There’s a fascinating heavyweight fight going on when it comes to writing what you might consider the official narrative of the financial crisis. The White House released its own 49-page report this morning, talking in glowing terms of the successes that the Obama Administration has made on the financial-reform front. Meanwhile, this week’s issue of Time magazine takes the opposite tack in a tough cover story by Rana Foroohar, headlined “How Wall Street Won”.
The interesting thing about this fight is that it has actually been engaged: Treasury responded to Foroohar on its website, and she of course replied to them. (If the first link to her cover story steers you into a paywall, then try going from her blog post: that might work.)
It’s also worth noting Foroohar’s “to be sure” sentence, in her introduction: “The truth is,” she writes, “Washington did a great job saving the banking system in ’08 and ’09 with swift bailouts that averted even worse damage to the economy.” She’s right about that — but neither side of the debate dwells for long on that fact, partly because most of the emergency actions which saved the banking system were put in place by the George W Bush administration, rather than the current lot.
If you think of the economy as a ship, then what the Obama administration inherited was a crippled vessel, still afloat, but badly damaged from a serious fire in the boiler room. It had fallen to the Bush administration to actually put out the fire, which they did. And so the Obama administration set to work trying to fix the ship, with things like the original stimulus package. And they also had to fix up the damaged boiler room, and ensure that it would never again explode in such a devastating manner. That was the job of Dodd-Frank, as well as Basel III.
Foroohar’s point is pretty simple. The US economy is far from ship-shape right now — just look at the unemployment rate, or the employment-to-population ratio, or the median wage, or any other measure of how the broad mass of Americans is faring. The 2009 stimulus might have done a bit of good at the margin, but here we are, five years after the crisis, and the Federal Reserve still feels the need to pump $85 billion a month into the economy in its latest round of QE, on the grounds that interest rates are at zero and can’t be lowered any further. The economy, in other words, finds it hard to stay afloat without artificial aid.
And then, when you go down into the boiler room, it has been patched up here and there, and people are still working on some of the more damaged areas — but if you look at the whole thing, it’s not exactly explosion-proof. Sure, it’s safer than it was in 2007, but that’s not saying very much. And when people like Gary Gensler try to come in and add some crucial regulators to highly dangerous parts of the system, they get stymied — by none other than Treasury itself!
Treasury’s take, by contrast, is more granular. Look at TARP — it made money! Look at the stress tests — they worked! Look at the first derivatives on measures like house prices, credit flows, and total household wealth — they’re positive!
Neither take tells the whole truth, although the Obama administration is probably the more disingenuous of the two: “as a matter of law,” writes Treasury’s Anthony Coley, “Dodd-Frank ended the notion that any firm is ‘too big to fail.’” Er, no, it didn’t. Lots of us still have the notion that there are dozens of firms which are too big to fail — and other entities, too, like the state of California. It might be less likely, now, that any given firm will fail. What’s more, if and when a big firm does fail, there’s now a semblance of a procedure to follow, which — if everything goes according to plan — might even involve zero federal dollars. But still, too big to fail is too big to fail, and ultimately, if push comes to shove, the implicit government backstop is still there.
The thing is, the TBTF problem is endemic to modern finance — there was no realistic way that the Obama administration or any other government could ever stop it from being the case. In theory, we could have let the entire boiler room melt down, to the point at which it could no longer inflict any more damage. That’s what Michael Lewis thinks we should have done: “I don’t feel, oh, how sad that Lehman went down,” he says. “I feel, how sad that Goldman Sachs and Morgan Stanley didn’t follow. I would’ve liked to have seen the crisis play itself out more.” But if that had happened, the whole ship would have sunk — and would have taken the entire global economy down with it. Yes, there’s moral hazard in bailing out banks. But the time to deal with moral hazard is before the crisis hits. Once the boiler room is ablaze, the first job of the stewards of the ship is, always, to put out the fire. Even if — especially if — that means protecting parts of the system which are inherently dangerous.
Ultimately, I think that both the White House and Foroohar are far too invested in a narrative where the government is in control, and can effectively determine the state of not only the US financial system but also the entire US economy as a whole. When in fact, of course, it can’t even nominate its preferred candidate to become the chairman of the Federal Reserve. The Obama administration could have done better, both in terms of bank regulation and in terms of broader macro policy. But it was operating within real constraints, both nationally and internationally. And the prospect of fireproofing the engine room so that no crisis would ever happen again — well, that was always impossible, for any government, in any country bigger than, say, Bhutan.
Overall, if Treasury is giving itself an A for its post-crisis actions, and Foroohar is handing out a C, then I’d duck the question and point to the bigger truth — that the quality of Treasury’s actions is not nearly as consequential as most people think. We live in a path-dependent liberal democracy, and the older our democracy gets, the more entrenched it becomes, and the harder it is to change anything truly fundamental. Treasury’s tinkering was, at the margin, a positive force, and I’m glad they did what they did, even as I wish they had done more. But I don’t kid myself that if they had done more, it would have made all that much of a difference. Or, for that matter, that if they had done less, things would have been noticeably worse than they are right now.