Senator Charles Grassley (R-Iowa),the top Republican on the Senate Finance Committee, had called for AIG executives to take responsibilitity for their actions.
He specifically said AIG execs should “resign or go commit suicide.”
Of course, Chuck, by voting to repeal Glass-Steagall back in 99 had a lot to do with causing the current crisis.
Perhaps he should consider such advice more carefully in the future, since it should apply to him?
Geithner was asked today if he believed in naked credit default swaps. Apparently he does, but it was both the wrong question and answer. Reform of credit default swaps needs to be thorough, and though through from basic principles. Here’s how to fix credit default swaps.
The first step is a name change. Call them insurance, because that’s what they are. The insure against the possibility that you won’t get paid money someone owes you. Once they’re called insurance, regulate them like insurance.
There are other methods one could use to regulate and fix the default market, like having open exchange traded contracts, which could be made to work as well, but this is the simplest model and one that has worked well in the rest of the insurance industry.
The larger rule is simpler: no unregulated financial markets or entities without sufficient capital to cover their bets, so the taxpayer winds up stuck with the bill. If you want to gamble, go to Las Vegas. If you want to sell insurance, be a nice old fashioned stody insurance company who pays your executives low six figure salaries.
Obama was absolutely right when he said, on September 16th (2008), that modern markets have completely failed not just for the last 8 years but for most of the last 28—whenever Republicans were in charge, and a fair bit when Democrats were in charge. Ordinary people haven’t had a raise in nearly 30 years. Which leads to the question: why is Obama now letting Geithner, Summers and Bernanke spend trillions to reboot a fundamentally flawed market, one based on securitization and leverage?
I simply, completely and utterly fail to see what is so wonderful about the process of securitization or why the government should reboot a market which still includes it as a fundamental feature. What securitization does is take the risk and spread it from the people who might be able to understand it and control it (the people actually issuing the mortgages, for example) to a ton of people who could not possibly know the risk even if they wanted to. Yes, it allows you to create more financial products. Yes, it reduces the cost of capital somewhat. But are we really better off because of securitization?—Of course we aren’t. Without securitization this current market meltdown would have been a heck of a lot milder.
Ratings agency reform is not the solution: ratings agencies completely fell down on the job, and even if incentives were changed they are still not in a position to know whether a mortgage from Mr. Smith is legitimate. Are they going to visit the property? Talk to Mr. Smith? Call his employer? Of course not, they can’t. The only people who can are the people who issued the original mortgage.
Nor should risk be transferred much if at all. Risk must stay with the people who issue the mortgage. If they know it will be off their books they won’t do proper due diligence, and no one else can do it. At most, risk should be transferred once and must be transferred in whole and understandable form. In contrast, the current system takes multiple different incomes steams (say 20 or more), melds them together, chops them into tranches, and sells them to people who really have no idea what they’re buying—with middlemen at every step booking profits and washing their hands of responsibility. Risk must be assumed only by people who can understand it and manage it and who are exposed to the consequences of their decisions. In other words, risk must be assumed by people with the ability to manage that risk,who know that if they fail then they will pay the price themselves.
It is necessary for the Fed to basically regulate everyone, with the SEC occasionally peeping over it’s shoulder to see whether market manipulation is occurring. This is necessary because there are, as Obama points out, no longer clear cut differences between banks, insurance companies, investment banks, brokerages and so on. The repeal of the Glass-Steagall Act put an end to those differences.
Glass-Steagall, remember, was put in place during the Great Depression to stop another Great Depression from occurring. People who lived through the 1920’s believed that one of the causes of the the Great Depression was not having clear-cut boundaries between the businesses, meaning risk was not divided appropriately and companies became “too large to fail”. The Glass-Steagall Act was passed in 1933 to mandate separating bank types according to their business (commercial and investment banking), thereby preventing the formation of banking conglomerates, and also founded the Federal Deposit Insurance Corporation (FDIC) for insuring bank deposits.
But somehow we think we know better today than the people who lived through the last Great Depression, the people who lived through the 1920’s and the last great market crackup. So we’ve repealed most of Glass-Steagall and allowed everyone to be in everyone else’s pockets, allowed huge financial conglomerates to mushroom into monstrosities, and allowed unregulated “innovative” financial “products” like collateralized debt obligations (CDOs) to grow into such huge bubbles that financial markets were huge multiples of the entire real world economy.
Then it all comes crashing down and people claim to be surprised.
Enough, already. Yes, the world is not exactly the same as it was in the 1920’s and 1930’s, but we didn’t start having these disasters till after Glass-Steagall and other Depression-era securities laws started getting repealed. The first set were repealed in the 1980’s, followed by most of the remainder in 1999 (e.g., Depository Institutions Deregulation and Monetary Control Act, 1980; Garn-St. Germain Depository Institutions Act , 1982; Gramm-Leach-Bliley Act, 1999).
It’s time to reinstate the financial reforms of the 1930’s that worked:
Obama was right: the philosophy of the past 28 years has been a failure. Let’s treat it a failure then, and re-institute what worked, re-regulate, then slowly modify from there, with complete transparency and strong regulation.
Financial markets exist to serve ordinary Americans and non-financial American businesses. They haven’t been doing that properly. It is time to make sure that they do.
Originally published in slightly different form September 16th at FDL. Still sadly pertinent.
The Economist’s View explains how the banks are going to drive a bunch of Brink’s trucks through the holes in Geithner’s plan to stick the middle class with bankers’ losses:
It certainly looks as if Citigroup and Bank of America are using TARP funds, not to lend, which was one of the primary goals of the program, but to scoop up secondary market dreck assets to game the public private investment partnership.
So not only are they seeking to extract far more than was intended even with the already generous subsidies embodied in this program, but this activity is also speculating with taxpayer money.
This sort of thing was predicted here and elsewhere. Welcome to yet more looting.
Well, well, what a surprise. They are using Troubled Assets Relief Program (TARP) money to buy up toxic assets, and selling them for a profit because they know that funds which split half the profits, but only take 15% to 20% of the losses, are going to overpay.
Perhaps you wondered why the markets rallied? It was because Geithner said very clearly that the government was going to give away a ton of money and not nationalize.
I agree with Dave Johnson at Seeing the Forest that Geithner’s plan will work—as long as we all define work to mean it will “bail out the banks, hedge funds, and rich people.”
The plan will eventually lead to a technical GDP recovery, and to employment not recovering before the next recession. That’s the Japanification phase. After that, well, we get a real depression, because the US (and the rest of the world) will have used up too many resources to be able to handle the next catastrophe. Since nobody will have put in place the necessary structural changes to avoid a catastrophe or gotten rid of the fools who caused this one, a catastrophe will occur.
Is anyone else noticing anything significantly different between Geithner’s actions and those Paulson would have taken? Because frankly, I’m not.
(Hat tip to Dave Johnson)
Former Ambassador Dan Simpson has written an excellent article on why Afghanistan is lost and Obama should get out:
It is simple. It is impossible to fix Afghanistan without fixing Pakistan. It is impossible to fix Pakistan. Thus, Afghanistan is and will remain an impossible sinkhole
I’ll go one further. The war in Afghanistan is destabilizing Pakistan. Continuing or escalating the war in Afghanistan may not just mean Pakistan isn’t “fixed,” it may mean that Pakistan falls into anarchy or into the hands of Pakistani Taliban or other folks fundamentally hostile to the West.
In any case, go read Simpson’s full article, he makes his case very well.
Image by rom
It is unclear how much money has been spent, guaranteed and loaned at this point. Given that back in February the number was $9.7 trillion, and that trillions have been committed since then, I think it’s safe to say that we’re over $12 trillion. This is a lot of money. The entire US GDP for 2008 was about $14 1/2 trillion.
The Fed has even decided to buy treasuries, which is the absolute definition of “printing money” since it amounts to one part of the government funding the other part of the government.
All of this money is going to land somewhere. What we are going to see is another bout of riptide inflation, where some parts of the economy (such as wages and housing prices) are in deflation, while other parts are inflating. My guess where the money is going to land? Oil prices again. It’s already begun. Put all that money into the hands of speculators and they have to park it somewhere.
Likewise when America buys its own treasuries, that means that the treasury bubble is going to start deflating. Private investors aren’t going to want to invest in a Ponzi scheme which is coming to an end. The US dollar has also very likely peaked, and we’re going to see it deflate over the next year.
All of this was avoidable. What should have been done was to take steps to deal with oil inflation: such as a 55 mph speed limit, 3 day weekends at major corporations, and so on. Such steps should have been instigated the second Obama took office, or put into the bailout bill or the stimulus bill.
The result instead is riptide inflation/deflation combined with a falling dollar and more difficulty financing this expansion in any way that isn’t nakedly printing money.
Then we come to the Geithner plan, which amounts to the federal government subsidizing hedge funds to buy toxic securities at overvalued prices using mostly money from the Federal Reserve and the FDIC in order to make sure they don’t have to ask Congress for money, since they know Congress would never give them another trillion and a half or so.
At the end of the day, the FDIC and Fed are backed by the US government, so any losses will have to be made up for by the American taxpayer. (In the old days, this was known as “taxation without representation”.)
There will most likely be losses, because a good chunk of the loans to hedge funds are non-recourse, meaning that if the value of the security goes down, it’s Uncle Sam who’s on the hook for most of the loss, not the hedge fund. Likewise the funds will be heavily leveraged, allowing them to pay higher prices than otherwise. Add to that the continuing collapse of housing prices and the economy, and you have a situation where the target is moving. As the economy gets worse, more and more people default on their mortgages, leading to a decrease in housing prices and thus the prices of securities built on top of housing.
Which leads us to the stimulus bill. The Stimulus bill is not large enough or constructed well enough. So even if it works in a technical sense (gets GDP growth above zero) it’s probably not going to really turn the economy around in the ways that matter: recovering jobs and increasing wages. Without these two things increasing, and without a clear direction for the economy other than hedge funds receiving massively leveraged loans to play paper games—which worked so well before the crisis, you just know we should try it again—housing will keep decreasing, demand will not recover properly since consumers won’t have money to spend, and the assets underlying the financial crisis will continue to decline in value.
Because the government has loaned money to buy up the assets, and guaranteed much of the remainder of it, the government will be on the hook for the losses. (And by “the government,” I mean “your tax dollars.”)
What happened in Japan after their bubble is instructive. Instead of taking the toxic waste off their banks hands, or forcing write downs, they allowed zombie loans and zombie banks to sit around doing not much of anything. They also tried large Keynesian stimulus, but every time it looked like it might be working, they backed off. The end result was, and is, 20 years where the Japanese economy never really got good again. Short periods of modest growth were followed by recessions, over and over again.
Defenders of the Geithner Plan would say that we’ve learned from Japan’s mistakes. What we’re doing is taking the loans off the banks’ books, so we don’t have zombie banks. This misses the point, even assuming the government does eventually manage to move all the bad debts from the banks and into taxpayer hands, which is questionable since the losses are a moving and increasing target.
Why?—Because in macroeconomic terms it really doesn’t matter who has the debt, it doesn’t matter who is impaired. If the government has all the debt and winds up crippled, and government spending and loans wind up crippled, the effect is virtually the same as having crippled banks hanging around. The debt still has to be paid off.
The key difference here is between “paid off” and “wiped out”. “Paid off” means the full value gets paid back (minus whatever inflation the US has, which may be a lot). ” Wiped out”, on the other hand, is what would occur if private banks, firms and investors were forced to take their own losses. In that case, when the full value of the investor or firm was gone, any remaining value would simply disappear. If a bank goes bankrupt owing $200 billion, and the bankruptcy windups leave only $100 billion of proceeds, then the remaining $100 billion goes away. Yes, that $100 billion may wipe out some other people, but it’s done. It’s over with. It’s finished. You can’t get blood out of a stone, and when a firm or person is wiped out, they’re wiped out.
Instead the decision has been made, in effect, to pay back the full amount of the losses—and not to force those who made the bad bets to pay them back, but to put as much as possible of the losses onto the government and make taxpayers pay them back.
Since we’re talking about trillions of dollars of losses, in a declining economy, that means impairment of both government and private spending for years to come.
The end effect will likely be little different than what happened in Japan, with the exceptions that the US may see significant inflation, and that as net importer rather than a net exporter, the US probably can’t keep this up for 20 years. Which means that at some point in the future it will either have to default on the debts, inflate them away or have a financial collapse.
None of this is necessary, and there are still ways thing could be done better. The administration is set to announce their regulatory reforms next week. If those reforms are thorough and complete, ending the existence of “too big to fail firms”, sharply increasing tax progressivity and putting firm limits on leverage, then perhaps the pain to come will be worth it, if only because steps will have been taken to make sure it doesn’t happen again. But if real regulatory reforms aren’t put in place soon, the future will be bleak indeed.
Average Hourly Wages For Goods Producing Workers
What happens if there’s a class war and only one side bothers to show up and fight it? That’s what happened over the last thirty years. There was a class war, and the rich won. Period. It’s over, they kicked our knees out from under us, put on their steel-toed boots and spent the last thirty years telling us that they were going to trickle on us and we’re going to like it and beg for more.
Seems like hyperbole? It’s just the numbers. The top left shows the manufacturing wage earner’s hourly wages. Not “family income” which includes both of you going to work, but hourly wages. The only reason it’s goods producing is they go back longer, but other charts show the same pattern.
So, if you’re an ordinary slob, you haven’t had a raise in over 30 years. In fact, your real wage peaked over 30 years ago and it’s never recovered.
productivity and wages
This would be ok if the US hadn’t been getting richer, getting more productive, ever since then, but I’m sure you won’t be surprised to hear that productivity has kept going up. Yet somehow wages didn’t.
Damon Silvers, whom we can thank for the wages and productivity chart, thinks it has a lot to do with a hostile anti-union environment and with the simultaneous decline of progressive taxation. I’d say he’s got a big part of the picture though not all of it. The key part that he has right is simply that deliberate government policy meant an end to wage increases. Those deliberate government policies benefited the rich greatly, and the people in Washington and New York who made most of the decisions were very close to the people who benefited the most.
The main problem was that real consumption of stuff that requires energy, specifically oil, could not be allowed to increase faster than the combination of oil supply increases and efficiency increases. (We now produce twice the real GDP/barrel of oil we did in the 70s.) If consumption did overtake supply, not only would you get real widespread inflation, but you’d risk losing control over the price of oil.
We saw in 2008 what happens when you lose control over the price of oil.
The second big problem was that the oilarchies who were getting a lot of money with the new, higher price of oil, were not consumer societies and the money they were gaining was not being spread around. Rather it was pooling in the hands of a few nobles, chiefs and robbers, and those folks needed something to spend that money on. Despite what you might expect, trashing hotel rooms, doing blow and buying hookers can only use up a small amount of money, at least when you’re really really stinking rich.
In short, rich oilarchs were sitting on a pile of money and they wanted to buy things with it. Western things. Western…companies. There were two obvious ways for the West to deal with that. You could put on some form of ownership controls, whether formal or informal, or you could make your rich rich enough to compete with the oilarch rich by inflating the value of the paper assets that they were competing over. Europe mostly chose to just say: “No, you can’t buy that.” American elites were smarter though; they realized that this was a chance to become stinking rich. If our rich people were rich enough, they could bid up the price of companies and assets so the oilarchs couldn’t snap them up.
So they made themselves rich. They reduced taxation on themselves in a number of ways, they broke union power, they got rid of old New Deal laws that had stopped speculation from getting too bubblicious and they went on a bubble spree—shoving money into various different asset classes, driving them into the stratosphere, taking the profits and then letting the taxpayer eat the loss. They took as much public infrastructure private as they could and they did so for cents on the dollar. They imported manufactured goods from the East to keep goods inflation down and they exported jobs to low-cost domiciles to keep wage push inflation down.
They also ran, in most periods, very tight dollar policies, so that there were fewer dollars around than the rest of the world needed. Needing dollars badly, people had to sell to the US cheap. And since everyone from outside the US wanted in on whatever the bubble of the day was, they kept giving the US real stuff (oil, goods) for pieces of paper. Those pieces of paper represented something real, at the end of the day: they represented the future. But the future always seems a long way off until suddenly it’s today.
It was a death bet. And back in the late 70’s and late 80’s it was a good bet. Heck, it was even a good bet for many over the last ten years. If you expect to be dead before the bill arrives, who cares how big the bill is? Tim Russert just won that bet. Reagan won that bet. Jesse Helms won that bet. It was a good bet for a lot of powerful men (and a few powerful women) in their late forties or older.
But some people lose death bets, and most people reading this today will lose this bet. You had your chance to die, now you’re going to get to live and pay. I suppose it’s better than the alternative, but I don’t imagine you’re going to enjoy it much.
Top 1% share of income to 2005 by Piketty and Saez
So look at the last chart and remember: there was a class war. Most Americans never even showed up for it. And the rich won. Now they’re going to try and keep and expand their gains. As Naomi Klein has pointed out at great length, when things go wrong, it’s very easy to sell people snake oil, to take advantage of their fear and their despair.
Roosevelt told the American people not to fear. That there was nothing to fear but fear. Elsewhere other leaders whipped their people into fear, and after fear, into fear-driven aggression and hatred.
Even in lesser crises leaders will appear who offer to solve the problem without telling you how. In the eighties Americans turned from Jimmy Carter, with his negativity and his call to solve fundamental problems in fundamental ways to Reagan, promising “morning in America”. And let’s be honest: Reagan sort of fixed the problems. His fix, in one form or another, lasted almost twenty years, till kid Bush broke it. Sure it wasn’t a permanent fix, and sure it was fixed on the back of the middle and working classes and the cost was not having things like healthcare, the offshoring of huge numbers of jobs and so on. But gas prices went down. Interest rates went down. Inflation was tamed. Suburbs sprouted like weeds. Reagan delivered.
And the rich won their class war.
Reagan was working with a strong America. A fundamentally healthy America. He could afford to run the place down, because it was still in good repair, the baby Boomers were still young, and so on. The cost of Reagan’s “fix” has been that ordinary people haven’t had a raise for over 30 years.
The next such “fix” won’t leave wages even, it will, in real terms, halve them.
Originally posted at FDL on July 13, 2008 in slightly different form. Nothing has changed, except that the next class war is on, and the rich are winning this one, too.
historical union membership
Or, to put it more simply:
1) Specter, who is in danger of a strong challenge from the right during his nomination contest in 2010, is moving right to secure his flank. If he had planned to run as an independent, he’d be planning to vote for EFCA.
2) Right now there are no other Republican Senators who say they’ll vote yes. Even once Al Franken is confirmed to the Senate at least one Republican will have to be turned.
Getting EFCA through is likely to be a bruising fight. But it’s the one thing Democrats union allies absolutely want and need to have. They won’t forgive Obama or Congressional Dems who blink on this because without it, the union movement in America will likely continue its long term decline.
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