|
They
Still Don’t Get It
By
John Riley
Chief Strategist
07/02/08
On June 29,
in the prestigious Financial Times, Former Treasury Secretary and
Harvard University President, Larry Summers wrote an article which
shows that policy wonks don’t really understand the problems
in our financial markets. His article, “What we can do in
this dangerous moment” starts out great and I had hopes that
maybe after years of toiling next to Greenspan, he rejected the
Maestro's views and had seen the light. He hasn’t.
(Dr. Summers
quotes will be in blue italics.)
“It is quite possible that we are
now at the most dangerous moment since the American financial crisis
began last August.”
Agree completely.
So far so good.
“…limiting
the capacity of monetary policy to respond to a financial sector
which – judging by equity values – is at its weakest
point since the crisis began.”
I am still pretty
sure that the job of the Fed is not to respond to the financial
sector. I believe the Fed is charged with running the economy, not
the stock markets. And what difference does it make to the Fed if
the market is up or down?
“...there
is a possibility that a faltering economy damages the financial
system, which weakens the economy further.”
Oh, I see, it
was the economy’s fault that banks and brokerages played in
the derivatives cesspool and made bad decisions when it came to
financing sub-prime mortgages. It makes sense then that the Fed
should be ready to bail out the “innocent” banks and
brokerages for risks they had “no way” of predicting.
(Of course they knew the risks, Pull-eeze!)
“First,
the much debated housing bill should be passed immediately by Congress
and signed into law. It provides some support for mortgage debt
reduction and strengthens the government’s hand in its troubled
relationship with the government-sponsored enterprises – Fannie
Mae and Freddie Mac.”
How does paying
somebody’s mortgage for a few months solve the sub-prime mess?
How does that make these mortgages better risks? It doesn’t.
The investors that financed the sub-prime mortgages knew the risks
they were talking and should suffer the consequences of their bad
investments.
The mortgagees
should have had the basic ability to add 2 + 2 and should not be
viewed as victims. They took on too much debt and they also should
suffer the consequences.
Is this harsh?
Yes, but that is the nature of a free market. Sometimes you lose.
The Government isn’t supposed to be in there rigging it so
everybody wins, no matter how foolish an investment.
“Second,
Congress should move promptly to pass further fiscal measures to
respond to our economic difficulties… increasing doubts about
the fourth quarter of this year and beginning of the next as the
impact of the current round of stimulus fades..”
No kidding.
The “Fiscal Stimulus” package was a mistake. It did
nothing but add more debt to an already overloaded system.
“…there
is a clear case for extending the duration of unemployment insurance
benefits.”
More debt at
just the right time! Wrong, wrong, wrong. Adding more debt only
makes things worse.
“There
is now also a case for carefully designed support for infrastructure
investment, as financial strains have distorted the municipal credit
markets…”
Now the Muni
market needs to be bailed out. Why? Because of too much debt. And
the solution? More debt. Brilliant.
“Fiscal
stimulus measures must be coupled to budget process reform that
provides reassurance that, once the crisis passes, the fiscal policy
discipline of the 1990s will be re-established.”
He must be joking
here. There was no “fiscal policy discipline” in the
1990s. The 90’s is when these problems started. The increase
in debt and reduction of standards started in the Mid-90s and can
be viewed as solely responsible for the economic upswing and stock
market bubble. That is just what we want to return to. Guys like
Summers and Greenspan don’t see how debt has caused virtually
all of our economic problems. And they probably never will.
“Third,
policymakers need to make a clear commitment to addressing the non-monetary
factors causing inflation concerns…”
In case you
didn’t notice Dr. Summers, inflation is a commodity issue,
not a monetary one. He did make one good point though, that subsidies
to developing nations should be stopped.
“Fourth,
it needs to be recognized that in the months ahead there is the
real possibility that significant financial institutions will encounter
not just liquidity but solvency problems as the economy deteriorates
and further write downs prove necessary.”
Wait,
this sounds like he gets
it! He’s right, there are probably going to be more banks
or brokerages going under. But then he continues…
"Markets
are anticipating further cuts in financial institution dividends;
regulators should encourage this to happen sooner rather than later
and more broadly to reduce stigma."
Dividend cuts?!?!
He is anticipating bank failures and he thinks the solution is a
few dividend cuts? Does he have a clue how big the derivative problem
is? He actually thinks that taking a dollar off the table now will
protect one of the majors from failure? (See
Trillion Dollar Secret)
“Most
important, regulators should do what is necessary, including possibly
seeking new legislative authority, to assure that in the event of
an institution becoming insolvent they can manage the resolution
in a way that protects the system while also protecting taxpayers.
It was fortunate that a natural merger partner was available when
Bear Stearns failed – we may not be so lucky next time.”
Yes, more regulation
is what is needed to prevent bad investments. Absolutely. We should
have the Fed and all banking and brokerage regulators get in the
business of approving every trade and reviewing the investment strategy
of every house on the Street to make sure it meets with the approved
Federal strategy.
This is totally
and inconceivably naive. Regulation can’t take the risk out
of investing, and you wouldn’t want it to.
How were the
taxpayers protected with the Bear Stearns failure? It was taxpayer
money used to bail them out. Taxpayer money was put at risk.
And it wasn’t
fortunate that there was a willing suitor available to take them
over, JP Morgan was likely a trading partner owed billions of dollars
that had they not taken them over would likely have shown up in
somebody’s balance sheet as a multi-billion dollar loss. It
is our opinion that the take-over just hid the loss.
The ignorance
shown by Dr. Summers is just indicative of the type of thinking
that permeates the Federal Reserve and the Treasury. They want to
solve free market problems in order to prevent the dreaded economic
downturn. The result will likely be a bigger recession with bank
and brokerage failures they can’t bail out.
Dr. Summers
(and the Fed and the Treasury) fail to address the real issue -
rampant risk taking by the big banks and brokerages. They also fail
to recognize the mountain of debt that the economy has built up,
to well in excess of the pre-depression levels.
The objective
of a recession free economy has turned our system into a looming
disaster with a moral hazard created by the Fed and government interference
around almost every corner. Banks are failing, call the Fed; brokerages
loosing too much money, call the Fed; Muni market squeezed, call
the Fed; Sub-prime mortgage mess, call the Fed.
Federal Reserve
looses all credibility globally, call the…. ? Who do we call
when the Fed runs out of money, answers and time? Who do we call
when the world realizes that the freest market in the world is looking
more and more like a government controlled game of dominoes?
It won’t
be Dr. Larry Summers, I can assure you of that!
|
