Not till they’ve nothing left to lose?

March 4, 2010

Those calling for financial reform aren’t being upfront about its costs, making it impossible to achieve. This was again evident at the Roosevelt Institute’s otherwise very good conference at Time Warner Center yesterday.

First the good. The purpose of the gathering was to galvanize support for deeper reforms than lawmakers have proposed. Roosevelt’s Chief Economist Rob Johnson and his murderer’s row of thinkers — including Simon Johnson, Elizabeth Warren, Frank Partnoy, Rick Carnell, Josh Rosner and others — presented a very good white paper outlining how best to clean up the financial system. Other attendees were George Soros, Brooksley Born, Jim Chanos, Joe Stiglitz. Even Eliot Spitzer showed up.

When it comes to reform, they all argued, nibbling around the edges ain’t gonna cut it.

Banks need more capital, Fannie and Freddie need to be wound down, banks’ risky activities must be corralled, tax incentives that encourage borrowing must be done away with. Most importantly, perhaps, we need to end the cycle by which the financial system lends too much and too easily only to be bailed out by a compliant Fed when things go wrong.

Throughout there was much indignation as to why such sensible reforms haven’t been enacted. Wall Street’s lobby machine got most of the blame, the rest went to “the people” for their perceived lack of outrage. But of course people are mad, and though the lobby machine is strong, it’s not the real obstacle to reform.

We are.

We don’t really want it. More to the point, people care more about their jobs than they do about reform.

What the reforms in paragraph 4 all have in common is that they reduce the availability of debt finance. That’s smart because our chief economic problem is that we’ve too much of the stuff.

But said another way, the reforms reduce credit. Like a lot. And that means deep and prolonged recession. Crucially, it means higher unemployment.

Just for instance, try to imagine winding down Fannie and Freddie. Doing so means housing finance — all of it — goes away. The economic implications are so dire no one is even contemplating how to do it, even though all know it must be done.

Yet the most vocal supporters of financial reform, which should properly be called “lending reform,” also whine that banks and the government aren’t lending enough!

We can’t have it both ways.

Real reform means cutting lending, it means more jobs will be lost. And Americans aren’t yet willing to make that trade, no matter how mad they are about bailouts.

Today we got a new report out of CBO, which may kill the highly sensible bank tax proposed by the Obama administration with the following sentence:

The fee would probably lower the total supply of credit in the financial system to a slight degree. It would also probably slightly decrease the availability of credit for small businesses.

Despite the “slight” qualifier and comments elsewhere that the fee would help level the playing field for small banks, the loss of any credit whatsoever for “small businesses” is something Congress hasn’t been able to stomach.

——–

A reason we got substantive financial reform in the mid ’30s is that folks had nothing left to lose. Real output fell 30% peak to trough during the Great Depression.

During last year’s recession, output fell just 3%. If you compare debt levels today with those leading up to the Depression — and consider that de-leveraging is the proximate cause of the decline — we’ve much further to fall.

That’s not to suggest that reform isn’t necessary. It absolutely is. But it will cost jobs and output. The speakers at Roosevelt Institute’s conference did a disservice to their audience by not discussing these costs. Some even suggested the credit engine can magically be made to run at close to full speed even as it’s in the shop for repairs.

Luckily, Roosevelt is led by the very capable Johnson, who has no illusions about the costs of bank reform. He acknowledges that financial fixes will reduce lending and output, but speaks about the need to control the velocity of that decline.

The test of his leadership, and of Roosevelt’s relevance, will be whether they can convince America to put up with any decline at all. The last thing we want is a rerun of the Depression. A great set of banking rules came out of it, but only after the economy collapsed into a smoldering pile of rubble allowing us the freedom to start from scratch.

We want proactive, not reactive reform. But it won’t happen unless voters and Congress are convinced to prioritize it over credit creation and, yes, jobs.

Comments

What we need is 100% import taxes on goods from Asia to bring our jobs back.

Instead of making 100.000 Ipads in China, Apple would have to make them in Ohio !!!

Posted by MTLCAN | Report as abusive
 

The cake is a good analogy. We have eaten it so thoroughly that it is like an old piece of wood that termites have largely devoured, that appears to still be a log until you apply just a little pressure.

Short term trumps long term. Perhaps the environment can serve as a model. It was always said of any move to save a species that jobs would be lost and that ended the discussion. Gradually, that has changed as folks realize that million-year-old lifeforms, once gone, will not be back again and jobs are (certainly these days) inherently temporary. Seen only from paycheck to paycheck we could destroy the planet, who wants to take the hit personally to save it?

Your analysis is apropos of capitalism itself. Those property-less Indians and Chinese promise one heck of a short term (40 years?) future for consumption – then what?

Posted by Chicagoboy | Report as abusive
 

This casts the debate as a zero-sum game. Focusing on aggregate lending creates the illusion that it can only go up or down. But this is just a quirk of classical economics, the old “law of conservation”, as though an economy was a combustion engine. An intelligent debate would be more qualitative, about different kinds of investments. Its perfectly consistent for regulators to increase some kinds of lending and decrease others. The issue is about where capital should flow and where it shouldn’t, and how to set up a system so it flows the right way.

Posted by marketcosm | Report as abusive
 

Here is the solution….Kick the can down the road
Barack Obama gets a surprise visit in the night from ex-Presidents Bush Sr., Bush Jr., Clinton, Ford, Reagan and Carter to get a few pointers about the Consumer Financial Protection Agency and why it’s so important.VIDEO
http://FunnyOrDie.com/m/3oem

Posted by TCE | Report as abusive
 

Bravo for writing the following:

“Yet the most vocal supporters of financial reform, which should properly be called “lending reform,” also whine that banks and the government aren’t lending enough! But we can’t have it both ways.”

That’s not to suggest that reform isn’t absolutely necessary. But the speakers at Roosevelt Institute’s conference did a disservice to their audience by not discussing the costs. Some even suggested the credit engine can magically be made to run at close to full speed even as it’s in the shop for repairs.

With regard to the last paragraph, the public should always insists on a balanced analysis of any issue, when one espouses the benefits of a course of action, also tell us about the costs.

Posted by high_al | Report as abusive
 

Brits Pounded As Debts, Deficits Hit Home. Next Up: Us!

by Mike Larson 03-05-10
http://www.moneyandmarkets.com/brits-pou nded-as-debts-deficits-hit-home-next-up- us-4-38162

Boy are things getting ugly in the U.K. The British currency, the pound, is getting crushed. The price of long-term British debt securities, called gilts, is heading down. And the cost of default insurance on the country’s debt is rising steadily.

My takeaway: This is but a preview of what’s to come here in the U.S.

Why the Crisis Is Coming To a Head in the U.K.

Britain’s finances are in shambles. The country’s budget deficit is running at more than 12 percent of gross domestic product, roughly the same as in Greece. In fact, for the first time, the country recorded a whopping $6.7 billion deficit in January … much worse than the $3.9 billion SURPLUS economists were expecting.

The U.K. government is planning to sell $349 billion in debt this year, the most ever, to cover its deficit. But demand is flagging, with foreign investors dumping the most U.K. sovereign debt in nine months in January and yields generally rising.

Then a few days ago, the crisis came to a head. The catalyst: New polling data that threw the British political outlook into chaos. Polls showed that the Conservative Party’s lead over the Labour Party shrunk to its lowest level in more than two years.

It now appears that neither party could come out of spring elections with a clear majority, leaving the U.K. with a “hung” parliament. That would make it much more difficult for the government to reduce the nation’s debts and deficits.

With all of that, it’s no wonder …

* The British pound plunged six days in a row, its longest series of declines since October 2008.

* The yield on 10-year U.K. government debt recently hit 4.27 percent, compared with a low last fall of 3.44 percent.

* The cost of protecting against a British debt default in the credit default swap market surged to more than 101 basis points, or $101,000 per $10 million of debt. That’s up from around 44 bps in the fall.

Striking Similarities …

You don’t need a Ph.D. in economics to see the striking similarities between the situation in the U.K. and the situation here in the U.S. …

* Our debt situation is totally out of control, with the national debt on track to double over the next decade to almost $19 trillion.

* Our budget picture is a mess, with $8.5 trillion in deficits projected over the next 10 years.

* Our foreign creditors are starting to sell our bonds, with China alone dumping $34.2 billion of Treasuries in December, the most ever.

And politically, we’re facing the same gridlock and inaction as the U.K. Just look at the deficit commission nonsense …

“The sovereign debt crisis is subprime all over again.” — Bill Gross, manager of the world’s largest mutual fund.

President Obama had to create an 18-member panel by executive order because Congress voted down an earlier proposal. Since it’s a presidential commission, Congress can just ignore any findings. And those findings won’t even be released until December 1, for purely political reasons (that’s after the mid-term Congressional elections).

Lastly, just like the U.K., we have bailed out, backstopped, or otherwise taken over so many institutions and segments of the capital markets that our own balance sheet is getting shakier and shakier.

As PIMCO Chief Investment Officer and “bond guru” Bill Gross just noted in a monthly commentary:

“If core sovereigns such as the U.S., Germany, U.K., and Japan ‘absorb’ more and more credit risk, then the credit spreads and yields of these sovereigns should look more and more like the markets that they guarantee. The Kings, in other words, in the process of increasingly shedding their clothes, begin to look more and more like their subjects. Kings and serfs begin to share the same castle.”

Bottom line: We’re running this country’s finances off the rails. And just like in Greece … Ireland … Spain … and now the U.K., it’s going to come back to haunt us.

Posted by MTLCAN | Report as abusive
 

Too much of the economy requires financing to complete transactions. That is why the financial sector got so large, to the point where it became the main profit center for the economy. GM was a side business for GMAC, or really, and it’s not much of a stretch to say, that the whole company was a bank that happened also to make cars.

It’s easy to say that “we need to start making things again in this country” – we do. But the problem is much worse. Making things just isn’t that profitable, and and even less so (or even impossibly so) when they are no buyers who can afford the product.

I just bought an HP printer/scanner/fax for $99. It’s not the quality machine that was $5-10k a few years ago, but it costs only 1/5 of the monthly lease payment for that “better” product and fully meets my needs. It costs even less than the monthly maintenance contract of my old office machine. While this is apples-to-oranges, they’re both fruits, and I wouldn’t be betting long on document imaging products, or manufacturing iPads to be a savior for Ohio.

Does anybody know how many jobs there are in a factory making these things? I suspect not many, even in China. And fewer still when the next version of this thing is $79.

Where does de-leveraging stop, and how long until we get there, and what is it going to look like when we do? It seems to me that none of the economists, regulators, politicians, etc. really care to address these questions. One major reason, I believe, is they have idea either.

Posted by MinnItMan | Report as abusive
 

What’s better ???

- Goods, say half more expensive, but built in North America with 100%+ import/carbon taxes?

- Or Goods imported from Asia, maybe getting cheaper for the moment, but getting much, much, much more expensive when hyper inflation will start in a couple of years?

Without goods produced in North America, we will never be able to pay off our debts. It’s as simple as that. Something has to change !

Anyway, as stupid as it sounds, our best hope will be peak oil starting to kick in and resulting in triple digit oil prices. This will be the equivalent of 100%+ import taxes.

Please read this book, I hope the President will …
http://www.jeffrubinssmallerworld.com/bl og/

Posted by MTLCAN | Report as abusive
 

Powerful analysis, Rolfe. I hope someone important is reading your blog.

You have argued well that real and proper reforms would lead to a continued, and strong, delevering. This would be strongly deflationary, since most of the money supply in 2010 is credit.

What is the policy solution? Well it is easy if banks don’t call the shots. Quantitative easing is the answer, but not this flimsy version we have now. Helicopter Ben refuses to get in the cockpit.

If the Fed sells off its balance sheet, it would be massively deflationary. If lending standards were made properly rigorous it would be massively deflationary. If derivatives such as CDSs were more tightly regulated, it would be deflationary as fewer would be willing willing to lend to weak sovereigns. As deflation starts to appear, one should replace the missing money supply with new money to the people. There is no other way that I see to delever without a depression.

If the last round of Q.E. had gone to American citizens (such as by a tax cut or government checks financed with new money), debts would have been repaid, delinquencies of all kids would have been reduced and banks would become solvent again through the front door rather than the back door. The dollar would decline, reviving exports. Unemployment would go down and the economy would grow again.

With the printing press ready, deflation and a new depression need not occur. But the money must get into the hands of people.

Best of all, our banking system would dezombify (vocab word!) as loan default rates decline and as property values become less underwater. As enough banks become healthy again, it becomes feasible to deal with the rest. You, Rolfe, are an expert observer on the lack of resolution of problem banks.

A little inflation would be magical for state governments too, which are in calamity right now, as holding the line on pay increases is much more doable than pay cuts.

Posted by DanHess | Report as abusive
 

As bad as it is here, I’m not sure I would want to be in an export economy like Germany or China, any more. Seriously, how many mortgage originators/realtors/builders are going to buy Mercedes or BMW in the next ten years?

Posted by MinnItMan | Report as abusive
 

Until the dollar collapses relative to the Yuan and other currencies, manufacturing is not coming back to the US. And until that happens, this country is going to continue to spiral the drain. If the US defaulted on its debt and left the WTO, that would end this crisis and begin the recovery. Creditors such as China who thought they could get rich forever on US trade deficits would be stuck holding worthless Treasury paper. The days of spending 50% of our money on military hardware would be over. Manufacturing in the US would be economical again. The unfunded and unsustainable pension, Social Security, and Medicare obligations would be wiped out. With the US central government unable to borrow, the states would be free to provide services to their residents without interference from the central government. Massachusetts could have universal health care and the red states could have a prayer-based health care system – complete with mandate that everyone has to pray. California could do business with Asia, and Idaho could build an ark with two of every animal and howitzers on the deck and load it up with gold and ammo. This collapse and an effective emasculation of the US central government (from the standpoint of spending) is inevitable, and at this point it is only being postponed.

Posted by reconstructions | Report as abusive
 

Re Rolfe Winkler’s suggestion that contracting the private banking sector will cost jobs, this is nonsense. OTHER THINGS BEING EQUAL of course it WILL. But less credit from private banks can perfectly well be compensated for by a large monetary base. Indeed the extreme version of the latter policy is what’s called “hundred percent reserve banking”. This was favoured by Milton Friedman. Under this system, private banks create NO CREDIT AT ALL !!! That is, the only money is monetary base.

And if those attending the Time Warner conference aren’t aware of this bit of basic economics, God help us.

Re Mike Larson’s comment (above), he should read some history. He claims the UK’s national debt is of catastrophic proportions. This debt is projected to reach 100% of GDP around 2014 (as is that of the US). By contrast, the UK’s national debt was over 200% of GDP both after World War II and after the Napoleonic wars over a century earlier. This “200%” debt didn’t cause problems (not that I’m in favour of a national debt that size). See charts at the bottom of this Financial Times article:

http://www.ft.com/cms/s/0/5a3d3438-d933- 11de-b2d5-00144feabdc0.html

Posted by RalphMusgrave | Report as abusive
 

marketcosm has it right. The primary cause of the financial crisis was the financial system using other people’s money to invest in non-productive investments rather than the real productive job producing economy. Houses & credit cards don’t produce anything. Businesses do. Of course there was the fraud in mortgage lending, the rating system & securitization.

Posted by chasx | Report as abusive
 

And what did it cost the economy for the banksters to invest billions of other people’s money in nonproductive assets such as houses using fraudulent mortgages & fraudulently rated securitizations? Seems like this is the type of lending the Let Markets be Markets participants are trying to stop, not productive investments.

Posted by chasx | Report as abusive
 

For financial reforms to work out and prevent from farther recessions a comprehensive program is needed explaining in details how such stoppers (financial regulations) on the trickle-down approaches in economy will be substituted or enhanced so unemployment will not rise and business activity will not decrease substantially by this-how tightening credit; for US to maintain ever rising expenses in Medicare,Education, Social Security, Infrastructure and etc. in time industrial production is slowing and downsizing should be a very difficult task; comprehensively such conflict between possibilities and realities is mind-blasting; New economics directed by Markets needs of balancing supply-to-demand ratios is needed for such new situation when Globalizing marketplace and Rising productivity are moving industrial production and invested capital up to Asia.
Sincerely,

Posted by joshuakonov | Report as abusive
 

It seems the Chicago School can’t admit that their mantra of deregulation brought about the financial collapse.

Reform will be costly; as costly as the bailout?
Mr. Winkler knows the difference between growth during the Great Depression and today is different due to the creation of the public safety net, unemployment, food stamps etc. and Keynesian policies that are pumping billions of dollars in the economy.

He knows this is factually correct but chooses to ignore these facts since they not fit his narrative.

Hubris abounds from the false prophets of deregulation: it wasn’t our fault for the financial mess; (chose a excuse) is to blame. Ergo any changes to free market reforms will be costly to the public.

Pathetic, dishonest, typical.

Posted by OrganicGeorge | Report as abusive
 

What a Wall Street stooge.

Yeah, sure, *lending* was the root of this mess. Nevermind all that casino type gambling, credit default swaps, yadda yadda yadda. It’s the people’s fault.

It’s *not* the bank lobbying that got rid of Glass-Steagall type regulation.

Not even a nice try at sleight of hand.

What a crock

Posted by hdoc | Report as abusive
 

Since the 80′s we have payed for growth with debt. We gave up our jobs (manufactoring) for bad,cheap junk from China and our Ceos made out like bandits. The middle class and small town america was wiped out. We americans need to wise up and talk about sustainabliliy, fair trade, and develope a home grown green economy. The end of the oil economy is just around the cornor and the more ready we are they easier it will be. We may not be as wealthy a nation as we have been but all the wealth didn’t make us happier. If we all pitch in an face this economic crisis like we did the second world war We will come out of it a stronger happier nation.

Posted by awake108 | Report as abusive
 

Financial, health care, energy reforms and all legislation have now become scams for ripping off consumers and the Treasury.

Until we have fair and honest systems all efforts to fix anything will be futile.

Eliot Spitzer should be put in charge of a federal squad of Untouchables to perform hard nosed audits and investigations of Wall Street and Washington which will ascertain what roll criminal activity has had and is having in the destructive behavior which has decimated individual wealth, political fairness, and the United States Treasury.

Maybe paying ransom to those who have hijacked our political systems will allow us to retrieve our country.

The bad guys control the systems we formerly looked to for justice.

Using a carrot and stick, by offering amnesty for cooperation or pursuing prosecutions for lawbreakers who try to hide, would save tons of money and years of time investigating, which did what, and how they did it, while creating the financial crisis.

For everyone who confesses everything, embarrassment could be the limit of punishment, let them keep their ill gotten gains if we could quickly get our country back.

For those who don’t confess, all discovered misdeeds should be prosecuted and offenders should be subjected to the punishments provided for under the law.

Nelson Mandela in an August 17, 1992 speech said “Furthermore, integral to an amnesty is full revelation of past crimes and who committed them. This is not for the purpose of revenge, but to ensure that we do not carry such festering sores with us into the future.

Posted by BillWatson | Report as abusive
 

find the arguments put forth by the pundit to be faulty. The argument is based upon false macroeconomic theories that are promoted by those who give out credit.
Why would certain people advance such things. Well CEO and bankers pay are directly tied to the amount of leverage in society. The CEO via stock prices, the bankers because that’s how they get deals done. Let us not forget the federal reserve is owned by the banks. There has been a conspiracy of thought in all of these institutions that prevents alternative views from getting adopted and keeps those with alternative views out of power. Effectively what has been stated here is propaganda designed to ensure those who make excessive income off of leverage continue to make disproportionate incomes.
Deflation means for the average consumer each dollar buys more. You need less dollars to buy the same amount of goods. therefore you the masses can buy more with their stagnating wages. this helps the economy, esp if they buy American. remember wages haven’t moved for the great majority of people for 25 years.
The reason they have been able to pay ever decreasing wages is via the expansion of credit. Since credit is the same thing as increasing the money supply it has caused prices to increase faster than they should when compared to wages. So expansion of too much credit actually decreases purchasing power. Note the bubbles have been in housing, energy, food. All areas the fed does not measure in determining their inflation rate. Where would you invest, the places the government doesn’t measure. So we have been having inflation, massive when compared to wages the fed has done nothing about.
If you have to make a purchase, and have to put down a reasonable down payment and companies want to sell to you that means the price of the product must drop if credit is decreased. This means less corporate profits. Less CEO pay. It means less deals for bankers, and it means the bankers aren’t able to let the government inflate away their debt. The current system ensures you can never get ahead. When you retire you are really screwed because the value of your money goes ever downwards. Think of how much interest income you have lost by the fed policies, think of how those same policies have driven up the stock market. This is a direct wealth transfer to the richest 1% of the country who own the great majority of assets. You money power drops, their wealth increased greatly.
Lets look at deflation. the argument goes people won’t spend because they will wait till things are cheaper. this is false. most people don’t have a huge amount of disposable income. We already have to wait till things are on sale to buy. Isn’t a sale “deflation”. It may make a big difference with big ticket purchases. this would be the only area effected. think about it. I’m not going to buy my food, health insurance, clothing, because I’m going to wait until the price drops more. We already can’t afford what is out there. People do not think this way. it’s a myth, just like the myth of the rational market, or the efficient market. they are myths that have been adopted because they allow certain people to make excessive profits. If I can now buy three shirts instead of two with the same amount of money doesn’t that put more people to work?

When the fed lowers interest rates your credit card rates don’t drop. You don’t see the benefit of those changes. the banks that lend you that now cheaper money do. bankers get richer, you get poorer.
Housing: without excessive cheap credit, tax breaks, zero percent down houses the price of a house would have to drop. it would restore the price to income rational destroyed by excessive credit. Our government is spending trillions of your tax dollars to keep housing prices inflated. So you are paying for the cheap credit anyway. Why are they doing so. if house prices drop the banks have to write down the values of those securities. the ceo’s make less money. So the fed “while saying they are helping out the economy”, are once more transfering your money to the bankers by keeping housing prices inflated.
I hope you start to see the scam. Look at the foreclosure programs. I knew they weren’t designed to work form the start and said so. they were designed to keep people paying in the too expensive mortages till all the ir money was sucked out and then the banks could forclose. they don’t reduce principle. what does the data say, they aren’t working. did you knw we pay the banks to alter mortages. we pay them to keep you in there, but if you default they loose more. We pay them to loose less money. Once more the Program to help you is really getting money to the banks. The best way to fix the housing problem is to default, walk away from your over priced home, the bank takes the loss, and you buy something much cheaper. bUT THE FED HAS KEPT COSTS UP.
If you study the details of each and every federal program to help us in fact it is designed to get money to the banks. the banking industry has effective veto over every policy, and hence the only programs that pass are tose that are in fact hidden wealth transfers.
When you know the economics of the programs you start to understand why the “economy” isn’t getting much better, but there are record profits on wall street. The reason is the system was designed this way. They just don’t want you to actually know it.
I have spent the last two years of my life understanding the financial crisis every which way. The essential understanding is that the bankers managed to install faulty economic theories (Greenspan, Bernake, etc) that always maximaize their incomes, and destroy yours. These caused the crisis, and they will keep causing them. The reason the whole stupid chicago school of thought was adopted. It justifies max income for the crooks. The reason the austrian school, which you never hear of, doesn’t have any proponents in positions of power is because it woud mean bankers and ceo’s make less money.
That in a nut shell is what is going on.

Posted by dbc | Report as abusive
 

REPEAL THE 16TH AMENDMENT NOW!!!

Posted by freespeech0 | Report as abusive
 

The Economics of Industrial production (only) may not work anymore when the situation is very similar to past changes like from farming to industrial production. The question is in this new Globalizing marketplace what could be new sources of % GDP and wealth distribution to support ever rising fiscal expenses.

I say: we must listen to the markets so adjustments should be done to the ways markets develop with the main conception to balance supply-to-demand ratios instead of the currently used system tighten only to industrial production and profit; a comprehensive Macroeconomic program that puts together regulations, business laws (to protect SME), adjustable monetary and fiscal quantities, and etc. closely tighten to the Marketplace.

Posted by joshuakonov | Report as abusive
 

Anyone for a nonsequeter?
Skillful, but common.

Posted by onthebeat | Report as abusive
 

YES, agreed, the costs are and will be high.
You are implying that the costs will be lower without reform. Those of us who saw this coming will disagree strongly with you.
THE KEY QUESTION is not how high the cost is (no-one knows and it depends on the choices madefrom here on), key is WHO PAYS.
Currently, our large global financial superbanks are perpetuating the key role they have played in the making of this crisis. Too big to fail is not off the table and government is still expected to guarantee the system. The taxpayer is not off the hook and continues to carry most of the real economic burden. Main Street had already been paying for years with a weak economy, wage and employment erosion, long before the crisis hit Wallstreet. Have a look at the past decade. Since 1999 the US has experienced the slowest real GDP growth since the great depression, take away mortgage equity withdrawls and you have close to zero growth for more than a decade now. Such are the real results of doubling overall debt to levels never seen before.
The huge cloud of liquidity inevitably created by this expansion lead to enormous profit surges in the financial industry both on corporate and individual levels. As it fed a global export and US consumption machine real wages on US Mainstreet have hardly grown, jobs competed on a global level, enabled by huge investment flows into emerging economies, the disparities of wage and wealth between Wallstreet and Mainstreet exploded.
The fall of Glass Stegall allowed US banks to join the Europeans in taking over the so-called shadow banking system that competed away more and more of commercial banks’ growth potential. By 2007, the world’s top 20 banks together ran a $40 trillion balance sheet. That is almost three times US GDP and close to world GDP.
The most troubling aspect of all is that they have been able to achieve this with discredited/nonsensical risk management models and the use of regulatory loopholes. The cavalier attitude with which bankers handle the integrity and value of our all accumulated wealth is frightening, unprofessional, outright illegal.
Bankers do not have right to claim theirs what is not, but which was pinched with false pretenses (namely that the system had gotten safer and less risky as universal banking spread across all of finance). Taking away the punch-bowl will not only hurt the banks but all those that rely on their services, inevitably. however, a reversion back to the mean (probably with adequate overshoot), a deflation of the accumulated debt is inevitable, and inevitably painful

Not to take action now really only perpetuates and increases the inequalities built during the boom. And it relies on the expansion of public debt to bail out our too big to fail banks that have grown even larger in the past couple years. The only option to have our commercial banks even think about carrying the expansion of credit in the real economy, lending to businesses of all size, rather than asset shufflers, is to separate them from their (at least partly toxic) non-core business they were never able to handle.

Universal Banks have dominated and infused finance with asymmetric incentives and pay-off structures with models that do proper risk management a disservice and essentially shut down proper market functioning.
One main reason the derivatives trade fell on its nose is that its risks were not traded, or held, by those reaping the direct profit from them.

On a systemic level, a catastrophic misalignment of interests was inevitable as risk and return became a function of mathematically fine-tuned diversification and correlation models. The irony of it all is that the market mechanism collapsed into inefficiency because everyone assumed efficiency.
http://eyeofthestormbook.com

Posted by Solah | Report as abusive
 

Solah….I’m not at all implying that costs will be higher with reform. The costs will be highest if we do nothing and let the system violently crash on its own.

My argument is that those advocating reforms aren’t willing to bear any cost whatsoever in the short run in terms of lost credit. And that’s the point of all of the various reform initiatives…to tighten lending.

Americans are totally addicted to easy credit. We hate banks for pushing it the same way we hate our drug dealer for giving us our fix, but at the end of the day we aren’t willing to kick the habit.

Posted by rolfewinkler | Report as abusive
 

rolfewinkler… I agree but isnt it inevitable..as far as i can tell, no-one wants to bear any costs. As we have to establish normalized levels of debt (whatever this means, currently we are more than double historic means) it is misleading to talk about cost when it is really about who carries it. It is our large universal banks who defend themselves with the argument of cost, weighing its business costs with overall economic costs. Banks, stripped bare commercial banks would be in much better position to lend, as demanded by politicians. The interests of individual shareholders and managements in our financial institutions is secondary to public interest for a healthy financial system. The fact that private interest still hold shares in our financial system is merely the result of politics, not capitalistic norm.
We need healthy commercial banks.
And we need a transparent “shadow banking” system that operates with symmetric incentives, which include adequate capital provisions.
A split of our banks restores the natural state of a naturally fragmented and dynamic industry.
will it cost. yes it will… but more evenly spread and of much shorter duration

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