It is hard to grasp the scale of the economic events we read of daily. There has been much written and spoken already. If you would like me to comment on any particular aspect of this, please post a question. For now I just want to make the most essential comments from a street level banker.
I accept that the dramatic federal intervention we are witnessing is essential to stave of widespread economic and, therefore, social chaos. It is now clear that we have perfect asymmetry between public risk and private gain. Economists and regulators used to argue about whether there was such a thing as a “too big to fail” bank. That argument has been resolved in action. We not only have “too big to fail” banks. We have “too big to fail” investment banks, insurance companies and auto companies (coming soon to a theater near you).
The token failure was Lehman Bros. I do feel for the “little people” at Lehman, but I’ll shed no tears for the fat cats who have long since cashed their bonus checks from the bogus products they sold in the last 5 years. I’ll also shed no tears for the investors who whine about losing money on Fannie and Freddie common and preferred stock. They thought they were achieving higher earnings than those of us who invested more conservatively.
We have seen the shotgun weddings of Merrill and Bear Stearns. We just don’t know what dowry we will pay. Fannie, Freddie and AIG are now wards of the state. The remaining investment banks have been fast-track adopted into the “family” of bank holding companies. It would be nice to see the humility appropriate a prodigal son, but I won’t hold my breath.
There are a lot of opinions out there, but I don’t believe anyone has it all figured out. I know I don’t. I will make two points about ideas that will not work and I will present several ideas that must work.
What won’t work.
A New “New Deal”
I have seen several heartfelt pieces suggesting that it is time for a massive new public works initiative to rebuild our infrastructure and thereby provide federally funded stimulus to the economy. Skipping merrily down FDR memory lane misses the essential difference between 1931 and 2008. In 1931 the federal government could chose to expand the public sector because it was very small. We can’t chose to increase the scope of federal involvement, because we are already there. In 1931 federal taxes, expenditures and debt was proportionally very small compared to today.
My barnyard math is that we already have $5 Trillion of direct debt, $7 Trillion of Fannie and Freddie debt; $5 Trillion of FDIC Guarantees; the liabilities of AIG; a $400 Billion annual deficit and a $700Billion Treasury plan before congress. We can’t chose to use more public investment to stimulate our way back to private sector health even if that was a good idea. In 1931 we could chose to play that card because it was still in our hand. Today that card is already on the table.
We don’t need more regulation. We need better regulation. We have seen this movie before. In 2002 we adopted sweeping changes to strengthen and improve public accounting and financial disclosure. We strengthened the regulatory controls across the financial markets.
I am willing to bet that the rogues gallery of actors in this play all had impeccable financial reporting in 2006 and I’ll bet most of them were clean in 2007. Look up AIG, Merrill, Bear Stearns, Citicorp and Lehman. They were heavily regulated and impeccably compliant. Senators and Congressmen will want to pound their fists on the desk, string up a few bad guys, lecture the existing regulators and pass new laws that have more to do with appearing to do something than actually doing anything.
Tomorrow, I will post on what I think will work.