Category: Financial Institutions

7

Restore Glass-Steagall

I’ve posted about this before, but I’m still wondering why the reenactment of Glass-Steagall is not a good (and pretty obvious) part of the solution to our financial woes.  The legislation worked quite well for more than sixty years and would be easy for banks to understand and apply.

So what are the counterarguments?  One might be that Glass-Steagall is dated, therefore you can’t just bring it back jot-for-jot.  I’m happy to concede that point, though you would think that some modest revisions could take care of that problem.  A second thought is that the repeal of Glass-Steagall did not cause the Panic of 2008, so a restoration won’t do much good.  Even if that is true, I don’t see what harm would come from bringing back the old regulatory framework.  (Can that approach really be worse than what we have now?)  The third possibility is that there was something wrong with Glass-Steagall that I don’t know about.  I’d be interested in hearing from people who know more about financial regulation than I do.

The Moral Authority of Occupy Wall Street

The Occupy Wall Street protests continue to grow, and to gain support from public intellectuals. Joe Stiglitz, Anne Marie Slaughter, and Paul Krugman are the latest luminaries to praise the cause. The movement has also provoked derision. Let’s consider the latest Norquist/Limbaugh memes as the protest nears the one-month mark:

1) “They’re just spoiled hippies who can’t get a job.” A quick glance at the “We are the 99%” tumblr could easily dispel this notion. The economic suffering in this country is deep and broad. As one news story put it, “one in three Americans would be unable to make their mortgage or rent payment beyond one month if they lost their job.” Even if the most down-and-out people are too poor or busy to get to Wall Street (or the hundreds of other actions now taking place), many of them think of the OWS crowd as speaking for them.

There is so much needless suffering going on now, and so much wealth accumulating at the very top. It is hard to understand how critics dismiss the protesters so cavalierly. I used to find the Biblical passage about God hardening Pharaoh’s heart one of the more mysterious parts of the Book of Exodus; now I feel like I’m witnessing it firsthand.
Read More

Revolt of the Elites

Bernard Harcourt has analyzed new forms of radicalism adopted by the most and least privileged. Umair Haque at the Harvard Business Review has also identified dispositions shared by street looters and certain elites. As the chief political commentator at London’s Daily Telegraph has observed, “The moral decay of our society is as bad at the top as the bottom.” Yet there are very different consequences for each group’s transgressions.

The more disruptive the disenfranchised become, the more they provoke harsh responses from authorities, thus worsening their already marginal position. By contrast, finance and government elites have positioned themselves to gain from whatever risks they shift onto society at large, via bailouts, emergency powers, and the revolving door. As Ross Douthat observed, “The economic crisis is producing consolidation rather than revolution, the entrenchment of authority rather than its diffusion, and the concentration of power in the hands of the same elite that presided over the disasters in the first place.”
Read More

Audit Trails: The Corporate Surveillance We Need

What do the following problems have in common?

1) food poisoning
2) systemic risk in the financial system
3) data breaches
4) violations of civil liberties
5) tax evasion
6) insider trading

In each case, we could do a lot more to stop the problem if we better tracked the actions that lead to it. An “audit trail” can enable that tracking. Decades ago, such tracking would be inordinately costly. Nowadays, it is increasingly embedded into any quality logistical system. The technologies of RFID chips, cheap imaging and data storage, and rapid search are ubiquitous. Corporations use them to track customers and products. Now public authorities need to use them to track corporations.

Consider, for instance, this recent story on food safety:
Read More

“Wall Street is our Main Street”

Who could imagine that a board member of the New York Federal Reserve Bank would adopt radical political economy? Both Slavoj Zizek and Robert Brenner have questioned the Wall Street/Main Street dichotomy, claiming that the US economy is so deeply financialized that it’s hard to discern a real core beneath the monetary fluff. We’ve gone from “what is good for GM is good for American” to “what is good for GS is good for America.” And it appears that the “public’s representative” on the NYFRB agrees:

Mr. Schneiderman has . . . come under criticism for objecting to a settlement proposed by Bank of New York Mellon and Bank of America that would cover 530 mortgage-backed securities containing Countrywide Financial loans that investors say were mischaracterized when they were sold. . . . This month, Mr. Schneiderman sued to block that deal, which had been negotiated by Bank of New York Mellon as trustee for the holders of the securities. . . .

Read More

Canova on a Public Option in Banking

Timothy Canova has a great new essay up at the New America Foundation on the need for a public option in banking. As he argues:

The dilemma facing governments today is how to pay for stimulus and jobs programs without incurring new debt. Public banking institutions should point the way, in part for their ability to expand lending on a revolving basis without raising taxes or even borrowing from bond markets. For instance, public infrastructure banks in continental Europe and East Asia have long recognized the role of public finance to fund long-term development projects – “projects that generate economic benefits to the wider economy in excess of their private returns.”

Various proposals for a national infrastructure bank by the Obama administration and members of Congress, while a step in the right direction, are far too modest in scale and scope. At the state level, North Dakota has enjoyed the benefits of a public bank since 1919. The Bank of North Dakota, the model of a state-owned bank, has operated continuously at a profit and according to conservative banking practices (including relatively modest compensation for the bank’s management). The state deposits its tax revenues in the Bank which in turn ensures that a high portion of state funds are invested in the state economy. In addition, the Bank is able to remit a portion of its earnings back to the state treasury – more than $300 million in the past decade.

Thanks in part to these institutional arrangements, North Dakota is the only state that has been in continuous budget surplus since before the financial crisis and it has the lowest unemployment rate in the country. In contrast, California is the largest state economy in the nation, yet without a state-owned bank, is unable to steer hundreds of billions of dollars in state revenues into productive investment within the state. Instead, California deposits its many billions in tax revenues in large private banks which often lend the funds out-of-state, invest them in speculative trading strategies (including derivative bets against the state’s own bonds), and do not remit any of their earnings back to the state treasury.

As private sector wealth concentrates into fewer hands, public options will become even more essential. As Louis Hyman quipped in a recent podcast, America’s private finance system is substituting loans for decent wages. It’s not sustainable.

Canova gave an inspiring talk at the Roosevelt Institute’s Future of the Fed event earlier this year. Canova has drawn on the history of the Fed, and particularly that of Utahan Marriner Eccles, Chairman of the Federal Reserve from 1934 to 1948. Eccles is an unsung hero of the New Deal era. I recently found this 1933 testimony from him, and it is a truly acute diagnosis not only of the economic situation of his time, but also that of our own. (His frustration with the deficit hawks of his day is particularly eloquent on p. 708.) Canova’s careful understanding of the past, and revival of the remarkable Eccles, is the solid foundation for a compelling proposal to develop a public option in banking.

Guns, Butter, or Gambling

Sandy Levinson has posted interesting reflections on our tendency to “absolutize” the public debt. There is at least one good and one bad rationale for us to do so. The good rationale is straightforward: government is the ultimate risk manager. We rely on it to aid recovery after disasters, to defend US interests, and to provide for those who cannot survive using their own funds. In a world of advanced and expensive medical technology, that last category potentially includes nearly everyone, at some point in their lives. The debt ceiling debate is a wake-up call for us to choose more carefully between guns and butter. We need credit so that the government can borrow to, say, rebuild a city after a massive earthquake.

But there is also a bad reason for the rising stakes of US spending. To put it bluntly, the too-big-to-fail banks are the new Fannie Mae and Freddie Mac. The government must “keep its powder dry” in constant vigilance, ready to “re-TARP” the damage should any panic befall them. Consider, for instance, the current agonies of the Eurozone, as described by John Lanchester:

[Greek protesters] want the Greek government to default, and the banks to accept losses for loans they shouldn’t have made in the first place. It is that prospect which spooks everyone else in the EU, and the world economic order generally. . . . Who owns that Greek debt? [M]ainly French and German banks. Yes, but banks insure their debt via the use of complex financial instruments. Insure it with whom? Don’t know: some of it is insured with British banks as counter-parties to the risk, but that risk will be insured in its turn, so that the identity of the person holding the parcel when its last layer of wrapping comes off is a mystery. That mysteriousness was the thing that made Lehman’s collapse turn instantly into a systemic crisis.

Read More

Deceptive by Design: Derivatives as Secret Liens

Secretive practices and institutions are common in contemporary finance. For those who’ve ceased the search for long-term value creation, temporary information advantage is key. Even commonplace practices can be reinterpreted as havens of hiddenness. My colleague Michael Simkovic’s article “Secret Liens and the Financial Crisis of 2008” exposes the role of derivatives and securitization as secretive borrowing strategies, designed to keep the naive or trusting from discovering the fragility of the institutions they loan funds to. His work has been presented to the World Bank Task Force on the Bankruptcy Treatment of Financial Contracts, and is relevant to both private and sovereign debt risks.

Simkovic argues that 80 years of erosion of classic commercial law doctrine ensured that “complex and opaque financial products received the highest priority in bankruptcy.” Products like swaps and over-the-counter derivatives were not adequately disclosed (either by banks in their consolidated financial statements or by their counterparties in publicly accessible transaction registries). By concealing those debts, these already overleveraged financial institutions were able to attract ever more credit and investment, at better rates than those who reported their overall financial health more accurately. (All other things being equal, it’s safer to lend to an entity that owes 10 billion rather than 100 billion dollars.) The genius of Simkovic’s article is to show how “fundamental causes of the financial crisis are relatively old and simple,” even as an alphabet soup of instrument acronyms (CDO, CDS, MBS, ad nauseam) and government programs (TARP, TALF, PPIP, et al.) makes our time seem unique.
Read More

Review of Daniel Altman’s Outrageous Fortunes

Daniel Altman’s book Outrageous Fortunes is consistently smart, engaging, and counterintuitive. Ambitious in scope, it discusses several important forces shaping the global economy over the next few decades.

Very long-term thinking has two characteristic pitfalls. As the Village’s deficit obsession shows, sometimes panic over a distant threat can derail attention to much more pressing ones. There’s also little accountability for long-term prognosticators. A lot can happen between now and 2030, and as Philip Tetlock has shown, media and academic elites rarely lose visibility or credibility in the wake of even grotesquely wrong predictions. The futuristic novel can be a much safer place to conjure up ensuing decades.

But unlike speculative fiction, or the slightly less speculative macro-predictive fare of a “Megatrends” or “Bold New World,” Altman’s book is grounded in a deep engagement with current economic dilemmas. His analysis works on two levels. First, for a self-interested investor, it’s good to be aware of the long-run influences on productivity and power that Altman outlines. For example, his discussion of the new colonialism demonstrates both the short-term profits and long-term risks that arise when countries like China and Saudi Arabia start buying rights to agricultural land and other resources in poorer places. He also challenges conventional wisdom on disintermediation, making a compelling case that certain middlemen and arbitrageurs can only gain from market integration.

Outrageous Fortunes also succeeds as a work for wonks, taking its place in the often noble genre dubbed by David Brin the self-preventing prophecy. As Altman puts it, “a frequent goal of prediction is to alter the future – to warn of impending danger so that it can be avoided.” The book describes many impending dangers, including increasing inequality driven by global warming, accelerating brain drains, and an enormous financial black market that is developing outside of traditional financial centers. Altman’s description of that black market is particularly acute, and worth discussing in some detail.
Read More

Zombie Banks and the Need for a Public Option in Finance

I recently heard Thomas Ferguson discuss his work in political economy with Chris Hayes. He mentioned this paper, which does a pretty remarkable job summarizing what’s happened in finance since the bailout:

[Banks have successfully lobbied] for free or low cost money: the euphemism is the need to “get a new balance sheet into the game.” . . . Along with bank creditors, which in the U.S. include giant bond funds like Pimco and BlackRock, bankers also form a phalanx against making bank creditors share any costs of bailouts by converting debt into equity – which, of course, is exactly what states concerned about their taxpayers should do.

Financiers also hate the idea – important for reasons of moral hazard – of losing their jobs, or limits on their salaries and bonuses[, or clawbacks]. Not surprisingly, wolves are artful specialists in crying wolf: Moves by states to make banks pay the costs of cleaning up are greeted by what we like to call the “immaculate deception”: that such steps amount to “socialism” and will choke off recovery and drive “talent” out of the banks.

Where bad banks or other schemes for warehousing assets are set up, the price at which those assets are eventually resold often generates another mare’s nest of problems. And finally, there is the issue, widely overlooked in the literature, of how impaired banks treat customers. In the current U.S. case and, we suspect, many others, “zombie” banks gouge clients by raising fees and other charges. More generally, in a financial equivalent of the Night of the Living Dead, they try to raise margins everywhere they can. All too often, they can almost everywhere, thanks to the waves of consolidation that financial crises bring in their wake.

Read More