State and local governments have been forced into draconian budget cuts, firing workers who are among the most reliable in making their mortgage payments -- when they have jobs: firemen, policemen, teachers, civil servants.
Yet the Obama administration won't spend even a small fraction of what it has wasted on the banks to cover state shortfalls. The guarantee of $5.5bn in short term notes for California was deemed to be fiscally irresponsible, yet hundreds of billions have already been allocated to the likes of Citigroup, AIG, and Goldman Sachs, all of whom have already beefed up salaries and bonuses as they emerge from the embrace of the federal government.
Good for the banks, bad for the economy
Banks are also benefiting from lending programs that effectively allow them to borrow at zero and reinvest in Treasuries at around 3%. A bank doesn't have to do anything to make money. The banks' return on equity is going to be very good. They are going to be able to restore their finances.
While this is good for banks, is it good for anyone else? The problem is the government's "free money" program means banks have little or no incentive to do any actual lending. Combined with rising unemployment and the ongoing housing crisis, this means any recovery is likely to be muted, at best, especially given the ongoing weakness in the real estate market. Growing income inequality will likely be perpetuated and exacerbated with all of the resultant social strains. And in the meantime, the siren songs will grow that we are a nation addicted to debt, deficit spending our way to economic disaster.
Housing bubble lessons
Policy makers were slow to recognize the importance and magnitude of home price deflation. Keynes, Minsky, and Fisher understood that balance sheets matter to income and cash flow outcomes -- it is not just the other way around, as convention has it, where income and cash flow results passively accumulate on balance sheets at a glacial pace.
The New Keynesians like Bernanke should have recognized this through their "financial accelerator" channels approach, but the near-ZIRP (zero interest rate policy) QE (quantitative easing) approaches have so far proven to be too little, too late. Moreover, there is now a wing of investors feeding fears that "monetization" and significant fiscal expansion may constrain the Treasury's room to manoeuvre further. The upshot is that we have missed a golden opportunity to deal with the growing problem of income inequality. Instead, we have the paradoxical spectacle of an ostensibly progressive Democrat administration, and a Democratically controlled Congress, presiding over one of the most regressive wealth transfers in history.
As Keynes and Minsky realized a lifetime ago, durable asset markets, such as housing, do not clear as easily as markets for Chiquita bananas. This is especially true after asset bubbles have introduced structural excesses in parts of the capital stock -- what the Austrians call "malinvestment" or distortions to the production structure. When there are large outstanding stocks of durable assets relative to the potential flow supply, lower prices are not necessarily the cure for low prices, as the traders in the Chicago pits are wont to assert. The bias toward viewing markets as self-regulating, self-adjusting mechanisms does not hold equally well across all markets in all conditions, as this generation has been brainwashed to believe.
Rather, lower prices can beget a stock overhang of existing owners who want to sell, especially if expectations about "normal" or future values are closely coupled with recent spot price trends. Following an asset bubble, when conventions about normal supply prices (or even legitimate valuation models in general) have been ruptured, recent price momentum does tend to become the main guide to expectations, as the trend extrapolating traders win the day against fundamental driven investors during asset bubbles.
Obama, Geithner, and Summers misguided
Obama, Geithner, and Summers misplaced their faith in lower prices as the cure to an excess supply situation in a durable asset market. They also they failed to understand that while lower spot prices may reduce new production, the desired selling out of existing stocks can swamp this flow supply reduction. Because of these misconceptions, they now think they face the choice of either having to let it all meltdown, or else using policy to synthetically reproduce the prior bubble credit conditions.
Or consider this analysis another way, from the increasingly prevailing view that US policy makers are somehow edging us toward a hyperinflationary abyss. Money created has to be spent on goods and services to get higher product prices. Professional investors are working with very simple quantity theory approaches. They are not thinking about transmission mechanisms from money to prices. There is no auction market for M1 and the CPI that automatically settles at the end of each day. The only auction market is spending by public and private sectors on produced goods and services each day, week, month, quarter or year.
Government is the only one increasing spending. The fact that nominal GDP is still falling tells us that the private sector is trying to save more than government is deficit spending, which is deflationary, not inflationary. Even arch monetarists such as Milton Friedman conceded that the path to inflation from money creation was through nominal GDP.
In an inflation, people are eager to trade money holdings for produced goods and services or tangible assets. In a hyperinflation, even more so.
That is not what we have today. Banks are hoarding $1 trillion of cash on their balance sheets. Companies are in cash conservation mode and stripping down inventories, headcounts, and reducing capital spending. Households are saving and building exposure to near cash instruments.
Robust stimulus needed
When an economy experiences sharp and sustained shifts in private liquidity preferences, the policy response must be to create money and additional aggregate demand via government fiscal stimulus, or let debt deflation rip. The latter tends not to be terribly acceptable to democracies for the obvious reasons which Fisher had to learn first hand.
Statements by President Obama that "we are out of money" do not help, because they imply that there is an operational constraint on fiscal policy, beyond which the government dare not go. They feed the prevailing paradigm about "debt sustainability" and "national solvency" and thereby work at cross purposes. What President Obama, Fed Chairman Bernanke, and Treasury Secretary Geithner must say is that until the government deficit spending and the improvement in the trade balance exceeds desired net private sector saving, we can create all the money we want - it simply will not be enough to driver final product prices higher unless and until we succeed in restoring aggregate demand to sufficiently high credible levels where a self-sustaining economic recovery can take place.
In one sense, it is pointless blaming Wall Street for exploiting a system heavily rigged in its favour. They know that the game is stacked in their favour, so they are rationally taking advantage. But the sickest part about the whole episode is that the casino rule makers, Obama, Geithner and Summers, are perpetuating a flawed game that they had in their power the chance to end. In my more cynical moments, I have to wonder why TARP, which is essentially a purchase of financial assets (and, hence, better left in the hands of the Fed, as Treasury is supposed to buy 'real things') was placed in the hands of Treasury. It's almost as if this was planned deliberately so as to provide the anti-government folks with a cudgel with which to beat back supporters of activist government. My issue with Obama and his fiscal package is the same as Rob Johnson's: taxpayer money is being deployed in hugely inefficient ways like Citi, BofA, AIG, and GM and discrediting fiscal policy in the process. Contrast this with the achievements of the New Deal. As Adam Cohen in his new book, Nothing to Fear.
"[WPA] workers constructed or repaired more than 125,000 buildings, including 83,000 schools; 800 aiports; 950 sewage plants; and 650,000 miles of roads. They built or improved 78,000 bridges and 25,000 playgrounds; terraced 271,000 acres of eroded land; and taught two million people to read. They also ran a famous Federal Art Project, which hired destitute artists to create murals for public buildings, posters, and paintings. The WPA produced a highly regarded series of state guidebooks and an acclaimed collection of interviews with former slaves, and it played a major role in building the San Antonio Zoo, New York City's LaGuardia and Washington's Reagan airports, and the presidential retreat at Camp David. In 1965, on the program's thirtieth anniversary, The New York Times quoted a dispossessed North Carolina tenant farmer living in an abandoned gas station, who had been rescued by a WPA job. 'I'm proud of our United States, and everyting I hear The Star Spangled Banner I feel a lump in my throat,' he said. 'There ain't no other nation in the world that would have had the sense enough to think of WPA."
This kind of puts the paucity of Obama's fiscal goals in stark relief, doesn't it?
The key is building a political case for the stimulus. This means getting people around a common objective where everybody is perceived to be benefiting and that the sacrifices are being borne fairly. This was clearly the situation in WWII when the budget deficit as a percentage of GDP got as high as 30.3% of GDP, yet nobody complained about the "sustainability" of government expenditures. The upshot was that by 1946, the GDP per capita was 25 percent higher than it had been in the last peace years before the War. GDP per capita continued to grow during the Marshall Plan years. Despite giving away two percent of U.S. GDP, American residents (and taxpayers) experienced a higher standard of living each year. And nobody spoke about us running out of money.
Bank bonanza must end
By contrast, the current bonanza for banks is neither economically efficient, nor politically sustainable.
What is driving the change in portfolio preference shifts is not only a misguided paradigm, but also an inability for the Obama administration to make a sensible, coherent case in what they are doing and why they are doing it. Their actions, in fact, seem to suggest that everything is ad hoc and that they are operating out of their depth, in effect continuing the same policies of the Bush/Paulson period, but on a much greater scale.
Ironically, this ultimately will also prove highly inimical to the interests of finance itself. When most of the home owning voters cannot pay their major debt or have no incentive to pay their mortgage debt, there will either be a debtors revolt that society will sanction or there will be a bailout of such a magnitude that mega moral hazard will affect private lending forever. Once these things happen, you will no longer have the social rules for private risk based lending. In other words, financial markets will be unlike anything ever seen before in private economies. Is this really what Wall Street wants, let alone American society as a whole?
Both FDR and JFK had a brain trust that could help forge public opinion. Obama has his halo, Geithner, and Summers. We've known from the start that was a misstep.
In the meantime, beyond automatic stabilizers, the door appears to be shutting to further active fiscal ease. I wonder if the stage is already being set for tax hikes, as rumors of a federal VAT (value added tax) have been floating around of late. Add this to rising commodity prices and interest rates, and the profile of any recovery may become increasingly in question, a la 1937-8. Add to that additional bank write-offs, further credit contraction and a minimalist welfare system which leaves nothing in the way of social cohesion, and the prospects for major social upheaval look dangerously likely. What is missing is a vision of a new growth path for the US. If a public backlash is to be marshalled to something more than retribution, that needs to come to the fore. Once you get beyond the pothole and school patching, what industries can be pushed forward through public seed capital or public private partnerships? The economist Hy Minsky pointed out a better way to solve both the liquidity and the income problem, while also providing full employment: by channeling government expenditure through an employer-of-last-resort program.
The current crisis could have been mitigated if increased household consumption had been financed through wage increases and if financial institutions had used their earnings to augment bank capital rather than employee bonuses.
The current system has failed because it was built on an incentive system that did just the opposite.
This piece was originally posted on New Deal 2.0
I'll tell you, they are now Wall Street Executives.
I would say that we need to violently revolt against the bankers, oil companies, Insurance companies, Defense Contractors yada yada yada... but if I did, the comment would be copied by the NSA, and I would never be allowed on any form of transportation again, IF I remained free at all.
By the way ... How do they justify their existence when their investments in foreign governments, real estate, and credit cards are so dreadful that they are constantly at the verge of bankruptcy or drag down those who invest in their paper? They should be broken up under the anti monopoly laws; the worst divisions should be failed; and the stock of all dispersed so that the sound parts will have a chance to prosper and save some of the investors. But with some concern for Moral Hazard, not to reward blind greed!
Enough is enough! If they would have given the people the money they gave to the banks, corporations and insurance companies, the people would have spent it and jump start the economy by either going out and buying cars, paying their mortgages, paying off their credit card debts or paying for the college education of their kids.
But no! Obama doesn't trust the people. He trusts the corrupt banks and AIG, GM and Bank of America, who took the billions and haven't invested a dime in the economy or the creation of jobs. They only increased their salaries and gave themselves bonusses. I've got an MBA in Finance, and I recognize corruption when I see it.
Wake up America, you are being taken to he cleaners!
I have no faith what so ever in Bush or McCain -- Who did after all, say Phil Gramm was the smartest man he knew. I think we have to ride out the storm with Obama and be grateful it is him in office and not McCain.
This is a radical point of view. I hope I'm wrong and things pick up more quickly.
Consider some of our Vice Presidents: Spiro Agnew, Dan Quayle, Richard Cheney, towering intellects all, paragons of rightuousness, products of a quest for excellence (?).
Those abiding Congressmen will sometimes act responsibly. No matter what you think of them, they tend to get very proud and have feelings of honor. When they act, they know how to be effective.
I'm ready for social upheaval to start. I'll cast the first stone, if someone will just point me to WHERE I cast it!!
I'm 58 years old, college grad (Electronic Engineering), owner of property and stock, with no hope of ever retiring. I currently have no insurance, am under employed at two part time positions, a daughter in second year of college, a son 23 who can't find work and I can't see a horizon that has any hope. I will be in the first row of either a emplyer-of-last-choice workforce...or of a street crowd tearing down the closest B of A...
Obama is becoming a major let down. Not enough of a radical difference to make ANY difference...so far. His worry over bipartisanship and moving forward, not looking back, are totally misguided. His unwillingness to punish those who've punished US is disheartening.
I would sure like to sleep through the night once again....
Governments are just as screwed and helpless as you are. Consider how many benefits go to children. The clearly fair thing is to tax children(?), NOT. We tax the parents. The grownups have to pay. Despite how children depend on their parents, their parents get the weight of government taxes and business charges (the same thing so far as we can tell). As Pres. Grover Cleveland declared, the government cannot be the support of the people, but the people must support the government.
So, what is to be done. The same as usual: put up with what you must, do what you can. Don't expect a lot either from government or private charity or business. Tough times are tough on them until they practically close down. Those people standing in long lines, looking for work: They will find it or make work for themselves well enough to finally save the rest of us schmucks.
I have no idea where you get that the parents of children get the brunt of taxes... The brunt of the tax burden is laid on Single, (or married filing separately) Middle income, Blue Collar, non-homeowning men and women.
I get really tired of the baby factories popping out deductions they cannot afford... I say impose a child tax!
All advances - the 40 hour week (remember that?) the Great Society, civil rights, have come from strikes or riots. We've always depended on the poor or nearly so to do our striking and rioting for us. It may be our turn now.
The easiest way to gather capitalist profits is by setting up a monopoly. The triumph of Paul O'Neil was putting the Aluminum Company of America into a worldwide cartel. Perhaps, there is no real or widely believed distinction, but capitalism is not free enterprise except by the loosest definition. Capitalism works with governments and special privilege. Carlos Slim is a capitalist after being given Mexico's telephone monopoly. He cut services and raised rates and became the wealthiest man in Mexico.
And capitalism has to have regulation. Allowing corporations to merge instead of competing leads eventually to fascism, the melding of the state with the corporate monopoly state. Most people don't realize that there are two governments in this country. One is the civil government and the other is the economic state. The economic state is in a battle to overcome or merge with, the civil government. And that is fascism. The idea of "too big to fail" is a sign that the process is well under way. The economic state is accountable only to "market forces". But, Adam Smith's "invisible hand" is invisible because it, like the tooth fairy, does not exist. That's fodder for the masses.
I do like Adam Smith. You ought to read Wealth of Nations. It is somewhat radical. Smith was more concerned about morality than economics and includes a strong condemnation of Mercantilism. Reflecting the conditions of his time, he assumes a propertied class, commercial or industrialist class and the third class, the workers. The commercial classes, used to making plans, tend to overwhelm the others with their logic so that Smith writes they have often successfully deceived the others and bettering their profits to the utmost is a sign of a nation going to perdition most swiftly.
Smith's invisible hand has a lot to do about intelligent regulation.
Only four phone companies in the world have more suscribers than Slim's various phone companies combined.
Slim is the New York Times third largest stockholder, and has parterned with Bill Clinton in the Clinton Foundation.
Telmex charges a fee for each phone call made after the first 100/month for residential lines (100% for business lines), including local calls, long distance (even when a different service provider is used) and toll free numbers, aside from the monthly rental fee. Telmex also charges connection fees for incoming calls, which is why it's cheaper to call Western European countries than Mexico from the USA.
A cousin of his was President of Banamex, Mexico's biggest bank, now owned by CitiGroup.
IOW, Business as Usual (with a little help from the government, who practically gave away Telmex), is the name of Slim's game.
Do you expect them to turn their backs on the sources of the funds their campaigns require to stay in office?
Obama broke that mold through an agile use of the world wide web (a medium owned by no one, thanks to Tim Berners-Lee), but needs to be reminded about where the source of his power came from.
What really happened to the US Dollar? Part 1
http://www.youtube.com/watch?v=DqgcJ35B42Y&feature=relatede
What really happened to the US Dollar? Part 1 of 2
http://www.youtube.com/watch?v=FcmFUHNCJJY&feature=related
starting in 2002 told that committee under Franks that we were headed for trouble with Freddie Mac and Fannie Mae. Franks said why would you mess with something working so well and told the press all was just fine. Now Franks says that not everyone needs to buy a house, some people should just rent. Another comment made today is right too,
The smaller banks didn't loan money to people who couldn't pay for a house and they are still strong and growing-mine has had no problems. This Geithner, Bernake, Obama mess is the worst thing I've ever seen. It's coming, folks-in about 2 years, there will be very little anyone can do without gov. approval.
Obama was left with a terrible choice of letting these institutions fail and the worldwide depression it would cause or flooding the market with cash to minimize the effect of an over leveraged economy.. I'm hoping he succeeds and the banks and brokerage firms are tightly regulated.
mortgages as derivatives, catapaulting havoc in our financial industry.
WHY did we bail out AIG? We paid off AIG's coverage of bets to foreign banks. WHY?
What systemic risk was there? A democratic senator from WA state asked Geithner
that question months ago. I have yet to hear his response.
So we need to break up these institutions and apply high interest on the loans we gave them.
Penalize them heavily if they can't pay them them back. Its necessary and doable.
We are the tax paying bailout funding citizens, we must do to them what they've done to us. Over 30 years of regressive economics they've raised us to a high debt status without raising our income status.
Then we elect people who represent us by placing term limits on every office in the country, including the Supreme Court.
How cliche of Summers to rankle us with his high and mighty euphemisms as if we'll shrivel
under his towering wisdom. He's a goddam walking poster child for big banks and of course he's going to patronize any break up talk. He's so smug he's grown three chins looking down on US. He's made fortunes many times over and he doesn't give a damn what he says to us= de facto king of treasury and country. But he's a bum when it comes down to it. Anybody that rich, that powerful got that way
because he thinks his word is God. F*** him and the others.
Except term limits. Better to nominate and elect good candidates, then keep them. It this is naive, how much more naive to think inexperienced unknowns will solve all your problems.
Also: consider whether Geithner et al. aren't "misguided", but rather that they are in truth doing pretty much what they want to do.
As for Democracy it just lets the wolves run wild amongst the sheep. That is why big business loves it so much. They can own and control any democratically elected government through bribing it to death.
Stiglitz makes a similar point about IMF and World Bank bailouts in his "Globalization..." That things are as they appear to be is a basis of Einstein's Theory of Relativity. He decided that research into the nature of light was real and certain mathematical logics followed from that. Supposing that things are as they appear to be leads us to conclusions both unpleasant and more reassuring. We don't share all of the interests of our masters, but isn't nice to know they aren't necessarily the most stupid possible people?