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Connections. Russia: Virtual Economy/Bear Trap Russia – Cyprus: Money Laundry/EU Entrèe Russian Underworld Cyprus Crisis Global Underworld Iceland Crisis Global Financial Crises. Virtual Economy – Bear Trap. Manufacturing destroys value: Value of Inputs > Outputs

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  1. Connections Russia: Virtual Economy/Bear Trap Russia – Cyprus: Money Laundry/EU Entrèe Russian Underworld Cyprus Crisis Global Underworld Iceland Crisis Global Financial Crises

  2. Virtual Economy – Bear Trap • Manufacturing destroys value: Value of Inputs > Outputs • Survives on fictitious prices/Underpriced energy • Energy sector underpins domestic economyProfits from exports • Capital goods costs and prices relatively high • Dinosaur heavy industry vs. ease of entry in consumer sector • Soviet “demand” for investment raised PI • Get much less bang-per-buck from investment than in West • Putin’s aim: double GDP in 10 years  50+ % investment rate • Inputs that compensate for adverse environment – Siberian cold – counted as output, not cost  Handicapped capital  Overstatement of capital stock • Cold and distance from market • Duluth and Perm: A contrast in adjustment

  3. A World of Crime: The Underside of Globalization Crime tracing to collapse of Soviet empire Discriminated minorities: Jews, Chechens, Georgians Tolkachi...go-betweens in the Soviet planned economy, matching S-D Hyperinflation – caviar as money – police for hire – protection racket Natural resource price controls  windfall for “robber barons” Grandest larceny in history – biggest capital flight ever Switzerland and Cyprus favored laundries ... Israel too Cyprus: Non-European entity in EU w/o European financial standards 1970s: Accommodating financial services/legal environment for shell companies/flag of convenience shipping/weapons and narcotics trafficking/cold-war espionage/home of Soviet foreign trade bank 1990s - : fee-for-service money laundering for oligarchs  entrée to EU Cypriot banks buy high yield Greek bonds  insolvency Lender of last resort surprise German view: financial crisis as morality play  won’t bail out oligarchs Russian view: Deposit tax = theft...European conspiracies against Russia

  4. Simeon Mogilevich: “Boss of Bosses” • Ukrainian born Jew, 1946 • Economics degree, 1968 • Russian prison for currency-dealing, 1970s • Fortune based on “sale”/theft of Jewish émigré property • Legal enterprises • Israel • Hungary: armaments factory • Russia: Inkombank • Sukhoi, military aircraft • 1998 money laundering via BNY with Khodorkovsky’s Bank Mentep • Worldwide criminal enterprises • Prostitution • Arms smuggling • Drug smuggling • FBI 10 Most Wanted List

  5. Boris Berezovsky: Prototypical Oligarch, 1946- 2013 • Mathematician...Member Russian Academy of Sciences • Binary relations in multi-criteria optimizations • Media mogul: gained national TV station in privatization • Yeltsin inner circle...Proponent of Putin ... “The tsar’s Jew” • Godfather of the Kremlin: Boris Berezovsky and the looting of Russia • Oligarch vs. Oligarch: Berezovsky’s KGB guys vs. Gusinsky’s KGB guys • Fell out with Putin...dropped out to Britain • Name change – conversion to Orthodox • Retained assets in Georgia, Europe/Fisher Island off Miami coast • Investment in Neil Bush’s Ignite! Learning • Political agitation: International Foundation for Civil Liberties • Financed Ukraine’s Orange Revolution • Political power in Latvia • Philanthropy: Kensington Castle upkeep • Lost suit to Roman Abramovich fortune evaporates • Suicide in Ascot, March 23, 2013

  6. Iceland: Another Banking Island/Another Banking Crisis Michael Lewis: Fishermen get PhDs, become investment bankers No longer a country but a hedge fund. Statistics @ 2007 peak 2003-2007 • Population.......0.3 million Stock market up nine fold • GDP...............$20.5 billion Real estate prices tripled • Bank assets...$140 billion Global asset purchases Speculative mania: You have a dog, I have a cat... Carry trade: Borrow yen @ 3%...Lend krona @ 15% 2008 Collapse • Stock market down 85% • Krona down 80% against euro  Current account surplus • Public and private debt...850% of GDP • Inflation of 17%...Real GDP down 5.5%...IMF loan of $2.1 billion Banks nationalized...Icesave program rejected • Each Icelander would have paid $135/month to Brits and Dutch for 8 years Domestic savers bailed out/British and Dutch savers screwed

  7. Iceland: Another Banking Island/Another Banking Crisis Preludes to the Icelandic Financial Crisis, Aliber and Zoega,eds. • IMF, 2006 Warnings of overheating but banks are okay • IMF, 2008 ...challenge of orderly rebalancing...of mitigating risk • OECD, 2006 Financial markets are thriving: controls lifted, banks privatized, sector opened to international capital. Liberalization rocks! • Hebertsson & Zoega, 2005 Analogies to Mexico and Sweden in ‘90s • Fitch, 2006 Sovereign debt downgraded...risks of hard landing seen • But banks okay • Danske Bank, 2006 Critical study dismissed: Danish spite • Hebertsson & Mishkin, 2006 (Chamber of Commerce) Strong fiscal position/excellent institutions/ability to rewind current account deficit/high quality financial regulation and supervision  crisis unlikely • Portes & Baldursson, 2007 (Chamber of Commerce) • Financial sector responded “quickly and decisively” to external criticism • Buiter & Sibert, 2008 (Landsbanki...kept confidential) • Need credible lender of last resort  Join EU and eurozone

  8. Preludes to the Icelandic Financial Crisis, Aliber and Zoega,eds. Critical Voices • Gros, 2008 Iceland on the Brink (Center for European Policy Studies) • Iceland as “hedge fund” exposed to global crisis/No lender of last resort • Primed for classical banking crisis/currency crisis and real estate bust • Gylfason, 2008 • Implicit state guarantee allowing banks to borrow huge amounts internationally • Aliber, 2008 Manias, Panics and Crashes (update of Kindleberger) • International borrowing by banks  expansion of credit in Iceland • Debt financed stock market boom • Icelandic banks owned  Bank capital grew with stock prices • High bank capital  Additional bank borrowing A Giant Ponzi Scheme • Asset price decline...Banks shut out of credit markets...Bank Runs Collapse

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