Fabrice Grinda

I argued in a prior post that the best way to deal with a deflating bubble was not to try to reflate that bubble. Instead of letting the real estate market reach equilibrium by letting prices fall to the point where the market clears and letting people who cannot afford their housing move to cheaper rentals, it has tried to keep homeowners in place through a combination of policies: mortgage modifications, subsidized low mortgage rates and tax credits.

The net impact seems that at great cost it has prolonged the agony for existing homeowners who tend to default at a later date anyway and who would have been better off cutting their losses and moving into rentals they could afford.

Not only has it been detrimental to existing homeowners, but it’s also unfair to those who have been wisely renting for many years and are not getting the benefits of lower prices as the market is not being allowed to clear. It’s all the more unfair as many of those people will be bearing a disproportionate share of the bailout burden as they will be taxed to pay for the follies of others.

There is a great article in the NY Times analyzing the early results from the program. Read it at:
http://www.nytimes.com/2010/01/02/business/economy/02modify.html?hp

Comments (4)

Over the past few years I have often felt like Cassandra with my dire and pessimistic economic predictions. This fundamental pessimistic outlook was so contrary to my fundamentally optimistic outlook on life that during the past few months I have essentially stopped making political economic analysis. I did not want to be “that guy” – the one who is always pessimistic and down when people want and maybe need to hear positive things.

However, as the disparity between the consensus economic outlook and my own predictions has grown, I feel I can hold my silence no longer. In so doing, I feel I have solved my dilemma with cognitive dissonance: I can be a pessimistic optimist!

My optimism is deep, potentially delusional, but a quintessential part of who I am. I have always been optimistic about humanity’s potential, specific individuals’ ability to overcome their selfish, egotistical, self centered worlds to accomplish amazing things and about what the future has in store for us all – from humanity as a whole to my friends, family and me!

My pessimism is more temporal and well defined. It is driven by bad economic policies and their consequences on the macroeconomic environment, human welfare and potential negative geopolitical implications.

Over the past few months, we have seen renewed optimism all around that the worst is behind us with pundits, investors and politicians alike claiming that a new period of growth is looming. You can see part of this renewed euphoria in the Dow passing the 10,000 mark recently. There are many fundamental reasons to think this optimism is delusional and that we have years of subpar growth ahead of us.

From a technical perspective, we may no longer be in a recession, which is defined by two consecutive quarters of negative GDP growth, but that does not mean that we will see robust growth at anywhere near the potential growth rate of the economy.

Many fundamental imbalances remain while many of the policies being implemented are unsustainable.

Imbalances Remain

The financial crisis was supposed to lead to deleveraging, but has actually led to increased leverage. Companies and banks have partly delevered but consumers and governments have increased their leverage significantly. Consumers did save $100 billion more in the US in the last year. However, this was overshadowed by a $7 trillion loss in the value of the equity in their houses. Moreover, governments are levering up with many OECD countries facing budget deficits over 10% of GDP this year. Repaying all this debt will take years of parsimony which in turn will lead to subpar growth.

While a financial meltdown has been averted, the credit creation process is still broken for small businesses. Banks are generating profits by essentially borrowing risk free from the government and investing it in government paper at 2% (which when you think about it is indirect quantitative easing) instead of lending. Large companies are tapping the bond markets, but small businesses have essentially no access to credit. With credit creation inexistent, small businesses which have historically been a huge generator of growth and new jobs cannot grow. Moreover, historically individuals have used home equity loans as a means of funding new small business. With home equity ravaged, small business creation will be hampered.

It’s also far from clear that we have reached a bottom in real estate. With unemployment around 10% and no improvements in sight, a glut of supply given the wave of repossessions, foreclosures running at record levels and a rise in negative equity, the overhang of unsold homes will remain dauntingly large. While subprime variable loan resets have mostly taken place, there are lots of rate resets pending, especially for the Alt-A category and option ARMs.

The commercial real estate market also seems particularly weak. Foresight Analytics, a research firm, reckons that $594 billion of commercial mortgages will mature in the US between 2009 and 2011. Many of the borrowers will have big problems when their loans mature. Loan-to-value ratios have fallen from 85-95% in 2006-2007 to 60-65% and below suggesting borrowers will have to stump up cash they don’t have to refinance. In addition, commercial property prices have fallen by 35% and the full effects of the bust are only just beginning to be felt. Losses on commercial property tend to lag behind rises in the unemployment rate by a year or so because the lease terms protect landlords form immediate falls in rental income. Delinquencies are spiraling and bank write-offs are becoming increasingly common. Banks have many more write downs ahead of them in commercial real estate.

The financing of the current account deficit seems unsustainable as well. Long term yields are being kept low by Chinese purchases of Treasury Bills bonds which allow them to keep the Yuan’s rise in check and prevent too rapid a dollar devaluation that would cause a significant loss on their $1 trillion in dollar assets. In the long run, it seems inconceivable that the Chinese will keep building their dollar assets in the face or rising budget deficits and money creation suggesting a devalued US dollar.

While the US still has the privilege of being the reserve currency, it can print money to meet its obligations. However, you cannot print your way to prosperity! Printing will ultimately devalue the dollar. While inflation is not a near term threat given the deflationary pressures on the economy, dollar depreciation is highly likely in the medium term.

Unsustainable Policies

Over the past decade, we have seen a huge misallocation of capital with a disproportionately large share going to real estate. This is not an investment which leads to productivity growth, the ultimate long term creator of wealth. Given that the decline in residential real estate prices has been the root cause of the crisis, the Obama administration seems determined to limit the downwards pressure on prices by reflating real estate by a combination of measures such as first time buyer tax credits and encouraging the Fed to keep interest rates at record lows.

The solution to the bursting of a bubble is not to reflate that bubble! As I wrote in a previous article (Whodunit?), there were many causes for the real estate bubble. One of those was keeping interest rates too low, too long which led to too much risk taking in the pursuit of yield and helped inflate the bubble. Trying to reflate real estate will only continue unproductive capital misallocation and delay reaching the market equilibrium.

From cash for clunkers programs for cars, to tax credits to subsidies to favored industrial champions, this recovery is dependent on government largesse and not fundamental growth. This largesse is bound to end. Ultimately, if the governments keep unsustainable spending patterns markets will take fright and push up yields, nipping the recovery in the bud. In Japan, an early rise in taxes necessitated by the increase in government debt led to a recessionary relapse in the mid-1990s.

If Japanese policy makers had to redo the decisions they made over the last 20 years, they would probably focus on cleaning up bank balance sheets quicker while not taking on as much government debt as they did which ultimately did not take them out of the recession. The good news is that infrastructure investment in the US has the potential for higher ROI than the Japanese investments. However, it’s far from clear that the current increase in government is being put to good use.

There is reasonable evidence that all this government spending is crowding out private investments which have historically had much higher returns on investment. The government should have focused its efforts on:

• Cleaning up bank balance sheets such that they could lend again as opposed to having walking zombies which need to earn themselves back to health.
• Not throwing good money after bad by spending billions on saving car makers, subsidizing housing, car purchases, etc.
• Investing on job retraining for displaced workers and those in long term unemployment.
• Not starting trade wars by blocking access to the US to Mexican truckers or imposing tariffs on Chinese tires.
• Investing in high ROI infrastructure projects – especially public transportation projects in the largest cities.
• Using this unique opportunity to reform healthcare to really put incentives in place to reduce costs (as opposed to the current proposals which increase coverage, a necessity, but don’t address many of the fundamental issues driving healthcare costs up).

Conclusion

We seem to be following the example of Japan which has shown that household balance sheet problems take years to play out. The economy might no longer technically be in a recession but economic growth will be subpar and job creation anemic – probably with high volatility despite the overall sideways move in economic growth.

For entrepreneurs, the main conclusion should be to keep your burn low and prepare to be in it for the long haul. Given the volatility, be tactical and take advantage of changes in sentiment by raising money when you can or exiting when opportunities present themselves.

As an individual, be careful how you spend your money especially on large items like real estate and cars!

P.S. Even though, I am extremely bullish about a country like Brazil, I don’t mention diversifying out of the dollar because as long as you live and earn money in the US, it does not fundamentally matter what the dollar is worth because both your costs and earnings are in dollars.

Comments (13)

… but probably not the beginning of the end! It is interesting to see the speed at which sentiment seemingly switches. Last October and in late February and early March of this year, people seemed desperate, believing a new Great Depression was inevitable. The past few months have seen renewed optimism with many suggesting that the economy could recover by the end of the year – which in turn has led many to worry that a pickup in economic growth will lead to massive inflation. All three views are probably wrong.

Not a Great Depression

As expected, the crisis spread from Wall Street to Main Street, but this is not a Great Depression. Between 1929 and 1933, the US economy shrank by a quarter. Real estate prices fell by 50% in 2 years. Retail banks failed. Unemployment reached 25%. Many queued around the block for soup and bread. In New York many who lost their residence found refuge in Central Park.

The unemployment rate is currently 9.5% and the banks that have been most affected by the crisis are the commercial banks rather than the retail banks. Most importantly, the Fed has learned from past mistakes. Overly tight monetary policy turned the downturn into the Great Depression during the 1930s. Ben Bernanke is a scholar of the period and will not let it happen again. The global rate cuts that have been orchestrated by the major global central banks and the sheer size of the fiscal stimuli show policymakers understand the gravity of the situation and are trying to provide appropriate liquidity. I am confident the combined might of all the world’s central banks and governments will prevent the crisis from becoming catastrophic.

While outright deflation might be avoided, the economic headwinds and imbalances remain strong suggesting a slow multi-year recovery

During the early 2000s the Fed and the Treasury did many crisis simulations to see how they would respond to a Japan-like deleveraging and banking crisis. They always responded rapidly and efficiently – lowering interest rates, nationalizing banks, separating good assets from bad, etc. Interestingly enough, when faced with an actual crisis, while often knowing exactly what needs to be done, they have not shown the political will to do quite enough to solve the crisis. Granted, the Treasury and the Fed responded much faster than the Japanese policymakers who took two years to start significantly lowering interest rates and increasing government spending. However, with regards to the banking crisis, the solutions proposed have been haphazard and incomplete. The solution we have opted for, seemingly for fear of political retribution, is to hope that the banks can earn their way out of the problem. The issue with this solution is that, like in Japan, it creates zombie banks which need to retain all of their earnings and does not provide the economy with the credit it needs to function.

Moreover, the solution to the crisis that the administration seems to be hoping for is that people start borrowing again to spend on housing, cars, and consumer goods, and it is therefore pushing policies to promote the buying of cars and houses. The issue here is that this is like offering a heroin addict one last hit before sending him to rehab. You don’t solve a problem of excess leverage but piling on more leverage! That is also true at the country level. The overall level of indebtedness does not change based on whether the debt sits on the balance sheets of individuals, companies, or governments.

The underlying problem of excess leverage can only be solved with increased saving by consumers, greater profits for companies, less spending by governments, and higher tax revenues – ideally driven by productivity growth. As expensive as they were, the large bank bailouts were unavoidable as businesses and consumers need credit to function. The economy cannot operate without an effective banking system, but it’s unclear that we need such a large fiscal stimulus.

The stimulus seems to be motivated by the fact that as a society we no longer seem willing to suffer from short-term pains for longer-term gains. The massive stimulus will ease the short-term pain, but the automatic stabilizers built into such high levels of government debt relative to GDP will probably prevent any real recovery for 5-10 years as they did in Japan over the last 20 years. When growth picks up interest rates will increase as people start fearing inflation. Combined with increased taxes as the government needs to get its fiscal house in order, the crowding out of private investment which is the true long-term driver of growth, and a slew of anti-growth policies, growth will probably be limited to 1-1.5% a year in the recovery. The economy will no longer technically be in a recession, but it won’t feel like recovery, either. In other words, we bought great depression insurance and recession sweeteners at the cost of prolonged economic stagnation!

Inflation is not a short-term concern

It’s interesting to note that if Japanese policymakers had to do it again, they probably would not redo the massive fiscal easing which ultimately left them with little other than a huge pile of debt and an economic speed limit brought about by the aforementioned automatic stabilizers. Given those stabilizers, inflation is unlikely to be a worry in the short term.

Moreover, while the amount of money in circulation has increased significantly, the velocity of money has shrunk dramatically. It is unlikely to recover as the solution we elected for the banking crisis is to hope banks can earn their way out of trouble. With this multiyear solution, banks don’t originate many new loans as they retain their profits to shore up their balance sheets.

Politically, it’s also unclear that the United States can inflate its way out of debt. An angry middle class will probably demand that Congress tighten its purse strings. There was little popular support for the bank bailouts, especially as the crisis was presented as caused by Wall Street. Taxpayers are in no mood to be told that some of what ails the economy is due to their own irresponsibility (see Whodunit?), and that much more of their money is needed both to minimize the pain and to pay for the entitlement promises made to the retiring baby boom generations.

Moreover, China, America’s largest foreign creditor, will strive to protect its dollar assets. As long as China believes that America will eschew an inflationary solution, it will remain in China’s interest to buy the US debt that must fund America’s coming shortfall in tax revenues and the entitlement commitments that stretch for decades. But if America credibly indicates that it will pursue a genuinely inflationary monetary policy, the prospect of massive capital losses on its dollar reserves may cause China to preempt that action. Given how much America now needs China, it is not clear that America could pursue an outright inflationary policy if China acts to prevent it.

Conclusion

We have avoided a Great Depression, but the ill-advised solutions we are implementing to deal with the crisis are setting us up for at least 5-10 years of economic stagnation.

Comments (5)

I had the pleasure of studying under Uwe Reinhardt at Princeton. He was by far the best teacher. He gave such entertaining presentations, full of jokes and anecdotes, that he managed to make accounting fun – even at 9 am – an ungodly hour for a college student! I loved working with him so much that I became a teacher assistant for the class.

He recently gave a presentation at a conference for investors in health care. The first part of the presentation is by far the funniest and best description of the financial crisis I came across. Download and read the presentation now! Maybe it’s the geeky economist in me talking, but I found the presentation absolutely hilarious!

For more on Uwe Reinhardt, check out his Wikipedia entry.

Comments (3)

I had the pleasure of being invited to a dinner organized by the Princeton University Center for Economic Policy Studies (CEPS) where George Soros spoke on the current economic crisis.

I very much enjoyed the cocktails before the dinner where I reconnected with Alan Blinder and Harvey Rosen who had been professors of mine at Princeton and got to meet Paul Volcker. I believe I also caught sight of Daniel Kahneman and John Nash.

Paul Volcker, when not hitting on my girlfriend, made an impassioned defense of the current bailout. He argued that Americans were no less willing to accept a V shaped recovery today than in 1982 and that the duration and severity of the recession, the shape of the recovery and the nature of the policy responses were purely driven by the circumstances of the two crises: high inflation then, a financial crisis with rapidly deteriorating economic fundamentals and low inflation now.

Alan Blinder came out as the relative optimist of the night explaining that the US was much better off than most of the developed world, that US government debt as a percentage of GDP was only set to rise to 60% up from 40% and that the policy response was finally becoming systematic rather than haphazard.

George Soros for his part could have rivaled Nouriel Roubini with his dire outlook. His speech centered on the cause of the crisis and his prescriptions. He posited that markets were not only not efficient, but prone to bubbles and that in certain circumstances these bubbles could create feedback loops that could impact the economy. He argued that this current crisis was purely financial in the making because looser credit always comes with higher asset prices even though most people do not make the link. He argued that central bankers should take into consideration credit and asset bubbles when setting monetary policy – a role Alan Greenspan famously abdicated. He lamented that despite his hopes for the new administration, they were still behind the ball and doing too little too late.

While his fundamental analysis was sound, I took umbrage with some of his prescriptions, especially his desire to restrict the use of credit default swaps. He argued that stocks were ok to short because on average shorting a stock is riskier than owning it. On the other hand, buying a credit default swap is the equivalent of betting that the issuer of the bond that the CDS insures is going to do poorly – it is the equivalent of shorting the bonds of the company or country the CDS insures. The asymmetry of risk between the issuer and buyer of the CDS favors shorting the bond of the issuing company or country (buying the CDS) which he found reprehensible. I found the argument inconsistent with his desire to pop bubbles given that shorting brings price information to the market. There is nothing morally wrong with shorting and whenever regulators banned shorting both during the Great Depression and the recent financial crisis they ultimately found it counterproductive.

His inner Nouriel Roubini came out during the Q&A session after his speech. When asked about the potential for a breakdown of the social order, he gloomily responded that there was a high risk of populist regimes emerging, especially in Eastern Europe. He felt that democracy in the US might not be as entrenched as we suspect and that it could be severely tested should the Obama administration fail to contain the crisis.

He also described the plight of the developing world. There are over 1 trillion dollars worth of emerging market debt coming to maturity in 2009 that will not be rolled over. He felt that only a concerted effort by the G20 countries to deal with the issue at the upcoming April 2 meeting could save many emerging countries from default. He did not mention his prognosis, but the tone of his speech suggested he did not feel hopeful about a breakthrough there.

He also vigorously defended mark to market accounting retelling the story of Japan where the suspension of mark to market accounting led to the survival of “zombie banks” unable to lend which lumbered for years. He argued it is much better to deal with the bad debt expediently and recapitalize banks.

He also described the interesting paradox we currently face where the prescriptions for getting us out of the crisis – printing and spending a lot of money – are the very opposite what we will need to do the minute the velocity of money increases again.

He did finish on an optimistic note saying that he believed that China, Brazil and India will emerge from the crisis earlier than the rest of the world, as early as the end of the year, and would help pull the rest of the world out of the crisis.

I actually very much doubt he is right, but I sure hope he is!

Comments (4)

The story of the Smoot-Hawley Tariffs should be a cautionary tale to present-day policymakers. The tariffs did not cause the Great Depression, but they deepened its severity and duration. All of the economists of the time opposed the measure, to no avail. As the House and Senate debated the bill, they barely considered the potential response from other countries. The tariffs were passed, leading to global retaliation. Global trade plunged from $5.3 billion in January 1929 to $1.8 billion in June 1933.

In difficult times, despite the lessons from the past, politicians always find it tempting to prop up domestic jobs and incomes with export subsidies, import tariffs, and cheaper currencies. In today’s globalized economy with far-flung supply chains and just-in-time delivery, it would take much less than the Smoot-Hawley Tariffs to disrupt trade.

In November the leaders of the G20 group of big, rich and emerging economies promised to eschew any new trade barriers for a year. Within days, Russia and India raised tariffs on cars and steel respectively. It has actually been surprising how few direct protectionist calls there have been so far in the US even though tariffs are currently low enough that on average they could triple without breaking WTO rules. It may be that to avoid appearing protectionist, politicians won’t increase tariffs but will resort to other means. Global competitive industrial bailouts are currently the main source of concern.

Unfortunately, large bank bailouts are unavoidable as businesses and consumers need credit to function. While the economy cannot operate without an effective banking system, the same cannot be said of other commercial institutions, be they in services or manufacturing.

There have been mostly calls to bail out companies in manufacturing, but the distinction between services and manufacturing is largely artificial. Designers, analysts, the sales force, and financial support staff at Rolls Royce, an aero-engine maker in “manufacturing”, do the same jobs as their counterparts at ARM, which designs, sells, and markets its processors, but is in “services” because other people make its processors. The distinction owes more to government statisticians than anything else.

Regardless, a bailout is a discriminatory subsidy. It’s very possible that bailouts in one country will lead to bailouts in other countries. As during the Smoot-Hawley Tariff discussions in Congress, the global response to bailouts such as the one for the Detroit automakers has not been considered. Nicolas Sarkozy has already said that Europe would become an “industrial wasteland” if it does not follow the US’s lead in propping up manufacturers.

A global misallocation of capital, throwing good money after bad through bailouts and thus by definition under-allocating capital to promising companies, would deepen and lengthen the severity of the current downturn much as the Smoot-Hawley Tariffs did during the Great Depression.

On the bright side, the current administration seems pragmatic and I am still hopeful that the bailouts will be limited and that politicians will have the courage to let failed companies die.

Fingers crossed!

Comments (7)

As a society and as individuals we are loth to take responsibility for our actions. We much prefer finding scapegoats or blaming circumstances. I was recently asked who was to blame for this crisis.

Like in Agatha Christie’s Murder on the Orient Express, we all did it!

The culprits include:

• The American Dream: Guilty of having changed from being the opportunity of becoming successful through arduous effort, perseverance and determination regardless of your starting circumstances to the pursuit of home ownership.
• Politicians: Guilty of pushing home ownership as an end in itself and of distorting the tax code accordingly thus encouraging individuals to pile on debt.
• Fannie Mae and Freddie Mac: Guilty of using the fact that no politician felt he could publicly oppose home ownership to lobby for and succeed in expanding the number of mortgages they cover. Doubly guilty for piling so much risk given its structure that “privatized the profits, but socialized the losses”.
• The Fed: Guilty of keeping interest rates too low for too long, inflating both the credit and real estate bubbles. Guilty of deciding that its role is not to deal with asset bubbles arguing it cannot tell whether there is a bubble even though many experts and most indicators were showing that real estate ownership and prices had increased unsustainably.
• Alan Greenspan: Guilty of publicly advocating variable rate mortgages even though rates where at an all time low – a suggestion made even worse by that fact that he then promptly increased rates.
• George Bush: Guilty of cutting taxes while massively increasing spending on frivolous projects like agricultural subsidies and similar pork-laden projects during a boom period leaving the US in a precarious financial position entering the downturn.
• Banks: Guilty of relaxing lending standards to expand origination profits.
• Investment Banks: Guilty of creating complex derivative products whose riskiness they did not understand.
• Investment Bank CEOs: Guilty of not looking at the riskiness of the derivative products their banks were creating because of the profits coming from those operations.
• Investors (all of us though our 401ks): Guilty of expecting 10% annual returns and ignoring risk in order to chase yield.
• Home Buyers: Guilty of buying homes they could not afford believing they had nothing to lose because house prices would always rise.
• Consumers: Guilty of spending everything we earn and more by borrowing through home equity loans and credit cards to buy things we don’t really need, instead of saving a reasonable percentage of what we earn.

The judgment is in: we are all guilty!

The penalty: Increased taxes and slower economic growth for many years as we return to a sustainable economic environment.

Comments (17)

During the past few years, I often felt I was the sole economic pessimist. I urged my friends and whoever would listen to rent and not buy their apartments (Rent … unless you want to buy, I professed that the current economic imbalances would lead to disaster (Macro Perspectives on Global Liquidity) and that the downside risk to the economy was much greater than people expected (A Different Perspective on the Global Economy).

How times have changed. There is palpable fear in the air and many seem to think we are headed for another Great Depression. Shockingly, by sheer relativism I now find myself among the optimists. I am not saying things are about to get better, quite the contrary, but I am reiterating my analysis that we will have a rather prolonged downturn, but no Great Depression (The US Economy: How bad will it get?).

In the short run things will undoubtedly get worse. Despite their recent fall, real estate prices remain well above historical norms and will have to fall in real terms either through further falls in nominal prices or through many years of stable prices given the current inflation rate. Financial firms still have a lot to worry about. Hundreds of billions of dollars of variable rate mortgages will reset in 2009 causing further foreclosures. Credit card loan books are headed for trouble as consumers have seemingly tapped out their credit cards (the most expensive form of credit available) instead of decreasing spending to maintain their standards of living. Economic headwinds will lead to higher unemployment and cause delinquencies to rise on both credit card and car loans. Given the economic uncertainty, companies will undoubtedly be more careful, which makes sense on a micro level, but slows down economic activity. The unemployment rate will rise and way well exceed 10% at some point in the next few years. The personal savings rate will rise to a more sustainable rate both as households repair their balance sheets and baby boomers prepare for retirement. Again, this makes sense on a micro level, but will lead to further macroeconomic slowdown. Exports which had been the saving grace of the US economy for the past few months are unlikely to be able to hold up given that the crisis has spread to Europe where Italy and Spain are already in recession with Germany on the brink of one. Japan’s export led economy may have already faltered and may be heading back into deflation.

In other words the crisis will spread from Wall Street to Main Street and the US economy and that of the world will slow down significantly for the next few years. However, this is not a Great Depression. Between 1929 and 1933, the US economy shrank by a quarter. Real estate prices fell by 50% in 2 years. Retail banks failed. Unemployment reached 25%. Many queued around the block for soup and bread. In New York many who lost their residence found refuge in Central Park.

The unemployment rate is currently 6.1% and the banks that have mostly been affected by the crisis are the commercial banks rather than the retail banks. Most importantly, the Fed has learned from past mistakes. Overly tight monetary policy turned the downturn into the Great Depression during the 1930s. Ben Bernanke is a scholar of the period and will not let it happen again. The global rate cute that was orchestrated by the major global central banks yesterday shows they understand the gravity of the situation and are trying to provide appropriate liquidity. I am confident the combined might of all the world’s central banks will prevent the crisis from becoming catastrophic.

After a few lean years, having avoided a Depression, I am sure we will bounce back and a new boom will start in green technologies with support from the continued growth for Internet and biotechnology companies.

Comments (10)

I am not usually a fan of his style, but in this case, his outburst was justified and eerily prescient!

Comments (5)

By Steven E

Worst financial crisis since the Great Depression? Yes—but don’t be cowed by talk of calamity. Disasters call for prudence and circumspection, not frenzied action. Congress, in particular, must carefully consider the downsides of any bailout plan before granting the Treasury department the unprecedented, unfettered, and certainly un-American power to nationalize private assets of dubious value with $700 billion of public money—a monumental sum that eclipses even the cost of the Iraq war. For congress, waiting a few weeks to legislate a solution does mean protracting the current crisis. But there is no reason to believe that the world economy would collapse in that time. On the other hand, it is reasonable to believe that implementing the proposed bailout plan may have long-term adverse effects on capitalism. The solution congress is about to legislate will foster corruption, increase market volatility, address the effects of a problem rather than its cause, and it sets a dangerous precedent. None of these shortcomings are being discussed by the press.

1. It will lead to corruption.
   Laws that govern securities trading are designed to prevent malfeasance and self-dealing. These regulations don’t apply to the Treasury department because the department was never intended to transact with the private sector. Having the Treasury department bid on private securities would be a mistake. The department has no checks and balances. We’ll see cronyism in the distribution of these funds. At the same time, there will be no provisions for judicial review, public contests, or appeals. The process will be secretive, undemocratic, and anticapitalist.
2. It will not resolve market volatility, and may increase it.
   The lack of transparency that is bound to accompany the infusion of $700 billion into the economy—more specifically, into firms that took down our economy—will rally some investors sometimes and disappoint others. The point is there will be more surprises, not fewer.
3. It addresses the effects of problems rather than their cause.
   This bailout addresses the effects of serious problems (declining house prices; defaulting mortgages; a drying credit market) but ignores the cause of those problems (regulatory missteps). An approach that offers the veneer of financial security without addressing the roots of instability amounts to a formula for disaster. A sudden flurry of liquidity in the credit markets can lead to a bout of foolish borrowing by distressed corporations. Financial institutions may repeat some of their earlier mistakes.
4. It sets a precedent. This begins with $700 billion, but who knows where it ends?

The entire country is faced with an economic catastrophe. Two men—Henry Paulson and Ben Bernanke—say the solution is to have every American lend $2000 to a secretive governmental agency. This is not our only option. We can think of others. Ask yourself this: Even if all the Bush administration’s hyperbole about financial mushroom clouds is true, even if that rhetoric weren’t suffused by the administration’s ignoble history, even if Henry Paulson and Ben Bernanke were the two most capable, trustworthy men on the planet (and yes, they are capable and trustworthy, but in a few months a new administration will take office and there may be a new treasury secretary), even if a solution were absolutely necessary to avert a full-scale depression—even if all that were the case, wouldn’t it still be preferable for congress to take time to evaluate other options? This solution may prove more dangerous than the problem.

Comments (7)