More on the Financial Sector
posted by Deven Desai
Dave pretty much hit the main points. Our friends at Conglomerate do a nice job on some overview and Dealbreaker is a good source for details. Still, the small advantage of being on the West Coast is the ability to note this story from the NY Times. It provides a heck of a rundown of the current problems which include Merrill Lynch, Lehman, A.I.G., Washington Mutual (the nation’s largest saving and loans); and let’s not forget Freddie Mac, Fannie Mae, and Bear Stearns.
This quote “Outside the public eye, Fed officials had acquired much more information since March about the interconnections and cross-exposure to risk among Wall Street investment banks, hedge funds and traders in the vast market for credit-default swaps and other derivatives. In the end, both Wall Street and the Fed blinked” about the shifting strategy for the problems is maddening. How much did they know before and what did they learn since? Perhaps as Gordon Smith notes we will have the hindsight to see that what we know (or in my view admit) about the current system may require a response that is closer to the New Deal.
As I have said before when the Economist can call out problems, one is not really getting a liberal view. First this article praises George Cooper’s The Origin of Financial Crises: Central Banks, Credit Bubbles and the Efficient Market Fallacy as the best book about the current credit crisis. Note this is a book that argues that the vaunted efficient market theory is suspect.
Second this article about Freddie Mac and Fannie Mae supported, perish the thought, nationalizing them.
Here is why:
By allowing the Treasury to make loans to, or invest in, the companies, Congress made explicit what had always been tacitly understood: that it stood four-square behind the two agencies, even though they have private shareholders and managers paid like Wall Street barons. That is capitalism at its worst: it means shareholders and executives reap the profits, but the taxpayer bears the losses. It is also risky. Between them, the firms have more than $200 billion of debt to roll over in the next month, and the markets are queasy. The collapse of just one bond auction could send shock waves around the world
The article notes that capital lifelines might leave poor management in place (like that matters in corporate America) and “leaves the Treasury with the unpalatable option of rewarding the institutions for bad behaviour. Not only would this throw good money after bad. It would encourage executives to “gamble for resurrection”—to take big mortgage risks in a desperate attempt to make profits.”
Now, the Economist does argue that the end game is to liquidate the companies or create truly private companies. Here is the follow up article.
And just to be fully depressed before I sleep, ponder this from the Cooper article about the credit excess idea:
Alas, the author does not see an easy way out of today’s mess, in effect arguing that we “shouldn’t start from here”. Letting the markets have their way would risk a repeat of the 1930s, and the Fannie and Freddie rescue shows the authorities are desperate to avoid that. But the danger is that central banks inflate another credit bubble, saving the economy from disaster in the short term but raising the stakes still further when the next crisis comes around. The Fannie and Freddie rescue, though unavoidable, suggests the world is heading in that direction.
September 15, 2008 at 2:28 am
Posted in: Corporate Law
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