The good things about Larry Summers

By Felix Salmon
October 5, 2009
Ryan Lizza piece on Larry Summers is long -- over 11,500 words. And even then it manages to say absolutely nothing about some key issues, such as the $5.2 million he was paid by DE Shaw to work one day a week in 2008; neither does it talk at all about the allegations of Summers actively working to marginalize the influence of Paul Volcker. But Lizza does get Summers to admit to mistakes during his tenure at Treasury, at least as regards the subject of derivatives:

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Yikes the Ryan Lizza piece on Larry Summers is long — over 11,500 words. And even then it manages to say absolutely nothing about some key issues, such as the $5.2 million he was paid by DE Shaw to work one day a week in 2008; or the allegations of Summers actively working to marginalize the influence of Paul Volcker; or l’affaire Shleifer. But Lizza does get Summers to admit to mistakes during his tenure at Treasury, at least as regards the subject of derivatives:

In Rubin’s memoir, “In an Uncertain World: Tough Choices from Wall Street to Washington,” he describes the debate that he and Summers had over the issue. “Larry thought I was overly concerned with the risks of derivatives,” Rubin writes. “His argument was characteristic of many students of markets, who argue that derivatives serve an important purpose in allocating risk by letting each person take as much of whatever kind of risk he wants. Larry’s position held together under normal circumstances but seemed to me not to take into account what might happen under extraordinary circumstances.” Summers told me, “If we had known that derivatives markets would mushroom the way they did and that regulators would remain spectators, we would have acted. With hindsight, all of us with involvement in financial policy wish we had done more to forestall problems.”

This is a good find from Rubin’s book — which was written, remember, in 2002, many years before the CDS exposure at AIG Financial Products threatened to bring down the entire global financial architecture. And although it’s now pretty clear that Summers’s deregulatory impulses as Treasury secretary had pretty gruesome consequences, it still reflects well on Summers — a man of no small ego — that he is willing to admit as much.

Lizza also provides a lot of detail on Obama’s decision not to nationalize the banks:

On March 31st, Summers sent the President a page-and-a-half memo outlining the reasoning behind the decision not to nationalize any banks. Obama was on his way to the G-20 meeting in London, and he wanted to be prepared with the best case against it.

The memo was divided into four sections. First, Summers explained that there was no legal authority to take over large bank-holding companies like Bank of America and Citigroup. Next, he pointed out that full nationalization of a financial institution might trigger systemic shocks, as investors retreated from other banks, creating exactly the kind of panic that nationalization was intended to prevent. (As Sperling often argued, “You might come out and say, ‘I’m gonna take over Bank of America and Wells Fargo, but everybody else is safe!’ Maybe they believe you. And maybe they don’t. But if you get this wrong the Dow’s at thirty-five hundred! You’re the worst economic manager in the history of the United States!”)

Furthermore, Summers said, there was a medium-term risk that nationalized banks would lose value, in the same way that the act of foreclosure decreases the value of a home. Summers pointed to the example of Sweden, which was regularly cited by economists who favored nationalization. But Summers noted that Sweden didn’t nationalize for two and a half years, by which time the situation had become so severe—interest rates had reached a hundred per cent—that there were no other options. In addition, Nordbanken, the largest bank nationalized in Sweden, was already eighty per cent government-owned. Summers concluded by emphasizing that nationalization was a strategy that governments turn to only after it is very clear that nothing else can work.

In hindsight, Summers was right and those urging nationalization were wrong. (Which group includes Paul Krugman and Nouriel Roubini, as well as me.) What I’m particularly happy about is that the debate took place, in a lot of detail, within the White House, between people who had no ideological axe to grind and who were intent on working out the objectively right thing to do, given the uncertainty surrounding the banking system and the economy.

I can see why Summers’s memo could not have been leaked at the time — the worst possible outcome would have been to reveal that the nationalization option was being seriously debated at the White House, sending markets into a tailspin which then would have gotten even worse when the government revealed that it wasn’t going to nationalize after all. But in hindsight, Summers seems to have made some very strong arguments.

Lizza’s article concludes with this:

So far, none of the worst fears of those who believed that the stimulus was too small or that nationalization was the only option or that taking over car companies would destroy the fabric of capitalism have materialized. Indeed, several private forecasters have credited the stimulus with blunting the impact of the recession—it probably added around three points to the G.D.P. last quarter—and the banking system has dramatically stabilized since the stress tests were completed.

This doesn’t mean that all these decisions were necessarily exactly right. But in politics, the quality of the implementation is often at least as important as the quality of the original decision. And the way that the Obama administration has spent its $787 billion, or avoided nationalizing the banks, or bailed out the auto industry, has been extremely professional and effective.

Indeed, in homage to the great dsquared, I’ll ask a question: can anybody give me an example of something with the following three characteristics:

  1. It is a policy initiative of the current Obama administration
  2. It was significant enough in scale that I’d have heard of it (at a pinch, that I should have heard of it)
  3. It wasn’t fundamentally extremely well-managed during the execution.

The point here is that policy initiatives are sometimes good and sometimes bad. We all disagree with some of the Obama administration’s decisions, like for instance the tariffs on Chinese tires. But once that decision was made, it was handled very well, and seems to have had very little in the way of negative knock-on consequences. Similarly, after the PPIP was announced with great fanfare, it was allowed to get scaled back to a tiny fraction of its original size and ambition once it became clear that it was neither particularly useful nor particularly popular.

I don’t know how much credit can be given to Summers for this one; I personally would be inclined to give most of the credit to Obama himself. But Summers has clearly settled into a very important role in this administration, and I can see how his ingrained contrarianism and skepticism might be very good at keeping everybody else that much more intellectually honest and well-prepared.

Update: Dean Baker is unimpressed.

Update 2: The consensus of the commenters seems to be that Afghanistan and pushing healthcare reform through Congress both meet my criteria. I also like Carol Shannon’s nomination of Cash-for-Clunkers.


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Felix – does poor execution of the *pursuit* of the policy initiative count, or just execution of the policy itself?

What about bungled mishandling of the legislative process that prevents a desired policy initiative that would have, of course, been extremely well-managed? If “never had the chance to win” is your own fault, isn’t that a loss?

Because on that, the current administration has been horrible. (see this week’s SNL opening skit)

What Summers bought is time. People frequently confuse a decision with an outcome, though it’s human nature to judge the decision by the outcome. Given what they know at the time, they probably managed the risk as well as anyone can do. It is unrealistic to expect these people to “do the right thing” (i.e. nationalize) given the perceived risk (at the time) of vaporizing the whole financial system.

if the financial system ended up vaporized anyway over the next year or 10, history will still judge this crew (including Summers and Geithner) harshly.

Posted by Michael Fang | Report as abusive

Summers has vast experience and intellect. Few would argue that. If he can demonstrate rationality and sense over ideology, that he works for nation and people instead of only the finance sector, and check his ego, his legacy will be honored.

Posted by The Real Deal | Report as abusive

Does the boondoggle in Afghanistan count? They’ve increased troop presence several times and the whole place is on the verge of chaos with more troops dying every day.

Posted by Gregor | Report as abusive

Agree with Michael Fang with the added caveat anything you do at 0% interest rates seems to work (ie. time is a bad thing if 2009 is your cheapest shot at splurging). I’d gladly swap bank market cap correction to ensure no more rewarded idiot execs unleash no more rewarded global recessions/stagflation.
I’m niave but I don’t see how protecting market caps and bond portfolios help increase non-financial loan activities. To me those with bank bond portfolios aren’t going to hire anyone whereas a Nationalized State Bank would’ve done nothing but hire people and increase State/Municipal credit ratings given States don’t fund Ratings Agencies.
Time will tell whether panic or structural overcapitalization of finance was bigger risk. To me finance industry that earns around 10-20% of corporate profits seems optimal, not 40%.

Posted by Phillip Huggan | Report as abusive

Guess I’m saying when derivatives outstanding go to 10x global GDP, a bank market cap correction is a good thing, problem is structural not investor confidence. It is troubling to me this metric is probably already on course to be breached before any watered down reforms and no discount is given as to the effects on psychology of yet another banking bailout. All my advice is basically different ways of saying: maybe don’t keep giving so much money to rich people if they keep mismanaging it, give the middle and poor classes a shot. To me the Nationalization option would’ve been just that and after seeing States cut so many teachers I’d've now suggested (I assume along with many voices about what to do with commie banks) giving them to States to help States raise capital. Is better than re-entering deriviatives casino for sure, pretty much anything is better than bonuses for gambling.

I put $2 on Rams tonight. Someone give me my money back from public purse!!

Posted by Phillip Huggan | Report as abusive

The stimulus: The country is a truck driver that’s just guzzled one energy drink after another as he attempts to drive straight through from one coast to the other.


11,500 words. Fantastic… now Prof. DeLong is going to be typing away on his couch for an entire day to top this.


Yes, D.E. Shaw. Summers is mildly interesting. D.E. Shaw? Let’s have a nice fat article about that fellow and his overactive computers. (Bonus: does he still hang out with Jeff Bezos?)

And speaking of mechanical turks, how about Summers’ association with Prof. Roubini and the RGE Monitor. Who actually pays all those RGE “analysts”?

“In hindsight, Summers was right and those urging nationalization were wrong.”

Really ? How did you come to that conclusion? As far as I can see, the “saved” banks are retreating on lending to SME and retail, stuffing their balance sheet with safe bonds (mainly govies) and recapitalizing themselves by taking advantage of the steepness of the yield curve. This has enormous opportunity costs for the taxpayer (these long bonds coupons will have to be paid one day…), depresses the “Real” economy, and is as close to “free lunch” for the banks than anything. The government, and the taxpayers, bear the burden of banking sector losses and get nothing in return. A nationalization has the same risks, but enjoys the potential upside.

The current situation is more a failure than a success.

Posted by charles | Report as abusive

>>In hindsight, Summers was right and those urging nationalization were wrong.>>

Please explain you reasons for this statement.

Posted by foosion | Report as abusive

“What I’m particularly happy about is that the debate took place, in a lot of detail, within the White House, between people who had no ideological axe to grind and who were intent on working out the objectively right thing to do, given the uncertainty surrounding the banking system and the economy.”

Are you trying to say that Summers isn’t ideological?
Geithner? Bernanke?

“1. It is a policy initiative of the current Obama administration
2. It was significant enough in scale that I’d have heard of it (at a pinch, that I should have heard of it)
3. It wasn’t fundamentally extremely well-managed during the execution. ”

Healthcare reform. Assuming, of course, that the goal is healthcare reform, and not a sequel to Medicare, Part D – bigger, worse and more profitable for the insurance companies.

Posted by Barry | Report as abusive

Bush has set the bar so low, that now when the government doesn’t totally screw up, we give out high grades. Yes, it’s great the financial system didn’t disintegrate, but that feat could have been accomplished more efficiently. Too many executives who performed horribly still have jobs, and the compensation system for financial companies doesn’t reflect the fact that earnings of companies in this industry, and therefore the bonuses of their employees, have been greatly subsidized by government funding and guarantees.

So if your kitchen was on fire and the Bush fire department’s response was to let it burn it self out, and the Obama FD decided to flood the entire house to put the fire out, you would might say that at least it didn’t burn down, and congratulate the Obama team for not burning the whole house down. But you know there could have been a better way to stop the fire without having to call those over-priced, labor exploiting vultures from service master to clean up the flood damage.

Posted by KenG | Report as abusive

“So if your kitchen was on fire…”

Nicely put, but we’d better think about identifying the arsonist more clearly too.

Uncle Billy, I don’t think there were arsonists, just a bunch of kids playing with matches while the alleged adults were so busy eating that they didn’t notice what the kids were doing. Although I guess some of the adults believed the kids would act in their best interest and not start a fire, and other adults just thought any fire that got started would be put out by another fire. You know, the magic of the kitchen. But it’s all good now, we’re going to get a brand new house, and the grandkids will pay for it.

Posted by KenG | Report as abusive

KenG: After looking at Jamie Dimon’s smirk while being interviewed by Charlie Rose, as he says [approximately] “Buying a house and and buying a house on fire are not the same thing,” I am a very difficult person to convince of this.

After seeing Madoff go to prison without giving up his bosses… I am a very difficult person to convince.

After seeing the level of capture of the financial world on both the national and global level, blah blah blah…

After seeing who sustains the NBER, CEPR, CEP, NSF, etc, blah, blah, blah…

After looking into the Bank for International Settlements, World Bank, IMF, Import-Export Bank, etc., blah blah blah..

After watching people attend the Milken Conference year after year to honor Milken the philanthropist, blah, blah blah…

After finding out just how people like Warren Buffett and George Soros make their money, bbb…

After looking at the Boards of NYU and Columbia, and the like, blah, blah blah…

After finding out that the same people who are most prominent econ/financial bloggers on the web are often the same people who orchestrated the privatisations in Russia, blah blah blah.

After finding out what a number of economists and Swedish Bank Nobel winners did for a living while in academia, and who they did business with afterwards, bbb…

After realizing the extent to which the people who own the largest media outlets and monopolize the econ blogosphere are associated with the financial world, bbb….

The kids were given enough rope to hang themselves; the matches were left for the kids knowing they would start fires after plenty of accelerant was sprinkled around.

If you don’t know this by now, you haven’t been paying attention.


“Uncle Billy” & “Pelerin”
“Uncle Billy” & “Cunctator”
“Uncle Billy” & “Mental Widget”
“Uncle Billy” & “Mental Gidget”

going back over the past 4 years. Gather up all the posts, print, and you’ll have a sprawling indictment that only begins to get at the whole megillah.

“does the pursuit of policy count, like healthcare?”

It shouldn’t if we’re asking the parallel question we asked about Bush. Bush was very effective at getting a number of his policies past. Tax cut, NCLB, and the Iraq War all involved fairly impressive political skill in gaining support.

I’m an Obamaphile an I dearly love your blog and your analysis, but there’s such an obvious example of biffed Obama policy that my jaw drops when I read your three criteria: Obama intervened heavy-handedly to switch out generals in Afghanistan to put a guy who did COIN in, committed 17K more troops, went around the world telling other people to put in more troops — and months after doing all that hasn’t so much as settled on his war aims. I mean, c’mon!

I’d say he’s also been in poor control of healthcare policy rollout.

Posted by Sanjay | Report as abusive

If you are looking for bad policy, poorly executed, you can start with the Cash for Clunkers debacle.

Posted by Carol SHANNON | Report as abusive

For those who are saying Obama is not in control of getting his plans implemented (e.g., health care, the stimulus package), or that Bush did a better job (@Kyle), keep in mind that Bush had Tom DeLay to strong-arm his own party into doing whatever the Bush/Rove/Cheney machine wanted. There is nobody as sleazy in the Democratic party to get Obama’s platform accepted by everyone in his own party. There is no hammer, just a bunch of congressmen who think that because they got 100,000 votes that their lobbyists know what’s best for the nation.

Posted by KenG | Report as abusive

There’s also the closing of Gitmo, which was probably the most high-profile policy rollout.

Posted by Sanjay | Report as abusive

Cash for Clunkers worked: addressed externalities, got people buying, is a large part of the positive GDP all y’all are talking about for Q3.

It was, as with most ObamaNation initiatives, poorly discussed. (For someone who is a “leader,” BarryO has been drug around by the likes of Max Baucus and Joe Liarman.)

That said, the “first” stimulus is a concrete example of Failed Obama Policy–of which he himself admitted (and John Emerson noted on this blog) that he “started with his ultimate compromise” and got whittled down from there.