Nathan Scandella (personal)

Here We Go Again

So, we now know that Larry Summers and Tim Geithner will indeed be Obama's leading economic advisers. Wow. That's not exactly the change I was looking for. These guys are poster-boys for the financial elite who've been running our economy down for the last twenty years. They are the problem, and now we expect them to be able to deliver the solution?

Both Summers and Geithner have shown themselves to be pro-deregulation. Geithner was also interviewed about the Bear Stearns collapse last year (in Congress) and said "I don't think anyone understands it yet." Well, Tim, maybe you weren't lying after all. You seem to keep company with some pretty big idiots. I know for a fact that you have not made my acquaintence. If you had, then you could indeed say that you knew someone who does understand [why Bear Stearns collapsed].

The regulators and central bankers (that's you, Tim) allowed investment banks to exist without the same reserve requirements that traditional banks have. Those requirements specify that a certain percentage of the banks' liabilities be held back as cash, or on deposit with the Federal Reserve. These kinds of reserves are as rock solid as you can get, although I would still contend that all banks get away with keeping reserves too low for the system to be as stable as it needs to be. But, investment banks didn't have to keep cash or Fed deposits. They could keep assets whose price can vary wildly as their capital cushion. In Bear Stearns' case, lots of those assets involved securities tied to mortgage loans, which were starting to default at ever increasing rates. Normally, default and foreclosure still nets the bank a new house. In this case, though, foreclosures are flooding the market and making each subsequent default less valuable for the banks (or holders of the mortgage-backed securities). Without lenders having collected significant down payments, these defaults are costing lots of money.

Keeping these kinds of assets as a way to prop up tons of borrowing is bogus. If the market price of your assets drops, then all of a sudden you may not have enough to be "well capitalized" per the loose government requirements. If investors get nervous, and ask for their money back, you may even have to sell these dwindling assets. If you have to sell a lot of them at once, and you are a big bank (as they all were in this mess), then by dumping lots of the assets on the market at once, the market price of your assets will drop even further. It's vicious cycle, and a perfect example of why a large bank cannot be allowed to keep volatile assets as their capital base.

Then, you add in the factor that our entire economy is a massive confidence scheme. If a few investors get spooked because everyone hears that the housing bubble is due to burst (leading to more defaults on mortgages), then people may start pulling out money in droves. The idea that even a 10% capital ratio is enough to weather a mild storm of negative rumors, and short-selling, was obviously incorrect. If you're going to allow the system to be propped up by the flimsy foundation of peoples' confidences, then you'd better build a bigger safety factor into the system.

You see, Tim, it's not that complicated.

We need someone who can see the forest through the trees here. Not someone who's been burning down the trees, and thinking that the burning will make the trees grow back faster. Our economy is broke. Lots of people see what the problem is, not just me. And yet, we're expecting the ones who got us into the mess to get us out? We didn't elect John McCain for exactly this reason. More of the same. I guess Obama didn't get the message. Maybe he thinks we just like him for his smile.

Finally, you have the issue of Geither's tax history. While it would be nice to think that most of our problems came from folks like Tim, who just didn't understand until too late, the fact is that much of this mess has been created out of deliberate greed, and fraud. We don't need someone who cheats on his taxes, and then gets promoted for it. The upside of the confidence scheme is that it doesn't always take money to restore confidence. Sometimes, it just takes showing people that the new leaders aren't corrupt. I have no doubts that Henry Paulson and Ben Bernanke are theives. I only hope Tim Geithner is not.

Posted at 01:42AM Jan 28, 2009 by Nathan in Economics  |  Comments[0]