The Looting of America:
Let us now Praise Financial Luddism
From Ben Bernanke, April 17, 2009:
The concept of financial innovation, it seems, has fallen on hard times. Subprime mortgage loans, credit default swaps, structured investment vehicles, and other more-recently developed financial products have become emblematic of our present financial crisis. Indeed, innovation, once held up as the solution, is now more often than not perceived as the problem. I think that perception goes too far, and innovation, at its best, has been and will continue to be a tool for making our financial system more efficient and more inclusive. But, as we have seen only too clearly during the past two years, innovation that is inappropriately implemented can be positively harmful. In short, it would be unwise to try to stop financial innovation, but we must be more alert to its risks and the need to manage those risks properly.
What more has to happen before our policy leaders admit that "financial innovation" is precisely what crashed the global economic system? Bernanke is not the only one in denial. Just about everyone elected leader and government official assumes that "financial innovation" is a good thing and that we must be careful not to mess with it. If you listen carefully, no politician will offer any reforms or regulations without first uttering the catechism, "Thou shalt not inhibit financial innovation." In fact, they call it "financial engineering," so that we might view it more akin to the micro-electronics industry. Hogwash.
Financial engineering is not about creating great new products and processes for the benefit of our economy. Rather, it's exactly like creating new slots for Las Vegas. It's about high risk gambling. It's about creating complicated derivatives that hide risk while making enormous profits for the large banks and investment houses that create them. It's about financing astronomical compensation packages for Wall Street wizards.
The mother of all "innovations" is the synthetic collateralized debt obligation -- the unholy marriage of a credit default swap and a CDO. With this bright new toy, billions upon billion of dollars could be bet on risky debt without either party to the bet owning any piece of what was bet upon. (It's like a thousand people buying fire insurance on your house. You'd better sleep with a fire-extinguisher.) This "innovation" turned the securitization market into a vast game of fantasy finance, just like fantasy baseball but with lethal effects. Did you ever wonder how $300 billion of subprime mortgages multiplied into trillions of toxic assets? The synthetic CDOs allowed institutions and the wealthy to bet on the same risky assets, again and again...without owning them. So when the underlying debt went bad, it sunk layer after layer of synthetic CDOs and nearly sent us back to the Great Depression. That's some innovation.
Bernanke, who is considered a leading expert on the Great Depression, finished up his latest defense of financial innovation with "I don't think anyone wants to go back to the 1970s. Financial innovation has improved access to credit, reduced costs, and increased choice."
Well, I do -- at least when it comes to finance. We were better off before we deregulated Wall Street so that it could become the world's biggest casino. We were better off before the vast disparities of wealth hit our economy. (In fact the average non-supervisory worker's real wage was higher then than now.) We were better off before our economy became dependent on a vast fantasy financial sector. Luddites of the world, unite!
Les Leopold is the author of the upcoming book, The Looting of America: How Wall Street's Game of Fantasy Finance destroyed our Jobs, Pensions and Prosperity, and What We can do about it. (Chelsea Green Publishing, June 2, 2009)