Thursday, October 09, 2008

Finance, Part III

UPDATE: below

An anonymous commenter claims "greedy, dishonest capitalists are destroying capitalism." This has obvious relevance to this week's presidential debate where, as Betsy Newmark says:
we just learned that McCain wants to buy everyone a house and Obama wants to provide everyone health care. And we're a country that's broke.
I responded to "Anony" as follows:
This isn't about fraud--which, in some ways, makes it more troubling.
And that's what's wrong with both Obama's and McCain's answers: the current crisis was not caused by evil captains of industry ripping off the little people; nor was it created (though it may have been eased) by sleepy or over-ideological or bribed regulators; nor is the flaw Gramm-Leach-Bliley, the Community Reinvestment Act, deregulation, mark-to-market, or even those nasty speculators. Rather, it was a failure of risk takers and their private managers.

This is vastly worse, especially for part-time economists and full-time free marketers like me. The masters-of-the-universe are presumed wise enough to establish value and cover risks. Derivatives, and securitization-of-everything-not-nailed-to-the-floor,-plus-some-things-that-are, are supposed to spread risk and flow profits to the smart. IT DIDN'T WORK. And the obvious (though not necessarily proper) response will be: socialism and over-regulation, perhaps on a global scale.

If that's the solution, how much faith in Adam Smith will be discarded? If that remedy is right, how much of trusting trade to David Ricardo is misplaced? As I said in comments, this line of thought--considering killing a system that still could produce spectacular wealth--is far more frightening than fraud.


Right-leaning Italian Prime Minister Silvio Berlusconi distanced himself from free markets Friday, "when he suggested global financial markets should be shut down while policy makers "rewrite the rules of international finance.'" And Assistant Village Idiot has similar thoughts--read his excellent analysis.


Anthony Faiola in the Washington Post predicts "the end of American capitalism."

(via MaxedOutMama, The Corner, twice)


OBloodyHell said...

I will point out to all and sundry that, even after tanking of late, the markets in the last 25 years of free-markets and deregulation, the Dow is still up 9x. Contrast this with the heavy regulation and government interventionism of the 20 years from 1962-1982, when the DOW remained at at or below a steady 1000 for the entire period.

So, you want stability where you make next to no money at all, or do you want a degree of instability where you can gain 14x overe time and then lose 5x of it back, if you fail to get out at the optimal time? Which one is better for all? Does this really need to be asked?

Free markets rule


Anonymous said...

What about the people who provided loans to people for houses that they knew those people could not afford? They were not worried about those people repaying the loans because they would be "securitized." Were they honest transactions? What about all the people who knew what was going on with "derivatives"?

What about all those huge bonuses and golden parachutes when those receiving them knew the financial condition of their companies?

I am sure there was more fraud far....we don't know about. It's sorta like finding out that legal drugs "approved" by the FDA actually do serious damage or kill people......long after the drug companies have made big, fat profits on these very drugs.

Are you naive?

No fraud?!?!

You must be joking.

Anonymous said...

I don't suggest "killing" the system. I suggest changing it.

The changes I am suggesting are changes that are designed to benefit everyone, not just the 2% with the current money power to buy results that benefit them from the legal and political systems.

I am a strong believe in the good of capitalism. That is not the problem. The problem is the dishonest people using legalese and other dishonest devices to rip-off people. Let honest capitalism have a chance of working. Let honest DEMOCRACY have a chance of working. Let's just cut out the hypocrisy and gross dishonesty that have sabotaged true capitalism.

@nooil4pacifists said...


Where, exactly, is the fraud? Mis-calculating credit risk isn't fraud, and besides, no one put a gun to a mortgagee's head (yes, there likely was some outright fraud, but very little). Failing properly to spread the risks via derivatives isn't fraud. And high salaries/bonuses were neither coerced or hidden.

Sure, there's some fraud. But I challenge you to find systemic fraud that caused the current crisis. There were a series of wrong decisions--but the decision-makers were honestly wrong.

bobn said...


First, I'd like to say I appreciate the overall balance of this post.

But I challenge you to find systemic fraud that caused the current crisis.

The work of the ratings agencies qualifies IMO. Had they not been rating the top tranches AAA and the lower (now totally toxic) tranches of MBS as investment grade, this would have ground to a halt before it ever gained enough steam to be a crisis. Double ditto on CDOs, which was the same trick pulled with the mid-range tranches (now totally toxic) of MBS.

See here for the nonsensical assumptions built into the models - intentionally IMO, because they were paid by the issuers.

See here for an absolutely classic example of how crappy these securities actually were and note how highly rated they were, even in 2006, when the top of the market was clearly in.

I also believe that SEC's raising of the leverage limits on the investment banks was imprudent bordering on criminal, as was SEC's allowing the big investment banks to "self-regulate". While not specifically fraudulent, it certainly increased the damage done.

@nooil4pacifists said...


Thanks. But I still don't buy it (pun intended). Even assuming the SEC decision was wrong, it wasn't fraud. And same with the rating agencies and other private actors you address. Bad choices, yes. But without deposit insurance, why should regulators care about an investment bank's leverage? Now we know that unsustainable leverage is a bad idea. But that's far from fraud.

I note the hapless "Anony" merely repeats his argument without summoning evidence (such illogic might explain why he remains anonymous). Which tends to confirm fraud wasn't the proximate cause of this crisis. Assuming that's true, what is the appropriate fix to minimize the risk this happens again?

OBloodyHell said...

> Sure, there's some fraud.

You can damned sure bet Clinton's pal Gorelick and Franks' lover Raines committed fraud. Good luck getting anyone to charge the #$%#$#$^ pricks, though.

OBloodyHell said...

> (such illogic might explain why he remains anonymous).

I vote for lack of imagination. I've noticed that most "anon"s show every sign of inability to rub two brain cells together to summon a valid meme.

There are certainly exceptions, but they are not common. Someone who posts as anon usually applies a name if they post subsequently, just to differentiate themselves from any other anons and so they can carry on a credible argument over time.

Hence anons are usually trolls sticking their pointy heads in to drop a stink bomb and never return... but even where you have a clear regular, you generally see a marked lack of any sort of consistent thoughfulness in almost all cases.

Anonymous said...

Your chronic negativity is showing.
Is that the consistency you are proud of?
Rather then address the issues, you tear down the source. Obviously, you have no useful ideas for dealing with the issues.
Oh, well. You are probably good at something.
What is that?