How Contagion Works

By: Wolfgang Munchau

Whenever there is some volatility in stock markets, rogue traders come to the surface. The fraud at Society General has been going on for some time. It became a problem only when the rogue trader got it wrong, just as Nick Leeson, the most famous rogue trader of them all, got it wrong when he sunk Barings Bank in the early 1990s.

 

So the timing of this scandal is not at all accidental. It got out now because shares fell at the beginning of the year, and he had bet the other way. He did not get caught by the stock market volatility of the last five days, but by the preceding bout. This means that he may not be the last rogue trader of the season. As the bear market in stock continues, which I am certain it will, more and more skeletons will come out of the closet. Not only rogue traders, but also huge legal trading losses.

 

Stories like that remind us that the crisis is still ongoing, and possibly getting worse. This explains in part why central banks are scared stiff by the prospect of falling share prices. A deep fall in equity prices on top of the other crises could quite easily lead to a global financial meltdown. I never believed in this worst-case scenario, but I am getting less certain.

 

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