Western economic powers finally getting their act together

Good news from the world’s financial markets at long last. Stock markets in Asia and Europe have reacted favorably to the news that western financial and political leaders agreed over the weekend to pump billions of dollars and euro into their banks in a bid to restore confidence in the global financial system.

According to the NYT, the FTSE 100 index in London rose 5.4 percent, as did the CAC-40 in Paris. The DAX in Frankfurt rose 3 percent. Deutsche Bank gained nearly 25 percent in Frankfurt, while major French banks rose more than 6 percent. Royal Bank of Scotland, which is raising billions of pounds of new equity with British government backing, rose more than 5 percent although its chief executive has had to step down.

Hong Kong’s Hang Seng index gained 7.5 percent while the S&P/ASX 200 index in Sydney closed up 5.6 percent. Tokyo markets, which lost about a quarter of their value last week, were closed Monday for a national holiday. Following steps announced Wednesday by Britain to make available £400bn ($692bn) of fresh money for the banking system, the other European countries led by Germany and France pledged to take equity stakes in distressed banks and vowed to guarantee bank lending for periods up to five years. Early Monday Britain pledged to spend billions in taxpayer money to shore up battered banks. Initially, L 37 billion ($64 billion) would be provided to three banks— the Royal Bank of Scotland, HBOS and Lloyds TSB—on terms that are tantamount to partial nationalization.

According to the BBC, Germany has approved a package worth up to 500bn euro (£393bn; $683bn), France will spend about 350bn euro and Spain has set aside 100bn euro. The bulk of this money will be used to guarantee lending between banks - as agreed to this weekend by the 15 nations that use the euro.

Most significant, according to the Financial Times, is the pledge by the world’s leading industrialized nations (G7) during the weekend meetings to do everything in their power to prevent any more Lehman Brothers type failures of key financial institutions.

This far reaching commitment means that at long last the world leaders have understood the gravity of the financial situation caused by the collapse of the 168 year-old bank.

Precisely who was to blame for the Lehman debacle is debatable. European officials blame US policymakers, but US officials say they did not have the requisite legislative sanction to intervene at the time. Be that as it may, everybody understands the imperative need to prevent the collapse of another key player, for example Morgan Stanley, which appeared to be vulnerable last week.

Observers believe the G7 pledge should bring down the cost of credit insurance and funds for key financial institutions – termed as being “systemically important”, which would also reduce the risk to other institutions from the spillover effect. But ambiguity remains regarding the determination of systemically important institutions. To restore confidence, greater clarity and assurance is needed on the scope of protection.

It should be added that even if Wall Street makes impressive gains Monday, as expected, it will only mean that the financial crisis has eased. It is just the beginning. The world has a long haul ahead of it clearing the mess. The leading powers will have to take more enduring and long lasting measures to deal with the ensuing economic crisis.