Regular readers know that I am no fan of the Too Big To Fail (TBTF) institutions. I do have a great deal of respect for Jamie Dimon as an intelligent and savvy operator. He skillfully exploits the ill-defined borderlands of private enterprise and public policy. The London Whale was reportedly an intended hedge on economic recovery that spun out of control. JPM Chase’s recognition of a $2 Billion dollar loss has amped up both the volume and the incoherence of political rhetoric about banking. Amidst this confusion I intend to clarify a few matters and offer my view that the real TBTF problem isn’t the London Whale; rather the Berlin Wail.
The Financial Impact – The magnitude of the loss on this trading activity is irrelevant in relation to JPM’s earnings and capital. The stock isn’t falling because the bank lost one month’s earnings on this position. The stock is falling because the political response to this trade calls into question the company’s ability to continue as one of the most successful operators in the murky world of politicized finance.
Jamie Dimon – His career is likely not over. He is far too useful to politicians and policy makers. He will say what he needs to say to Congress. The guy is smart, articulate and smooth. Expect this to be an Ollie North level performance. He will marshal the right campaign contributions and execute the right policy initiatives to remain useful. If he is removed, he will be replaced by a more servile CEO with a renewed understanding of the opportunities afforded to those who make themselves useful.
The Volker Rule – The mood of agitated anger will provide the momentum to ram through some version of the Volker Rule. The proprietary trading of activities of TBTFs is a very serious public policy issue. Does anyone seriously believe that Congress and bank regulators can define and implement sensible boundaries between hedging and trading? This landscape will further favor those institutions relevant enough to both influence and operate within the new parameters. I have had many private conversations with very good regulators over the years. They know they lack the insight and political clout to prevent the next TBTF train wreck. What history calls a bubble, the present calls prosperity. Bubbles generate tax revenues, create wealth and provide jobs. Bubbles reelect incumbants. The public lacks the patience and toughness to implement sustainable economic reform. The people want bread and circuses. Therefore public policy is currently doing everything possible to create the prosperity that will become tomorrow’s bubble. No bank regulator will have the charter to quench the animal spirits unleashed. More complex and “tougher” regulations will create work for regulators, lawyers and consultants. For bankers willing and able to play the game, the rewards will remain substantial. Public policy should be to end TBTF; not manage it. In order to end TBTF, one must acknowledge that it is caused by the noxious interplay of politics and finance. Before 2007 no one of consequence in Washington admitted that there were any TBTFs. Since 2007 the deposit market share of the 5 largest banks in the US has increased from 36% to 43%. We will not end what we don’t want ended.
Economic Discourse – The discipline of economics is not helping to break the policy log jam. We should resist the notion that people fall neatly onto a linier political spectrum, but most Americans conform to one of two deeply flawed philosophies about economics. In rough terms, the left almost can’t imagine a social problem for which there isn’t a government financed solution. The right lives in an Ayn Rand dream world of the rugged individualist that has never existed and isn’t really the kind of world that is healthy for people, families and communities. The view of the left is based on the preposterous notion that politicians and public employees have better intentions and are more virtuous in their work than the rest of us. The left insists that governments must impose morality into economics, though they prefer the softer term “ethics”. To the right, there is no social or moral dimension to economic life, therefore all that is legal may and should be done. To the left community means government. We should be respectful of the tactical advice economists can offer, but beware of economists who package their legitimate opinions as science. In this environment, economics offers no clear consensus on what shall be done.
The Keynesian moment – Despite the lack of intellectual consensus, the Keynesians have controlled policy since 2008 and before. I absolutely supported the massive government infusion of liquidity and capital into financial markets in 2008. To let the lights go out would have been utterly irresponsible. I wrote then that this was only buying us one more chance to fundamentally reform finance in a manner which eliminated the TBTFs and lessened the need for the regulations that foster and favor their growth. I expressed pessimism about whether we had the political will to change our thinking and behavior. The Bush administration’s response to the crisis was a combination of cluelessness and Keynesian. The Obama administration’s policy is “compassionate” Bush on Keynesian steroids. “Helicopter” Ben Bernanke’s Fed leadership straddles both administrations. Bernanke seems unable to even consider that Keynesian fiscal and monetary stimulus can have any limits. Meanwhile the public longs to believe the Keynesian promise that governments can manufacturer prosperity by borrowing, spending and printing. In response to the left, Joe public thinks to himself, “You mean I am entitled to prosperity without hard work and self-sacrifice? I am in!” In response to the right, Joe public thinks to himself, “You mean I have no duty of fairness and generosity in my economic conduct? I am in!” In response to the left and right, Joe public thinks “you mean you both agree compassion is primarily government business. I’m in!” While clearly stimulus stimulates, Keynesian logic depends on politicians having the discipline to withdraw the stimulus the public desires and has been taught to depend on. Any sign of that happening?
While Congress and the regulators fuss and fulminate, President Obama is hectoring Angela Merkel about the German’s preference for the self-discipline so evidently lacking in every other western nation. Behind closed doors, central bankers are persistently urging German central bankers to get with the Keynesian program, as if Germans funding the retirement of 50 year old Greek hairdressers had anything to do with Europe shaking off its stumbling, aging, entitlement stupor. Worry about the risk of proprietary trading at the US based TBTFs has been rendered nearly irrelevant. The Keynesians need them and apparently the public wants them. The real TBTF risk now emanates from Federal Government’s budget and is housed on the Federal Reserve Bank’s balance sheet. All the instruments of US financial power are all in on the proprietary trade that we can create recovery through coercive policy without sacrifice and effort by the voting public. We are massively long in the financial markets on economic recovery. The Fed seems to be a willing counterparty to anyone shorting the domestic and global economy. This is what traders have labeled “the Bernanke put”. Big time proprietary trading isn’t really the efficient market that people imagine operates in the mythical, free-flowing, amoral and apolitical cosmos. It is often more about having the capital, influence, muscle and intellectual horsepower to move policy and markets. The classic investment banking model for dealing with a long position is to retail it out to customers and counterparties. The government imagines it has the tools to hammer the shorts in submission, but they are depending on the cooperation of their retail client base to double down on Keynesian recovery. The Germans have so far refused to buy their share of our long position. As intellectual persuasion isn’t working, expect the volume and verbal hysteria to rise until the Germans buy their share of the toothpaste the US wants to jam back in the tube. Don’t be distracted by the London Whale. Listen for the rising din of the Berlin Wail.