Bank Crisis Reeks of a Ponzi Scheme
By Kyi May Kaung Wednesday, February 26, 2003

February 26, 2003—Burma's banks are more like a dubious "Ponzi" or pyramid scheme than well-run commercial banks. Between 1962 and 1988, the banks in Burma were all state-owned, and lent primarily to state owned enterprises. After 1988, the declaration of a so-called open market economy made way for private commercial banks, but they were never built on strong capital. These private commercial banks lent money to the newly enlarged private sector and managed to attract some private deposits too. But the performance of Burma's commercial banks has proved something of a mixed bag. It has been alleged that banks in Burma are money laundering facilities and not real banks. The ruling junta has never revealed the cash reserve ratio that banks legally need to operate, as inflation has continued to soar at around 20 to 25 percent each year. It is obvious that the junta, in charge of the Central Bank authority, has not been doing a good job. In fact it has been doing a lousy job of controlling the money supply. In the 1990s, loans were given to developers who invested in office buildings and apartment complexes; cottage industries in retail and wholesale trade; and ambitious investments in tourism. Hotel construction in Burma went quickly from boom to bust as the Asian Tigers spiraled into financial crisis in 1998 and an international boycott on tourism in Burma took effect. Since then, there have been recurrent runs on several commercial banks where the banks have been unable to refund money to depositors. Even at the best of times, the cash reserve ratio is likely to be between 10 to 30 percent, which means that if everyone was to come to the bank at once to demand their money, the bank could not return all their savings. Banks make money by offering loans and taking interest, and survive knowing that not everyone will come to withdraw their savings simultaneously. When people do, there is a classic run on the bank. Without enough capital as foundation and security, so-called banks are just pyramid schemes, where there is no real economic enterprise and the whole thing is a scam with depositors being offered high rates of returns. The rates seem impossibly high because they are, in fact, impossible. Eventually of course, there is no real economic activity and the rates are unsustainable. The scheme collapses like a towered stack of cards. History's most famous pyramid scheme was the brainchild of Charles Ponzi, an Italian migrant who promised US investors on the east coast he could double their money in just 90 days. He attracted 40,000 investors and a great deal of excitement, but in the end it was nothing but a farce and his investors were swindled for millions. The current bank crisis in Burma reeks of a Ponzi scheme. Burma's Central Bank has already lent to the commercial banks. It has already started printing money to finance its deficits. How long can a government struggling economically keep helping its commercial banks? Is the International Monetary Fund going to help Burma? Not likely. It bailed out Thailand, the Philippines and Indonesia after the economic crisis because of their high population and integration in the wider global economy. Because Burma is so isolated, and has only a few important trade ties with other countries, the situation will only implode inwards. The effect on neighboring countries and trading partners will be minimal. Now, democracy activists abroad should try to persuade humanitarian aid advocates to hold off on lending assistance to Burma. It is likely that by delaying aid and prolonging economic instability, this crisis may be the "straw" that finally breaks the camel's back. It all rests on an issue of trust. How are the people of Burma to trust the military government which has already demonetized the currency at least three times? They are right to trust only dollars. In the US, savings placed in major banks are assured by the government's Federal Deposit Insurance Corporation's Bank Insurance Fund (BIF). According to official data at the end of the last financial year, the BIF had a $31.2 billion safety net for American investors. Burma's "insurance fund", if one even exists, would no doubt be considerably smaller. Dr Kyi May Kaung is a Senior Research Associate at the Burma Fund based in Washington, DC. The opinions expressed here belong to Kyi May Kaung alone and not to any organization or any other individual.

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