The problem with following the news is that there are all the moving parts, and then there are the underlying issues and historical perspective and cultural and psychological considerations. Those who casually follow the news, relying, say, on those radio news stations that promise that if you give them twenty-two minutes they will give you the world, or on a few minutes now and then with Sean Hannity, Keith Olbermann or Katie Couric, can get all outraged or depressed, or exasperated, as the dazzling parade of odd events become almost too much to endure. What does it all mean?
Policy wonks and history buffs have the long view, and they get outraged and depressed and exasperated too, but for a different reason. No one sees how all this – whatever it is that day – falls into a distressing pattern of history repeating itself to no good end. But they are the strange people, with too much time on their hands perhaps – or they’re just nerds. And the news folks just report the events – perspective, and sometimes even basic background, are filler. You throw that stuff in if you have time to kill, but even then you know that’s dangerous – adding perspective is too much like editorializing, slanting the news one way or the other. The only safe way to add background and perspective is to book some retired or fired expert in the field to say a few things, then balance him or her with another who thinks your first expert is full of crap – and you dutifully note everyone has an axe to grind. That’s safe – news panels.
But what’s safe is not that helpful. Everyone wants to make sense of the world in which they find themselves, and you get dizzying short bursts of news that this or that happened, followed by old white men shouting at each other, with, now, a feisty woman or thoughtful black man tossed in the mix. No, no Asians or Hispanics yet. That’s for later – it’s a demographic thing, having to do with ratings and advertisers. It has to do with economic clout.
So, on Friday, February 6, 2009, we had the usual array of quickly moving parts. Everyone knew the employment numbers would be bleak, and they were:
Employers slashed another 598,000 jobs off of U.S. payrolls in January, taking the unemployment rate up to 7.6%, according to the latest government reading on the nation’s battered labor market.
The latest job loss is the worst since December 1974, and brings job losses to 1.8 million in just the last three months. It is worse than the forecast of a loss of 540,000 jobs from economists surveyed by Briefing.com
The rise in the unemployment rate was worse than the 7.5% rate economists expected. The unemployment rate is now at its highest level since September, 1992.
Looking back over the current recession, the Associated Press added general perspective – “All told, the economy has lost a staggering 3.6 million jobs since the recession began in December 2007. About half of this decline occurred in the past three months.” That’s just reporting the facts, but for that one word – staggering – which may have been editorializing, or just lively writing.
And the New York Times reported this – “Economists see no hint that the bottom has been reached” – thinking you might want to know that, in case you’re thinking of buying a house or a car, or tickets to see the new production of Annie touring the country right now. You didn’t want to see a musical about a lovable orphan in the Depression anyway.
What does it all mean? That’s hard to say. But the more important question, given that this seems very bad news, is who will fix it all. The crew that since Ronald Reagan dominated how we thought about getting anything fixed, who made us happy to believe that government was always the problem and never the answer, to anything at all, were voted out of power rather decisively. The new crew has this odd alternative idea – the government is us, really, and we can use it to fix things. We can make things better, and government is one tool to do that. It’s ours – of, for, and by the people and all that sort of thing – so use it. You’d be a fool not to. Why should you be your own enemy?
And that led to the big event of that Friday, which was this:
With job losses soaring nationwide, Senate Democrats reached agreement with a small group of Republicans Friday night on an economic stimulus measure at the heart of President Barack Obama’s plan for combating the worst recession in decades.
Ah, an agreement – that’s nice. But of course it wasn’t that nice. John McCain was shown on all the news shows, speaking on the floor of the Senate, saying this was awful – it was a spending bill, not a stimulus bill. That was juxtaposed with clips of President Obama saying that of course this was a spending bill. What did you think stimulus was?
Of course the answer was stimulus was tax cuts for business, so they could provide more goods and services at the lowest possible cost. The answer to that, the riposte as they say, was to ask who would buy any of those goods and services, what with all the millions of people out of work, with unemployment accelerating – you hear the words free-fall a lot – and those still working scared silly and buying as little as possible. It was a standoff.
And as neither side would give, the bill as the Senate would pass it in a few days was both – vastly increased tax cuts and vastly reduced spending, so they came out roughly even in the end.
And the details seemed to be unclear, although Greg Sargent snagged some inside information:
Eliminations: Head Start, Education for the Disadvantaged, School improvement, Child Nutrition, Firefighters, Transportation Security Administration, Coast Guard, Prisons, COPS Hiring, Violence Against Women, NASA, NSF, Western Area Power Administration, CDC, Food Stamps
Reductions: Public Transit $3.4 billion, School Construction $60 billion
Increases: Defense operations and procurement…
So those who still maintain government is always the problem did get what they want – no money for schools, and certainly not pre-school (Head Start), none for the National Science Foundation, and no additional money for food stamps, or extending the health coverage for those who’ve lost their jobs, and so on. The AP hints at the rest – no direct aid to any state, so expect teachers then firefighters then cops to be laid off en masse where you live, and absolutely no extension of unemployment benefits, as that would encourage people to laze about and not look for work, or something. Democrats were saying much of that stuff will be put back in when the legislation goes to conference committee, when the House and Senate have agree on the final form of this all. That may be whistling in the dark, or maybe that will happen. No one knows.
But it passed, whatever it was, even if it was ugly. But it always is. Joe Klein explains:
The legislative process is as ugly as a wart. We only notice it when an earth-shattering monstrosity like the stimulus bill comes gallumphing down the track, but there is no such thing as elegant legislation. You always have to throw in a little sweetener – the museum of organized crime in Las Vegas, the military kazoo band, whatever – if you want to cobble together the votes needed to win. This is business as usual – and Barack Obama is guilty as charged: he’s trying to get this thing through the old-fashioned way.
So what? What are new are his priorities: his efforts to put the needs of the working poor and the unemployed ahead of the wealthy, to build a new green economy, to fund inner city education and remake the health insurance system. That is what the American people voted for after an era of Republican neglect. The messiness of the current process is not only inevitable, it also says very little about Obama’s ability to deliver on those very necessary goals.
Well, the working poor and the unemployed and those in the inner city didn’t do so well in the Senate, but it’s a start. And Klein may be right – that’s how these things work. Yeah, don’t visit a sausage factory.
And maybe the whole thing is a bad idea – Keynes was wrong, and you don’t spend your way out of hard times. The economist Paul Krugman is always saying that, but Robert Barro of Harvard is not a Paul Krugman fan:
[Krugman] just says whatever is convenient for his political argument. He doesn’t behave like an economist. And the guy has never done any work in Keynesian macroeconomics, which I actually did. He has never even done any work on that. His work is in trade stuff. He did excellent work, but it has nothing to do with what he’s writing about.
And Barro’s view on the stimulus bill:
This is probably the worst bill that has been put forward since the 1930s. I don’t know what to say. I mean it’s wasting a tremendous amount of money. It has some simplistic theory that I don’t think will work, so I don’t think the expenditure stuff is going to have the intended effect. I don’t think it will expand the economy. And the tax cutting isn’t really geared toward incentives. It’s not really geared to lowering tax rates; it’s more along the lines of throwing money at people. On both sides I think it’s garbage.
Well, that’s cheery. Both sides are full of crap, which might mean one should never watch the news, even causally, and certainly not consider the past – Keynes, FDR and all the rest.
But is there some perspective to be had on all this, on how we got here?
For that it might be useful to turn to someone who knows a lot about capitalism itself, and that would be Jerry Z. Muller, a history professor at The Catholic University of America and the author of The Mind and the Market: Capitalism in Modern European Thought and his course “Thinking about Capitalism” has just been released by The Teaching Company, which is sort of Capitalism 101.
Of course he writes in The American – the business magazine modeled on Henry Luce’s original vision for Fortune Magazine, a recent (2006) project of The American Enterprise Institute (AEI). You know those folks – they pretty much created the Bush administration’s public policy, with twenty or more of them in this post or that. This is the world of Newt Gingrich, now an AEI senior fellow; Paul Wolfowitz, now an AEI visiting scholar; John Bolton, now an AEI senior fellow; and Lynne Cheney, a longtime AEI senior fellow.
That’s quite a crew, but Muller isn’t a fool. And as for what is going on, he now offers his thoughts in Our Epistemological Depression.
No, he’s not Phil Gramm, saying that we’re not entering into another Great Depression and the awful things we think we see are all in our head, as things are just fine, really. Muller is saying were in this awful mess because of what we don’t know, and what we don’t know we don’t know – the epistemology stuff. As Spock used to say on Star Trek – fascinating.
Here’s his frame:
The history of socialism is the history of failure – and so is the history of capitalism, but in a different sense. For the history of socialism is one of fundamental failure, a failure to provide incentives and an inability to coordinate information about supply and effective demand. The history of capitalism, by contrast, is the history of dialectical failure: it is a history of the creation of new institutions and practices that may be successful, even transformative for a while, but which eventually prove dysfunctional, either because their intrinsic weaknesses become more evident over time or because of a change in external circumstances. Historically, these institutional failures have led to two reactions. They lead to governmental attempts to reform corporate and financial institutions, through changes in law and regulation (such as limited liability laws, creation of the FDIC, the SEC, etc.). They also lead market institutions to reform themselves, as investors and managers learn what forms of organization and which practices are dysfunctional. The history of capitalism, then, is the history of success through dialectical failure.
Well, that’s fine and dandy, but he argues something like history is bunk – it rarely repeats itself. So even if you see some standard patterns in economic recessions, major recessions are always the result of something novel. Ben Bernanke may be the greatest living expert on the Great Depression, but that’s of no use now. And we learned our lessons:
As a result, we are unlikely to make the errors of monetary policy made by the Fed in that era (of tightening money when it should have been loosened); or the errors of fiscal policy made by the Treasury (such as raising taxes when they should have been lowered); or the errors of ideological tone made during the 1930s, when anti-capitalist rhetoric frightened many potential investors from making new investments. In all of these respects, we have learned from the past.
In short – we already fixed all that stuff. We should worry about what’s new this time. It’s just that’s easier said than done:
Major recessions typically begin with a rapid change of prices in the market for some asset or commodity; that price decline then affects financial institutions (banks), leading to a decline in the availability of credit, and then to a decline in commercial activity. Usually, then, localized crises in capitalist societies are reflected in the financial sector. When the crisis reaches the financial sector, it becomes a more general crisis.
This time, too, there is an underlying commodity bubble, namely in housing. But it has had much wider ramifications, because financial institutions have become interconnected in two unprecedented ways. First, once distinct financial services became interconnected: banking, credit, insurance, and the trading of derivatives have become interlinked because they are conducted by the same companies. Second, financial institutions are more connected across national borders, so that there are entities across the globe that invested in toxic American-made instruments and are suffering as a result (including municipalities in Norway that invested tax revenues in American collateralized debt obligations, now worth 15 percent of their face value).
Keynes never imagined anything like this, or what Muller calls the current thick fog:
What we have is not so much the crisis of some underlying commodity that gets reflected in the financial system, as a crisis caused within the financial system itself. The most important bubble of the last decade or so was not of the housing sector, but of the financial sector, a bubble reflected by the 20 percent of S & P 500 profits that were made in the financial sector.
And we all know what happened:
There were governmental errors: monetary policy that was too loose; government monitoring agencies that were too lax; and government policies specifically intended to encourage home ownership among African-Americans and Hispanics that had the unintended but quite anticipatable effect of extending mortgages to those who lacked the ability to repay them. There were perverse alignments of market incentives, incentives that put personal interests at odds with corporate interests, and corporate interests at odds with the public interest. There were principal-agent problem within firms, where traders were remunerated with bonuses for selling collateralized debt obligations without regard to the long-run viability of the underlying assets. Rating agencies were corrupted because they were paid by the sellers of the goods they rated, offering unreliable evaluations that redounded against the purchasers of mortgage-backed securities. Large profits were made by companies that packaged and sold mortgages and mortgage-backed securities without needing to be concerned with their ultimate viability. It turns out that intermediation of risk reduces the incentives for adequate risk management: so long as risk is intermediated, from a mortgage loan broker to a commercial bank to an investment bank to an investor, there is really no incentive, at each stage of the game, to have adequate risk-managing policies in place.
Okay, ignore the implicit racism. The rest seems on target – everyone was flying blind, and flying stupid.
And it’s the stupid that bothers Muller:
That is, a large role was played by the failure of the private and corporate actors to understand what they were doing. Most heads of ailing or deceased financial institutions did not comprehend the degree of risk and exposure entailed by the dealings of their underlings – and many investors, including municipalities and pension funds, bought financial instruments without understanding the risks involved. We should keep this in mind when we chastise government agencies such as the SEC for failing to monitor what was going on. If the leading executives of financial firms failed to understand what was taking place, how could we expect government regulators to do so? The financial system created a fog so thick that even its captains could not navigate it.
Diversification and complexity, which are both supposed to reduce risk, turned out to have unintended and unanticipated negative consequences. The purported virtues mutated into vices.
So the idea here is that regardless of the stimulus talk, we need some rethinking, some “calling into question several cultural patterns that have driven our corporate economy in recent decades.” There may be no virtue in diversification and complexity, as they were supposed to reduce risk, and didn’t. And he wonders about accountability – rewarding performance based on “ostensible measures” of objectivity. Fine ideas – they just didn’t work out.
Go to the link – he explains. But this is good:
The complexity of newly created financial instruments, which were supposed to use mathematical sophistication to diminish risk, ended up creating opacity – an inability of any but a few analysts to get a clear sense of what was happening. And the creation of arcane financial instruments made effective supervision virtually impossible, both by superiors in the firm, and by outside regulators.
As Niall Ferguson has put it, “Those whom the gods want to destroy, they first teach math.”
As for historical perspective, policy wonks and history buffs note this:
Two milestones in the process of creating the fog of finance were the transformation of Wall Street investment banks from private partnerships to publicly traded corporations (beginning with Salomon Brothers in 1986), and the repeal of the Glass-Steagall Act of 1933 through the Gramm-Leach-Bliley Act of 1999. The former created tremendous incentives for risk-taking, since the firms no longer invested using the money of their top executives, who instead were remunerated based in large part on the amount of business the firm conducted, creating incentives to increase business by producing ever more complex and opaque financial instruments, such as collateralized debt obligations, swaps, etc. Then along came Gramm-Leach-Bliley, which opened the door to unlimited contagion, so that when one financial sector turned downward, it took the rest with it.
Muller thinks that the thinking is what really needs to be fixed:
There is much talk about monetary policy and fiscal stimulus. But without financial institutions that people have faith in, a fiscal stimulus is unlikely to have much of a multiplier effect. It is widely assumed that people will have faith in financial institutions if the Treasury injects capital into them. But the problem is not just that major financial institutions are short on operating capital: it is that recent experience seems to show that they are incapable of prudently managing the capital they have. In short, economic actors believe that other economic actors don’t know what they’re doing. Nor is the problem merely one of isolating “bad assets” – it is of a system that creates bad assets because of misaligned incentives and the fog created by opacity and pseudo-objectivity.
Confidence cannot just be conjured out of air. Nor can it be created with injections of capital or fiscal stimulus. It will be rebuilt to the extent that financial institutions take actions that lead us to believe that they know what they are doing.
And that’s the nub of it – throw money at the problem, with massive spending or extraordinary tax-cuts, or both, and you don’t get that far. None of that matters if those who run our financial institutions have a clue as to what they are doing.
And really, if you’re going to step back from the flurry of news events – all those moving parts – to get the long view, that’s not a bad place to start. Understand the smart guys who run things are clueless, and take it from there.