlier, critically important knowledge, skills and traditions were passed down the family. Dynasties have vanished – generations of military men, teachers, scientists. Clear rules are being seriously eroded; both formal and informal rules; and in their place, permissiveness. Social taboos and restrictions are being broken at such a speed that I won’t be surprised if at some point in some part of the world, people will declare their right to engage in cannibalism since it is part of their definition of freedom, and some pseudo-democrats will support them in this. The fear that if you violate a ritual you will be outcast from society has disappeared. Even in Russia, where a large percentage of the population have spent a part of their lives in places that are not so remote and live according to semi-thief-like concepts, these concepts are warped and inactive. If we focus on leaders with noble, ambitious goals then yes, there are such leaders in many countries. Some are strong and ambitious. But the main issue is: what are their goals? This is no less important since we live in a globalised world, yet problems are resolved on a local scale. There are no levers for solving global problems. There are no mechanisms that can force someone to do something. Politicians are forced to resolve the problems of a specific country in a global environment, where not everyone is accountable and under control. And because of this a lot is resolved at the expense of others: it’s more comfortable that way. This is domestic logic: my apartment has been tidied, it’s clean, and it’s more convenient to throw rubbish out the window.

That’s how it’s always been. That’s why the corridors of power are narrow, just like the streets in medieval cities.

That’s why there’s a great desire to centralise all decisions. Until the ‘90s, we lived in a bipolar world; there were two decision-making centres – the USSR and the USA. Then the world became unipolar, but half-way through the first decade of the new millennium it had already become clear that America can’t cope with this role, the role of unilaterally making decisions for the whole of the world. It doesn’t have enough resources or power to do this. Attempts made at self-regulation have been partially fulfilled in the Scandinavian countries. In Sweden, for example, it is a faux pas to own large houses. Even the richest of the rich know that they could own villas by the sea, but within the social system is unacceptable.

In the Soviet Union, something similar was regulated at the level of the house committee and the building manager.

Yes that’s true. But in the USSR a lot of social work was carried out and the rules of conduct were strictly regulated at all levels – from the Central Committee of the Communist Party of the Soviet Union to housing committees. And whatever backlash this may have caused, it was an attempt to create formal and informal rules, to tell society “you can do that, but that on the other hand, is forbidden.” What’s happening now is taking place outside of a clear system of coordinates. In such conditions it is impossible to make joint, unified decisions on a consensual basis. Someone will always say “I refuse to comply with that since I'm in a different situation.” And whoever says this will be right because everywhere, in different economies, different industries and different countries, there are specific problems. There is no single remedy for headaches that are all different. But it is still not understood that everyone needs to survive and in order to do this, agreements have to be reached.

It’s not the right time for tough decisions to become critically important?

No, in different countries people perceive what is going on in different ways. In Brazil, for example, positive changes and economic growth continue despite the serious global cataclysms taking place. This is because the world has a population of 7 billion and due to this the consumption of food products has significantly increased. On the one hand, Brazilians are very concerned about what is happening in America, yet on the other hand they have their own multitude of problems.

It looks like the situation with the swan, the crayfish and the pike (Russian fable about three animals that couldn’t get anything done together no matter how they tried due to disagreement); when the general risks are concentrated somewhere in-between and they don’t concern anyone until something like Lehman Brothers happens. But these problems, as it turned out, can be resolved: by flooding them with money. Can this method be employed indefinitely?

Lehman Brothers isn’t the worst example. There are more desperate ones: the French Revolution, the October Revolution or the Great Depression of the 30’s. We need to bear in mind that we have lived through a unique period: almost 60 years of peacetime for the majority of the inhabitants of the Earth, a life untouched by pandemics or war. Throughout the entire history of the world, there has probably never been such a long relatively “peaceful” period. We live in a more integrated world – countries that we once considered to be extremely backward have started to develop. The centres of development being shifted and such a switch of leaders, the dominant forces, have happened before. Don’t forget that prior to 1820, India and China made up 50% of the world’s GDP. And then for a period of 200 years it was as if they had never existed. It’s obvious that we can expect a change of the elites, a change of dominating ideas. I’m talking from the point of view of global processes, not about myself personally, about Ruben Vardanyan who worries about his family and children. The current elite will be washed away and a new one will take its place. Where does our illusion that everything is unshakable come from? While the patricians of ancient Rome understood that something needed to be changed, the empire developed. As soon as everything calmed down a period of decline commenced. The same is happening now: nothing will happen until the elites realise that it is essential to change the situation. We can easily end up on the ash heap of history.

Traders will become cleaners?

Maybe we’ll return to a society where those who create real products, such as a skilled carpenter, programmer or steelmaker, will be valued higher than those who redistribute them. Society will return to the core values – knowledge and the ability to create. Philosophers, poets and musicians will once again be regarded as respected people in society. The transformations are inevitable and are already in process.

Transformations are reflected in the changes to investment strategies. The financial market is more globalised: money is concentrated in the global centres that have formed in the previous dozens of years. And as local as management may be, as it turned out in the 2008 crisis, risks devaluate any assets regardless of their origin.

An enormous price has already been paid for globalisation. But in this case, no matter what is said, America and Western Europe are still dominant, although the situation is changing very rapidly. It is unquestionable that everything can change and evoke the creation of a new financial system. It’s possible that once again we will exchange kilogrammes of salt for kilogrammes of sugar, and then, for wheat or concrete. Even gold could become the new unit of currency. It’s not important. A new means of payment will appear and the old currencies will undergo rapid depreciation.

Nevertheless, those currencies inflate the financial markets, above all the commodity markets. That’s where the main concentration of global risk is. Furthermore those goods, more precisely their value, impact on the budgets of developing countries.

The quantity of instruments employed to regulate the economy is limited. Those who can print a lot of money print as much as they can. Those who are able to suspend their debts in order to pass them on to future generations do exactly that. And those who are powerless to do anything try to take out loans from others. There is a real price for staple goods and there is a price for raw materials, products and services. A transformation of the system of values and valuation of assets is currently taking place. Why do we consider that the technological world has changed significantly for the last 20 years but the financial world shouldn’t change? Everything is connected. We can expect to see a change of the global system. And the question is what dominant ideas will take shape in the system, including quantities of money? When I started out in this business, a billionaire was considered a rare phenomenon. But now billionaire status is eternally devalued.

Where is the trigger to transform these phenomena into solutions? In what way do your managers, who are currently developing dialogue with your clients, advise them to react to the situation?

Exclusively according to the principles of diversification. How else could they possibly advise them? Now there is not a single reliable asset. Therefore, there is one way out for affluent clients. Those who have less money are better off calmly spending it rather than saving.

In your opinion, what is the mood among Russian investors?

It varies. There is no unified position.

Is it calmness?

It’s most likely a feeling of disarray. In the world for the past 50-60 years, a strong feeling has developed that all problems will definitely be solved by someone. A certain degree of social indifference has developed. In Russia and in other developing countries everything is a little different: people had just begun to savour the taste of money and then a crisis struck once again. Also Russians are somewhat inclined towards fatalism: no one believes that inheritance can be passed on to a son or a grandson. Everyone calmly accepts that everything can be lost. This is the source of the growth in the amount of people who leave active business in favour of more passive positions, the growth of corruption and the tendency to invest only in the short-term. It’s clear that people have decided to wait for the last day of Pompeii. Those are the sorts of moods that abound.

Some experts consider that the growth potential is concentrated in the developing economies. After the crisis, global capital transfer will take place: capital flight from the developing countries and concentration of the investment opportunities of the emerging markets. Are your managers selling ideas like this?

When talking about the growth potential of developing markets, it is worth taking into account the low base effect: yes, these markets grow quickly, but you need to look not at the absolute figures instead of the relative ones. This is like in the years of the first five-year plans: first they made one tank, then they made another – one-hundred percent growth. Despite the fact that in Russia our industry only makes around $2.8-3 bln. In America – $110 bln, in Europe – $95 bln, and in Africa – a sum after the decimal point. Most money is still concentrated in America and Europe: local companies control from 47% to 67% of the total capital market. Why is it that for the past 20 years, despite the problems in the global economy, such growth has occurred? Because in the world there were a great deal of so-called “blind spots.” Prior to 1990 China and the Soviet Union were not part of the global economic system. After their economies were integrated into the global system, growth was inevitable: a massive amount of people and territory joined the common economic space. Now there are no more blinds spots.

So regardless of the type of investment it is impossible to avoid global risk?

Risk is omnipresent. Risk-free investments are an illusion. Every time we calculate risks it turns out that they have no relation to reality. Earlier the view was held that an AAA investment rating was reliable and that junk bonds are bad. Yet now people have lost more money on the very same AAA rating than they have on junk bonds. This gives rise to the question: what is risk? The risk perception process is changing. Since 2008 we have been living in a very unstable world and in a country that is a unique model, where the richest oligarchs dump their losses on the government and pocket all the profit. You can be the owner of an ineffective banking empire and then place all your losses on the shoulders of the government and very quietly continue to build your empire further.

It’s possible that there are indicators which show that the turbulence is over. In an aeroplane this is the little “fasten seatbelts” light. In this situation perhaps it’s the price of oil, which shouldn’t drop lower than $90/barrel?

For Brazil, the price of oil is unrepresentative. What is important for them is how much meat the Chinese will require. In India, for example, pandemics or the risk of viral infections matter a lot more than raw materials prices. But in the current situation there is no single trigger for all countries, although for Russia, as before, the trigger is oil. The questions stands: is it possible to soften this transitional period and get through it without facing serious social cataclysms and avoid civil wars, revolutions, changes to the world order, and world war?

Is this a political or an economic task?

They are related. In crisis conditions any attempt to rapidly build a “local” dam and redirect the destructive flow is doomed to fail without full concentration of efforts and complete synchronisation of actions. All the more so since there is no plumber that can simply shut off the valve.

It turns out that there is no one who can solve global problems and every economy exports its problems to other countries. Using the analogies you have provided, we can say that rubbish is thrown onto a global rubbish dump. In addition to this, no one builds waste processing plants since it's not a lucrative activity.

The question is about whether it’s lucrative or not. Rubbish dumps are usually very quickly infested by rats.

Elizaveta Golikova