Monday, September 22, 2008

Volatile capitalism and the short sell ban

The Australian government has banned short selling on the stock exchange for at least 30 days. Although this mirrors similar actions in ny other countries (including the US, Britain, Canada and Germany), few have extended such a ban beyond financial stocks to all short selling.

The stated aims are to reduce market volatility and to improve liquidity.

Short selling is a way of betting on the market: if you think share prices are going down, sell at current prices that which you do not own, with a commitment to supply the shares later - hopefully you buy them when lower.

All manner of Byzantine financial instruments and transactions have been created over the years to allow people to trade all manner of items in all manner of ways. In some cases, the type of transaction emerged as a way for productive entities to mitigate risk; others have their origins in speculative motives - ie gambling.

There would be valid business reasons for some to sell short, but it's clear that such a ban would have at least a somewhat soothing effect on the current turbulent market. Still, it's surprising that governments would countenance market restrictions that would affect legitimate business - but these are uncommon times. In one of the Murdoch papers, short selling is defended as an aid to price discovery. But there are myriad other ways for prices to emerge - if that's what you want - in a slower, more stable way.

Re-regulation is in the air, and the vultures arbitraging a living (or killing) from a position of extra knowledge at the margins (or simply from a willingness to gamble) are going to find their game stifled. Somewhat.

Elsewhere, analysts and journalists, too, are speculating (here, for example) within their metier. what if the world stops buying US currency and securities? How will China's massive surplus holding of same play out? In fact, they wouldn't tip the bucket (and sell US), because it would hurt them too. China is more likely to gradually diversify over time, which suggests an inevitable weakening of US fortunes. With world trade significantly denominated in US dollars, this too can create turmoil. For this reason, and for the current market chaos, we could quite soon see a scurry of central bankers collaborating in a more formal way to realign the financial stars for the new realities. And because of the clear origins of the current mess in the financial toxins released by America, its status could be irrevokably tarnished. Unless its regulatory hand is clearly brought to bear. If the rest of the world could vote on this basis, it wouldn't be for McCain.

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