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The deadliest financial sin
Lust, gluttony, greed, laziness, anger, envy, and pride—these are according to some religious traditions the seven deadly sins. At a time when some have undertaken a period of religious reflection and repentance it may be useful to focus on the deadliest sin as it relates to finance.
Some traditions suggests that money is the root of all evil. It doesn’t take very much beyond reading the financial news, both locally and internationally to see all of the seven deadly sins playing out to varying degrees in the world of finance.
However money itself is not the evil, since the deadly sins as they are called, are all the actions of people. Yet for these actions to create an outcome such as a financial crisis they have to manifest themselves into something tangible.
In the world of finance there is one particular action that is very often the conduit for these seven sins. Stay away from this in principle and you will be well on the way to a more ethical and quite possibly more fulfilling financial existence.
The deadliest sin in finance is to significantly mismatch the timing of your funding against your spending. Avoid at all times to the extent possible the temptation to use short-term money to treat with a long-term activity and vice versa.
It is, in fact, a simple, very basic rule, but it is a rule that everyone from individuals, to large corporations to governments find extremely hard to follow.
If you analyse the financial disasters of this world, whether it is your personal financial distress or something on a broader scale it more often than not comes down to the miss match of funding versus spending.
In fact, the debacles at CL Financial and the Hindu Credit Union can be traced to this core issue of mismatch of funding against spending. In these cases they were using short term funding to invest in longer-term assets and when the funding dried up there was a problem.
We borrow short-term money to satisfy a long-term objective in which case the source of funding may come due and we are unable to repay. Alternatively we borrow money with a long-term payback period (say 5, 7 10 years) but use it to pay current expenses which then leaves us with a debt with interest to repay but no tangible asset coming as a result of this debt.
It is not always apparent that this is a cardinal error. At the level of the individual you will be very hard pressed to get long term financing on an unsecured basis simply because there are too many unknowns in such a transaction. It is a lot easier to get a short-term facility that is unsecured.
However you pay for this facility via much higher interest rates. An overdraft is an example of such a facility; technically your credit card is another.
Very often the fact that you have run into overdraft is symptomatic of a much bigger problem, which is inadequate management of your cash flows. This in itself, sometimes but not always may be a symptom of lust, gluttony, greed, laziness, anger, envy, and pride. Simply put you may be extending yourself beyond your capability. Sometimes it may be well intentioned. Other times it may be in pursuit of something more carnal.
It is however easy to get hooked on this source of financing and over time use these short-term funds to engage in longer term activities.
Effectively this locks you into higher rates and the original issue of poor cash flow management is exacerbated until such time as you get into severe financial distress.
Whether it is caused by gluttony, greed or envy, it may be much better for you to live within your means than to reach for something that you cannot afford. If you cannot get a longer-term loan facility it is quite possible that your financial standing is not sufficient to allow for such borrowing.
The opposite approach also represents a cardinal financial sin. Many times we are offered longer-term loans to cater to short-term expenses. Loans to play mas, take a vacation, finance an annual insurance premium, pay for routine expenses for your home are all examples where you have a longer term borrowing where the funds are allocated to an immediate item of expenditure.
Stretching the point a bit, using a longer term borrowing to purchase a depreciating asset such as home appliances or even a car is also part of this trap as the value of the purchase decreases over time while you are still paying instalments on a loan.
Here again it is better to minimise this miss match as much as possible, especially if long after whatever you spent the money on is gone but you still have a debt based on that spend.
In extreme cases the mismatch between your sources of funding and what those funds are used for catches up and bankruptcy is often the result.
The discussion so far centred around individuals and to some extent companies as well. What may not be so easily apparent is that governments also face these same issues.
In the case of countries it is more a case of using long-term funding to treat with current or recurrent expenditures. Countries around the world have run up huge deficits to fund their operations. As these deficits mount the ability to borrow longer term money has become more and more impaired. T&T seems to be heading in this direction.
The global debt burden is staggering and in many instances it involves piling more debt upon existing borrowing. As time goes on a larger portion of annual revenues will go towards servicing the debt burden.
Over time if the situation is not dealt with States then move to borrowing in order to meet current expenditures.
Borrowing to spend on something that does not generate a rate of return that exceeds the cost of borrowing means that over time you end up poorer rather than wealthier.
Eventually that catches up and while countries can’t technically go bankrupt, they can have to go through significant adjustments that can create difficult conditions for its population.
The mismatch of funding sources with spending is a financial death trap and is the deadliest financial sin.
Monitor the way the country spends, monitor the companies that you are associated with and, most importantly, monitor your own actions to ensure you do not fall foul of this simple rule. To do otherwise is akin to dancing with the devil.
Ian Narine can be contacted via email at [email protected]
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