Saturday, November 6, 2010
Even Greenspan Admits that Moral Hazard and Fraud are the Main Problems
Even Alan Greenspan is confirming what William Black, James Galbraith, Joseph Stiglitz, George Akerlof and many other economists and financial experts have been saying for a long time: the economy cannot recover if fraud is not prosecuted and if the big banks know that government will bail them out every time they get in trouble.
Specifically, Greenspan said today in a panel discussion at a Fed conference in Jekyll Island, Georgia (where the plans to form the Fed were originally hatched):
Banks operated with less capital because of an assumption they would be rescued by the government, he said. Lehman Brothers Holdings Inc. wouldn’t have failed with adequate capital, he said. “Rampant fraud” was also an issue, he said.
Lack of Trust
“Fraud creates very considerable instability in competitive markets,” Greenspan said. “If you cannot trust your counterparties, it would not work.”
Greenspan is right.
As leading economist Anna Schwartz, co-author of the leading book on the Great Depression with Milton Friedman, told the Wall Street journal in 2008:
"The Fed ... has gone about as if the problem is a shortage of liquidity. That is not the basic problem. The basic problem for the markets is that [uncertainty] that the balance sheets of financial firms are credible."
So even though the Fed has flooded the credit markets with cash, spreads haven't budged because banks don't know who is still solvent and who is not. This uncertainty, says Ms. Schwartz, is "the basic problem in the credit market. Lending freezes up when lenders are uncertain that would-be borrowers have the resources to repay them. So to assume that the whole problem is inadequate liquidity bypasses the real issue."
***
Today, the banks have a problem on the asset side of their ledgers -- "all these exotic securities that the market does not know how to value."
"Why are they 'toxic'?" Ms. Schwartz asks. "They're toxic because you cannot sell them, you don't know what they're worth, your balance sheet is not credible and the whole market freezes up. We don't know whom to lend to because we don't know who is sound. So if you could get rid of them, that would be an improvement."
Similarly, Robert Reich wrote in 2008:
The underlying problem isn't a liquidity problem. As I've noted elsewhere, the problem is that lenders and investors don't trust they'll get their money back because no one trusts that the numbers that purport to value securities are anything but wishful thinking. The trouble, in a nutshell, is that the financial entrepreneurship of recent years -- the derivatives, credit default swaps, collateralized debt instruments, and so on -- has undermined all notion of true value.
Many of these fancy instruments became popular over recent years precisely because they circumvented financial regulations, especially rules on banks' capital adequacy. Big banks created all these off-balance-sheet vehicles because they allowed the big banks to carry less capital.
Nothing has changed since 2008 ... the problem is still exactly the same.
The fraud committed by the giant banks - including mortgage fraud, encouraging appraisal fraud, fraud in representing the soundness of mortgages packaged together into mortgage backed securities, the rating of financial instruments, the numerous types of accounting fraud (repo 105s being just one example) - have continued. No big fish have been prosecuted.
No wonder no one trusts anyone else.
And the government has rewarded the looting by bailing out the bad actors again and again, either directly or through various backdoor schemes. ( And many economic writers believe that quantitative easing itself is just another bailout).
Even Alan Greenspan is calling out fraud and moral hazard. As I noted in April, Greenspan has been a a die-hard neoclassical or "free market" economist:
Alan Greenspan didn't think regulators should even pay any attention to fraud:
He didn't believe that fraud was something that needed to be enforced or was something that regulators should worry about, and he assumed she [Brooksley Born] probably did. And of course she did. I've never met a financial regulator who didn't feel that fraud was part of their mission, but that was her introduction to Alan Greenspan."
Indeed, as Born pointed out last year, Greenspan told her:
I don’t think there is any need for a law against fraud.
However, Greenspan started changing his tune somewhat in April, and his remarks today reinforce his apparent change of philosophy (a change which is as dramatic as the recantation by Judge Richard Posner - one of the leading proponents over the course of many decades for removing the reach of the law from the economy - of his anti-regulatory stance).
Admittedly, talk is cheap, and I'm not sure how much influence former Fed chairs like Greenspan and Volcker have on Bernanke or other sitting officials.
As I asked in April: "Fraud [is] finally being discussed in polite company ... now where are the prosecutions?"
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And Wall Street is making huge profits again by borrowing from the Fed at next to nothing (.75%) and loaning at 8% or investing in Treasury bonds at 2.75%. Basically, free money. While the stock market has turned into nothing more than a casino, with the high-frequency trading so ably described on this blog and other ways to turn what used to be a mechanism to fund growth and innovation into nothing more than a crap shoot! America is so screwed!
ReplyDeleteWell said.
ReplyDeleteNoam Chomsky calls it a doomsday spiral, which it is, and more than that, it is the activity of a meme complex gone criminally insane.
HELLO!
ReplyDelete-THIS IS EARTH-
EARTH TO GW-BLOG!
Yeh, sure.
Nothing will EVER be self-correcting until foxes self-police themselves and bite the other foxes who are raiding the hen house. LOL
What the heck are you talking about? On earth as it is in heaven? Hallowed be they name?
Gimmie a break.
Some people simply have their head in the sand (or some other far more stupendously ridiculous place) -when it comes to the estimation they make of themselves and their adolescent expressions of altruist-concern (?rage? as if anyone other than the far-less-than-nimble like-minded cares?) so common on the Internet.
The Internet is vast, yes, a vast wasteland.
This analysis borders on, well... cuckoo!
This sort of typical blogger-analysis makes ready-pawns for those who understand human nature well enough to know, no one is coming riding to the rescue, Lone Ranger.
Vent your mental flatulence all you want. Alan Greenspan knows something -you do not. He's a willing shill for continuing the Ponzi scheme.
Human nature is human nature. And Alan Greenspan is a very rich man, who had made many other men very rich men, -by very dexterously misrepresenting the truth time and again.
Oh I think he'd fess up if you asked him, What are the chances? "None -and probably far less than none..."
The credit economy is like the Wild West when it comes to the irrefutable human nature and its inclination toward rapacity and greed.
People like being rich. And those that can be, will be, regardless the heinous effect upon the rest of stooge-humanity.
You might just as well ask the young men not to leer at the comely girls, and ask the young girls not to look at the young men that way -flashing their eyes and giggling- the way they do!
Oh, sweetheart!
The credit economy is a moral question.
And -IN THE FINAL ANALYSIS- the answer clearly is, because of human nature, a credit economy is categorically immoral.
There is categorically -no way- to make a credit economy work without these sorts of problems (and worse unnoticed by the contempory minds) ruling the roost.
Let me count the ways. Yup! There is no way to make it work.
These problems that crop up in credit-based economies eventually -will always- lead toward the ever greater destruction of the planet by a humanity desperate to pay off its creditors.
LOL Pay off the creditors? Sure...
Holy cow! Look at that babe over there. She's too beautiful to be real, too good to be true!
Hello, DOLLY!
It's like that song, -Simply Irresistible-
She's so fine,
there's no tellin',
where -the money went!
LOL, human nature.
Greenspan should know, being a fraud and a crook himself. He should be one of the first ones to have his head on a stick.
ReplyDeleteBut Greenspan is wrong - again. And so are any others who think that the "main problem" is fraud. Or "lack of trust". These ills are indeed present and must be addressed. But they are NOT the "main problem".
ReplyDeleteThe main problem is that our present money and banking system is inherently unsustainable, flatout bound to fail in just the way it is now doing: with a massive credit crunch.
Even if every borrower and lender was honest, and evey buyer of "mortgage backed securities" prudent enough to avoid buying bad paper, the system would STILL crash.
Because the "main problem" is not fraud or lack of trust but the growth of debt itself. Almost all the "expert" commentators named above have assimilated the underlying assumption that total debt, public plus private, can increase forever without limit. So ingrained is this assumption that they don't even discuss it. They may even be unaware they assume it.
But it is false.
Total current debt (not "unfunded liabilitites") in the US is now some $50 trillion, says the Fed. That's $600,000 per family of four. Some of that is indirect debt whose interest the family pays through taxes or purchases. But directly or indirectly, all those interest payments are extracted from them. Whatever is so extracted is a portion of their contribution to the GDP that they cannot either consume or invest. It goes to the rentiers who collect net interest.
And almost every commentator thinks that the way to get the economy moving again is - would you believe - to increase total debt still more. "Get the banks lending again" is the cry of pundits from left, right and center, however much they may differ on how to do that. (True, the deficit hawks oppose increasing public debt. But not private debt.)
They all tacitly assume there is no upper limit on the amount of their contribution to the GDP that can be withheld from that average family of four. At 5% interest (my guess), the current total debt means that $30,000 per year is being withheld from that family of four. That's $30,000 of their annual contribution to GDP that they don't get to consume or invest. And the solution, we hear constantly, is to make that go even higher.
You can advocate this only if you assume there is no upper limit to the fraction of their productive output that can be denied to its producers. This is exactly the same as assuming that there is no upper limit on the percentage of the sharecropper's crop that the landlord can take. But both sharecroppers and landlords know that there IS an upper limit - about 50% -or else the sharecropper can't survive to plant again next year.
Which makes sharecroppers and their landlords smarter than Greenspan, Robert Reich, Krugman, Stiglitz, etc.
Among the few economists who have figured out that total debt has limits: Michael Hudson, Steve Keen, Ann Pettifor. Look 'em up. And read Ellen Brown's book "The Web of Debt"
The following passage by washingtonsblog is bogus, concocted:
ReplyDelete"Specifically, Greenspan said today in a panel discussion at a Fed conference in Jekyll Island, Georgia (where the plans to form the Fed were originally hatched):
Banks operated with less capital because of an assumption they would be rescued by the government, he said. Lehman Brothers Holdings Inc. wouldn’t have failed with adequate capital, he said. “Rampant fraud” was also an issue, he said.
Lack of Trust
'Fraud creates very considerable instability in competitive markets,' Greenspan said. 'If you cannot trust your counterparties, it would not work.
Greenspan is right."
Greenspan was not quoted or alleged to have said that in the source linked to by washingtonsblog, and my Web-search for any other source for that alleged quotation of Greenspan has turned up no other source than washingtonsblog itself.
Big Al is certainly in a position to know fraud when he sees it. He's the #1 enabler and creator of it for the last 20yrs.
ReplyDelete