So we had our Black Monday, two major investment banks gone – one filing for bankruptcy and the other being absorbed by a giant, real bank – you know, a bank with actual deposits and real, genuine money on hand. With Bear-Sterns going under earlier, that’s three of the big five investment banks disappearing in a puff of… something. Choose your own metaphor.
Of course the markets tanked, the Dow dropping over five hundred points in one day. In the discussion of what happened and why – an overview of how both the commercial, depository banking system, and the shadow banking system, the world of investment banks, work – the idea was to describe a systemic crisis. Review what is regulated and what is not, and why, and you’ll see a worldwide house of cards. And that is collapsing. And there not much anyone can do about it.
Late that night on the Charlie Rose show, you could have watched the NYU economist, Nouriel Roubini, saying things like this (registration required):
When Bear was rescued the financial market rally lasted two months; when in July the Fannie and Freddie legislation was proposed the rally lasted a few weeks; when the actual nationalization of Fannie and Freddie occurred a week ago the rally lasted only one day. The ability of policy authorities to prop financial markets is rapidly eroding as market participants perceive that policy makers are desperate and running out of options. At this point the perfect financial storm of the century cannot be contained. The only light at the end of the tunnel is the one of the coming financial and economic train wreck.
No one on the panel disagreed with him. Roubini said the whole systems was falling apart – the worst economic crisis since the Great Depression. Yes – that bad.
But the passing comment that many on Wall Street were humming that Carpenters tune about rainy days and Mondays being a real bummer, while packing up their things, was probably uncalled for. A friend in Georgia – the one with the peaches and peanuts, not the one the Russians recently invaded – commented that the Wall Street folks might have been humming the other Carpenters tune, We’ve Only Just Begun. The additional irony is, of course, that that song was originally written as a bank commercial – Roger Nichols (music) and Paul Williams (lyrics) wrote it for Crocker National Bank out here in 1970 – young newlywed couples need a nice and stable bank to help them with their financial needs. Crocker Bank is long gone – Wells Fargo Bank purchased Crocker in 1986, and it is long gone now. And the couple in that gauzy commercial is probably divorced by now.
And things were only beginning. The next day it seemed that American International Group (AIG) was going down the tubes unless the feds step in. The feds were working to get everyone in the financial world, and not the taxpayers, to chip in and save these dudes – the meetings went on all day – but “everyone” was not going to throw good money after bad. Why would they?
AIG is the insurance giant that got caught up in this whole mess. The investment banks and broker-dealers looked at their own highly-leveraged and arcane products and looked around for someone to insure them, should any of such things fail. AIG stepped in and said, sure, we’ll insure those, just pay us the premium each month and you’ll be safe. Hey – Lloyds of London famously insured some actress’s legs way back when, so why not? You want to pay money on the idea you’ll get something if the unthinkable happens? That’s fine. Insurance companies are there for you, no matter what your fears are. They’ll insure most anything, for a price. That’s how insurance companies make money.
Bit AIG didn’t understand what they were insuring – no one did, really – and now they were stuck. They didn’t have the funds to cover the claims, as they say. They’d taken the premiums and done their own wild investing, after all.
And everyone understood they were in trouble. Their stock, riding around seventy in late 2007, closed at under four dollars a share. AIG may be the eighteenth largest company in the world – the insurance giant – in business since 1919 and a component of the Dow Jones Industrial Average since 2004 – but they were nearing the end.
But the feds pretty much had to step in this time – AIG failing could seize up everything. All available funds in the financial system, a big block of them, would go to covering losses – AIG wouldn’t be covering them. You’re a small businessman who wants a bank loan to buy another soft-yogurt machine for the new store? You’re out of luck. All the funds in the system have to go to margin calls and write-downs. Sorry.
It’s not quite that dramatic – funds are always available for those who can prove beyond any doubt at all that they can easily pay back a loan, but then, those people are the ones who need the loan, really. The system – where a lender takes a chance on a borrower who might be onto something that could be the next big thing and everyone prospers – stops cold. Things grind to a halt.
We cannot have that, so the feds acted:
For the second time this month, the US government put taxpayer money on the hook to rescue a private financial company, saying the failure of the huge insurer American International Group Inc. would further disrupt markets and threaten the already fragile economy.
The Federal Reserve said Tuesday it would provide up to $85 billion in an emergency, two-year loan to rescue AIG, which teetered on the edge of failure because of stresses caused by the collapse of the subprime mortgage market and the credit crunch that ensued. In return, the government will get a 79.9 percent stake in AIG and the right to remove senior management.
That’s close to a federal takeover, nationalizing the firm – but the feds now own only eighty percent of it, not the whole thing, and although they can dump senior management anytime they want, they don’t run day-to-day operations. It’s an odd arrangement. But after Fannie Mae and Freddie Mac were moved into a government-run conservancy, it feels like the feds are, in a de facto sort of way, slowing turning the private sector public. You just can’t have the whole thing collapse, after all.
Who imagined it would come to this? See Duncan Black:
AIG, we must remember, is primarily an insurance company, with substantial other sidelines, and is very far from the Fed’s normal domain which is commercial banks. Is the Fed going to make a loan to GM next? Not crazy given its heavy equity in GMAC.
When Chrysler was given loan guarantees of $1.2 billion, about $3.2 billion in today’s money, over 25 years ago, it was like a nuclear-sized event. And it required an act of Congress.
Times change – the old days are gone. Things got all complicated and interlocked. And some things became too important to fail, lynchpins in the system – so the government should run them, at least for a bit, as its resources are practically limitless. No one is calling for an Act of Congress. Somehow, by some sort of tacit agreement, everyone agrees on this now – economic chaos makes socialists of us all, perhaps.
But of course, many countries work that way – you identify key industries and services, and the government runs them for the common good, not for profit, and everyone agrees that chipping in taxpayer money for those things is fine and dandy. Think of the French rail system – it doesn’t make a profit for anyone, and costs the taxpayers a bundle, but at relatively lost cost you can get almost anywhere you want, and on a screamingly fast TGV train that gets you there faster and with less hassle than a commuter flight. We “privatized” AMTRAK and see were that got us. It worked a bit bitter with the Post Office, of course – since 1971 independent and an official monopoly, but not exactly private.
Maybe we’re turning French – finding things we should run for the common good, and everyone chips in. Insuring that the mortgage lending systems works and there is liquidity in the markets – capital available – seems to be something for the common good. That Chrysler could continue to make crappy cars may not have been, but this is. Ironically, France, under Sarkozy, is trying to go the other way – but that’s their problem, not ours.
As for the current mess, there are some interesting ideas out there for reform, like this from Dean Baker:
The basic point is very simple. We impose a modest transactions tax on all financial transactions, for example a tax of 0.02 percent on the purchase or sale of a future contract or a tax of 0.25 percent on the purchase or sale of a share of stock. (The United Kingdom has had a tax of 0.25 percent on stock sales and purchases for many decades.) Such a tax could easily raise a $150 billion a year, enough to pay for a national health care program or a major clean energy initiative.
A tax of this magnitude will have almost no impact on someone who intends to buy and hold a financial asset. No airline is going to be discouraged from hedging on jet fuel futures because of a 0.02 percent tax, nor will any farmer be dissuaded from hedging on her corn crop.
… The only people who will really be hit by the tax are speculators; people who buy futures at 2:00, with the intentions of selling at 3:00. Even a modest tax can put a serious dent in the profits of those whose business is short-term speculation. We will therefore see less of this speculation, but it is hard to see why we should care.
Kevin Drum comments:
This is sort of like the idea of charging a tiny fee for sending email: normal people wouldn’t even notice it, but it’s more than enough to make spamming a losing proposition. The difference is that an email tax is technologically impossible, while financial transaction taxes are generally quite simple and reasonably enforceable.
It’s just an idea – but we need ideas, as the current crisis is causing no end of turmoil in the presidential campaign, as in McCain, Obama joust over how to fix Wall Street:
Barack Obama took dead aim at John McCain ‘s economic philosophy Tuesday, charging that the Republican presidential candidate would extend Bush administration policies that helped foster Wall Street’s turmoil, while McCain proposed creating a blue-ribbon commission to study the nation’s deepening financial crisis.
So McCain wants a commission and Obama blames Republicans for the current crisis. Neither position is that helpful.
Obama on the idea of a super-duper blue-ribbon commission – “But here’s the thing: This isn’t 9/11. We know how we got into this mess. What we need now is leadership that gets us out. I’ll provide it; John McCain won’t.”
His point is that the other guys had always scoffed at regulation, saying that shut down growth – and look where that got us. McCain was saying he’d always been for more regulation, hoping no one would look at his record, or if anyone did and reported it, people would not be interested in silly details.
It got strange:
At a rally [in Tampa], Mr. McCain vowed to take aim at what he called the “unbridled corruption and greed that caused the crisis on Wall Street.”
Mr. McCain – who has said for months that he believes that the fundamentals of the economy are strong – has used the word “crisis” a lot on the last day to describe the financial situation. He did so in a series of television interviews Tuesday morning, where he called for the creation of a commission to study the problem, along the lines of the commission that investigated the Sept. 11 attacks.
See Kevin Drum on this matter:
McCain has been running ads for weeks saying that he’ll “reform Wall Street and battle Big Oil” – claims that usually prompt me to burst out laughing when they pop up on my TV. If there’s a person in the entire country less likely than John McCain to reform Wall Street or battle Big Oil, I’m not sure who it is.
Of course, it would be a lot easier for Democrats to scoff at McCain if they hadn’t mostly supported all the same financial deregulation that he did. I have my doubts that repealing Glass-Steagall contributed much to our current problems, but in any case the repeal was supported by Robert Rubin and Larry Summer and signed into law by Bill Clinton. Ditto for the Commodity Futures Modernization Act a year later. What’s more, Democrats were mostly pretty happy about the rapid growth of subprime loans to low-income house buyers during the boom years, and a bunch of them supported the 2005 bankruptcy bill too. Hell, last year Senate Democrats couldn’t even bring to a vote the biggest no-brainer of all time: a bill to close the carried interest loophole that allows billionaire hedge fund owners to avoid paying income tax at normal rates.
It’s true that Barack Obama has some good ideas about re-regulation of Wall Street, and it’s noteworthy that he’s had these ideas for a while. McCain, conversely, is like a deer in headlights: he has no clue what’s going on, so all he can do is keep repeating the word “crisis” like a windup doll and then call for a commission to dig up some answers for him. Not exactly inspiring leadership.
Still, Obama’s job would be a lot easier if Democrats had spent the past eight years acting like Democrats. Think they’ll learn a lesson from this?
No one’s hands are clean, although Obama is looking good here.
Of course John McCain was hammering Wall Street, condemning bankers and brokerage firms for “reckless conduct, corruption, and unbridled greed.” And there was this:
Too many people on Wall Street have been recklessly wagering instead of making the sound investments we expected of them…. Too many people on Wall Street have forgotten or disregarded the basic rules of sound finance…. Too many firms on Wall Street have been able to count on casual oversight by regulatory agencies in Washington.
All true, perhaps, but odd, as Ezra Klein notes here:
John McCain’s contention is that Wall Street has, for years, been rotting in a toxic mixture of greed and overreach and corruption. Simultaneously, a 70-year-old regulatory structure has proven inadequate at checking the institution’s excesses. This is, in other words, a crisis composed of trends, rather than a singular, unpredictable, catastrophe.
Three years ago, John McCain signed on to George W. Bush’s efforts to privatize Social Security. He surveyed Wall Street and decided that it was a stable enough institution to entrust with the nation’s pension funds. Three years ago.
And this wasn’t just an attempt to cozy up to Bush: McCain was arguing for privatization in 1999.
So McCain’s argument is that Wall Street is built atop an unstable regulatory foundation and is shot through with most of the seven deadly sins. That the situation has been allowed to fester so long is evidence that “people were asleep at the switch.” Even so, McCain has consistently argued that much of Social Security should be turned over to … Wall Street. Either he wanted to tank the nation’s pension funds or he was one of the people asleep at the switch. But those are really the only two options here.
Obama’s speech the same day – a four minute clip from it here – seemed unusually direct:
Make no mistake: my opponent is running for four more years of policies that will throw the economy further out of balance. His outrage at Wall Street would be more convincing if he wasn’t offering them more tax cuts. His call for fiscal responsibility would be believable if he wasn’t for more tax cuts for the wealthiest Americans, and more of a trillion dollar war in Iraq paid for with deficit spending and borrowing from foreign creditors like China. His newfound support for regulation bears no resemblance to his scornful attitude towards oversight and enforcement.
John McCain cannot be trusted to reestablish proper oversight of our financial markets for one simple reason: he has shown time and again that he does not believe in it.
And there was his specific record against McCain’s:
In February of 2006, I introduced legislation to stop mortgage transactions that promoted fraud, risk or abuse. A year later, before the crisis hit, I warned Secretary Paulson and Chairman Bernanke about the risks of mounting foreclosures and urged them to bring together all the stakeholders to find solutions to the subprime mortgage meltdown. Senator McCain did nothing. Last September, I stood up at NASDAQ and said it’s time to realize that we are in this together – that there is no dividing line between Wall Street and Main Street – and warned of a growing loss of trust in our capital markets. Months later, Senator McCain told a newspaper that he’d love to give them a solution to the mortgage crisis, “but” – he said – “I don’t know one.”
… This March, in the wake of the Bear Stearns bailout, I called for a new, 21st century regulatory framework to restore accountability, transparency, and trust in our financial markets. Just a few weeks earlier, Senator McCain made it clear where he stands: “I’m always for less regulation,” he said, and referred to himself as “fundamentally a deregulator.” This is what happens when you confuse the free market with a free license to let special interests take whatever they can get, however they can get it.
That’s strong stuff. And McCain has a problem with the fact that his economic platform was written by his now unofficial advisor Phil Gramm, the fellow who said things are fine with the economy and that we’re a nation of whiners, and the man who gave us the landmark Gramm-Leach-Bliley Act in 1999, the one that reduced or eliminated government regulations in existence since the Great Depression, the ones separating banking, insurance and brokerage activities. Think about that, and where we are now. Something stinks.
Add that one of McCain’s advisors and surrogates had been Carly Fiorina, the former CEO of Hewlett Packard – the one who drove HP into the ground, caused a ton of job losses, and was then fired. Well, like Sarah Plain, she is a woman, and that may be the point of having her all over the airwaves – but she was saying odd things. Appearing on KTRS in St. Louis, she was asked whether Palin had the experience to run a major company, one like Hewlett Packard. “No, I don’t” – that is what she said – “But you know what? That’s not what she’s running for. Running a corporation is a different set of things.” Later in the day she added none of the four – Obama, Biden, McCain or Palin – could do what she did. Late in the day the McCain campaign fired her. But she’s used to that sort of thing.
A little thought about the McCain crowd and you begin to wonder just whose side they’re on, and what they think about the economic crisis, or even if there is one, even if they make the appropriate sounds.
But then, on Tuesday, September 16, McCain was in Vienna, Ohio, just north of Youngstown, with the common folks, and Obama was taking the late flight to the coast, for a fundraiser here in Hollywood – actually a few miles down Sunset in Beverly Hills. Barbara Streisand was hosting, and would even sing. McCain made much of this – the celebrity and snooty elitist was with his kind, and the salt-of-the-earth old war hero was with the real Americans, and he was the reformer. He might have added that he graduated fifth from the bottom of his class at Annapolis, and Obama had been first in his class at Harvard Law School and Editor of the Law Review – so Obama wasn’t one of “us.” And McCain might have repeated, once again, that he really doesn’t know much about the economy – never has and never will – so he’s not one of those strange people who think long and hard about such things, just a regular guy. He was paying the populist card, saying he was a reformer who would throw the bums out, or at least slap them around. The crowd cheered.
The economy may be a mess, but he’s not like anyone else in Washington or on Wall Street, so he’s your guy to fix all this. And his vice presidential pick, Sarah Palin, is even less informed, and therefore even better at fixing things.
That may work. David Brooks, in the New York Times explains:
Philosophical debates arise at the oddest times, and in the heat of this election season, one is now rising in Republican ranks. The narrow question is this: Is Sarah Palin qualified to be vice president? Most conservatives say yes, on the grounds that something that feels so good could not possibly be wrong. But a few commentators, like George Will, Charles Krauthammer, David Frum and Ross Douthat demur, suggesting in different ways that she is unready.
The issue starts with an evaluation of Palin, but does not end there. This argument also is over what qualities the country needs in a leader and what are the ultimate sources of wisdom.
There was a time when conservatives did not argue about this. Conservatism was once a frankly elitist movement. Conservatives stood against radical egalitarianism and the destruction of rigorous standards. They stood up for classical education, hard-earned knowledge, experience and prudence. Wisdom was acquired through immersion in the best that has been thought and said.
But times change, and Brooks says there’s always been separate, populist, strain:
For those in this school, book knowledge is suspect but practical knowledge is respected. The city is corrupting and the universities are kindergartens for overeducated fools.
The elitists favor sophistication, but the common-sense folk favor simplicity. The elitists favor deliberation, but the populists favor instinct.
This populist tendency produced the term-limits movement based on the belief that time in government destroys character but contact with grass-roots America gives one grounding in real life. And now it has produced Sarah Palin.
Palin is the ultimate small-town renegade rising from the frontier to do battle with the corrupt establishment. Her followers take pride in the way she has aroused fear, hatred and panic in the minds of the liberal elite. The feminists declare that she’s not a real woman because she doesn’t hew to their rigid categories. People who’ve never been in a Wal-Mart think she is parochial because she has never summered in Tuscany.
Look at the condescension and snobbery oozing from elite quarters, her backers say. Look at the endless string of vicious, one-sided attacks in the news media. This is what elites produce. This is why regular people need to take control.
Be that as it may, Brooks says there is a serious argument here, citing Steven Hayward in the current Weekly Standard arguing that the nation’s founders wanted “uncertified citizens” to hold the highest offices in the land and had no use for a separate class of professional executives. They wanted someone like Palin, “rough and rooted.”
But as much as Brooks says he likes that idea, the last eight years have made it hard to subscribe to such notions, saying that “if the Bush administration was anything, it was the anti-establishment attitude put into executive practice.”
That just made Bush “inept” at governance:
It turns out that governance, the creation and execution of policy, is hard. It requires acquired skills. Most of all, it requires prudence.
What is prudence? It is the ability to grasp the unique pattern of a specific situation. It is the ability to absorb the vast flow of information and still discern the essential current of events – the things that go together and the things that will never go together. It is the ability to engage in complex deliberations and feel which arguments have the most weight.
And you get that through experience:
The prudent leader possesses a repertoire of events, through personal involvement or the study of history, and can apply those models to current circumstances to judge what is important and what is not, who can be persuaded and who can’t, what has worked and what hasn’t.
Experienced leaders can certainly blunder if their minds have rigidified (see: Rumsfeld, Donald), but the records of leaders without long experience and prudence is not good. As George Will pointed out, the founders used the word “experience” 91 times in the Federalist Papers. Democracy is not average people selecting average leaders. It is average people with the wisdom to select the best prepared.
Sarah Palin of course may be fine, but only so far:
If you wanted someone to destroy a corrupt establishment, she’d be your woman. But the constructive act of governance is another matter. She has not been engaged in national issues, does not have a repertoire of historic patterns and, like President Bush, she seems to compensate for her lack of experience with brashness and excessive decisiveness.
The idea that “the people” will take on and destroy “the establishment” is a utopian fantasy that corrupted the left before it corrupted the right. Surely the response to the current crisis of authority is not to throw away standards of experience and prudence, but to select leaders who have those qualities but not the smug condescension that has so marked the reaction to the Palin nomination in the first place.
But it’s not just Palin – in the current economic crisis you have McCain saying he doesn’t know much, but his reformer instincts are right, and that’s what matters – and forget his record and his advisors, as he’s a maverick who listens to no one.
You do remember how he said he would fix everything that is wrong in Iraq:
“One of the things I would do if I were President would be to sit the Shiites and the Sunnis down and say, ‘Stop the bullshit,'” said Mr. McCain.
That, along with forming a big committee for a long investigation, seems to be how he would fix the economic crisis – or he’d tell Sarah to take care of it, as she’d be even more blunt. You just tell them to stop the nonsense.
He may win with that approach. Convert everything to cash now and stick it in a Swiss bank account.