As a matter of public relations, no one has ever gone wrong blaming financial disasters on “greed.” But we all know that greed is the basic engine of capitalism. Greed may not be “good,” but it’s there, and we rely on it to power our modern economy. So the problem isn’t greed: greed, like the poor, will always be with us. The key to a thriving capitalist economy is channeling that greed in productive directions.
(That channeling, by the way, is called regulation.)
So when Alan Greenspan argues that the current meltdown is due to “greed” (Taking Hard New Look at a Greenspan Legacy, NYT), warning bells should go off that this guy is trying to get himself off the hook.
The whole point of regulating markets is to manage systemically what we cannot count individuals to do wisely. Mr. Greenspan is no fool. He knows that, and he knew it at the time when he was unscrewing the safety latches that prevented Wall Street from venting all that red-hot greed into the unprotected sectors of our economy. And in deregulating exotic derivatives, he stood by while Wall Street created a risk-laundering scheme of epic proportions.
Conservative think-tank dead-enders keep insisting that the blame for the market and financial crisis lays at the feet of do-gooder efforts at Fannie Mae and Freddie Mac, all the way back to the Community Reinvestment Act of 1977, to help more Americans buy homes. I have never believed in the virtue of home ownership. But the facts simply don’t support the conspiracy theory, no matter how good it might feel to blame poor people for all of our woes.
If the CRA were the main cause of this crisis, we would have a bad, but manageable, collapse of one sector of the economy. An important and big one, yes, but not the entire banking system and everything around it. The real culprit lies with Wall Street’s numerous financial “innovations” over the past decade. We are in crisis not because of some bad loans, but because those bad loans (a) were sliced into so many little pieces that to find them all would be like picking out molecules of poison from a reservoir; and (b) they were leveraged so hard, so far beyond their reasonable limits, that small disruptions would cause enormous calamities.
It is as if an entire skyscraper were built on the foundation of a single matchstick. And the matchstick has burned.
I am waiting for a responsible investigative team to tell us the real story of this meltdown: how Wall Street laundered risk through a combination of opaque derivative products and sweetheart bond ratings to turn lead into gold. The story works quite a bit like disposing of stolen goods: first you need a way to disguise your source, then you need a fence willing to “certify” them as legit. The main difference is that the criminals in this story used fancy mathematics, not slim jims, to execute this massive heist.
Total economic meltdown sure is confusing, isn’t it?
So where to turn for helpful information? Well, the sense I’m getting is: while many experts know and agree on what’s happening (collapse of mortgages and mortgage-backed derivatives, collapse of other lines of credit, credit crunch across the board), we are in uncharted territory as far as what happens next and the consequences for our national and global economies. Here are some links to articles that might be helpful based on looking around quite a bit:
- Post today by Dean Baker in TPM : “The main cause of the economy’s weakness is not insolvent banks and lack of credit; it’s the loss of $4 trillion to $5 trillion in housing equity as a result of the bubble’s partial deflation. Families used their equity to support their consumption in the years from 2002 to 2007, as the savings rate fell to almost zero. With much of this equity now eliminated by the collapse of the bubble, many families can no longer sustain their levels of consumption. The main reason that banks won’t lend to these families is that they no longer have home equity to serve as collateral. It wouldn’t matter how much money the banks had, they are not going to make mortgage loans to people who have no equity.”
- Paul Krugman — particularly Crisis Endgame (“This flight to safety has cut off credit to many businesses, including major players in the financial industry — and that, in turn, is setting us up for more big failures and further panic. It’s also depressing business spending, a bad thing as signs gather that the economic slump is deepening.”).
- Pretty serious macroeconomic analysis from Brad DeLong, concluding, “there is now no time for tolerance of the three objections to this analysis and this plan of action, roughly: (1) it’s immoral, (2) it’s unfair, and (3) it can’t work in the long run.”
- RGE Monitor — Financial intelligence company with limited free membership during this crisis. My friend Jarrett highly recommends Nouriel Roubini’s Global EconoMonitor, e.g.
There’s much more out there, but my own conclusions, in trying to keep things simple in my own head, are that (a) we have been in a bubble since the close of the Clinton years; (b) Greenspan refused to pop the bubble, instead superinflating it; (c) exotic new financial products multiplied the force of the bubble many times greater than normal; (d) the final popping of the bubble will have real and psychological effects that will crash the economy to below where it “really” is right now.
There’s nothing that policy and leadership can do, now, about (a)-(c). We can only hope that wise leadership will steer us away from (d) if at all possible…
A few days ago I discussed how Treasury Secretary Paulson came to the negotiation with an extreme, highly “anchored” opening move, and how negotiations research shows that anchoring works. Why, then, don’t we always use absurd opening moves when engaging in a negotiation over used cars or other purchases? The answer is that the party making the offer can lose credibility with or respect of the other party, and the chances of reaching an agreement can go down. That’s precisely what happened when the House rejected Paulson’s plan — even as modified — on Sunday.
By including unacceptable terms — most notably, non-reviewability — Paulson et.al. were perceived as overreaching. Even though the Administration quickly gave up those terms, the mistrust was already sown, especially because the proposal echoed the earlier “trust me” terms of the Iraq war authorization.
Maintaining a strong working relationship with the other party in a negotiation is critical to successful outcomes for both parties. In this case, by playing chicken with Congress, the Administration may have precipitated the worst outcome for both sides: failure to reach an agreement. Let’s hope our economy can survive the results.
Update: More (and better) analysis of this situation from a negotiations POV from my friend and colleague, Erin Ryan, at the Harvard Negotiation Law Review Blog.