Economic Dreams - Economic Nightmares

To the Streets: Occupy Wall Street moves to Main Streets

The "Occupy Wall Street" movement is moving to Main Streets across the globe. It's about time. But I fear that the movement will be captured by the far left, just as the TEA party movement has been captured by the far right. If Occupy Wall Street will evolve to represent the case of the 99% against the 1% we will have a chance for needed social/institutional change here in the US.

'Occupy Wall Street/Main Street' made it to my home base Ogden, UT last weekend. As I've argued here before, it is past time that people protest the growing US-led kleptocracy (a corrupt form of government where governing bodies aid in the transfer of wealth from ordinary citizens to the upper class). I went to the rally, adding one small voice to this important issue.

I found a little 4-minute video (embedded below) that captures the essence of the problem. It is titled "Why Occupy Wall Street? Four Reasons," by D.C. Douglas (hat tip: Sam Glover: The Cycle of Financial Crisis). Below are my four reasons to protest the oligarchic dominance of the American economy and politics. You can boil them down to Supreme Court Justice Louis Brandeis' timeless admonition: "We can have democracy in this country, or we can have great wealth concentrated in the hands of a few, but we can't have both."

My Four Reasons to Occupy Wall Street

• The Robber Barons (Wikipedia) are back, but must NOT be allowed to stay in power! The distribution of wealth in the US is now as skewed toward the top 1% even beyond where it stood in 1929. One percent of this country now owns 40% of the wealth.
• The rich are NOT entitled to take everything, in a democracy underwritten by publicly-financed education, transportation, defense, and much more. A recent Congressional Budget Office report show that "for the 1 percent of the population with the highest income, average real after-tax household income grew by 275 percent between 1979 and 2007." Add this: "In the 1970s, corporate chief executives earned 30 times as much as the average worker. Ten years ago, CEO compensation was 116 times the average. CEOs now earn close to 300 times as much as the average worker."
• The rich are NOT entitled to buy elections. A recent Supreme Court ruling "Citizens United" allows the rich to buy elections. The Koch brothers are rumored to be planning to spend $250000000 (one quarter BILLION) of their personal money on political agendas in 2012. How much influence will that buy?
• Houses of Finance big and small will NOT self-govern in the interest of either their shareholders or in the public interest. Large financial organizations need to be governed by effective regulation—a 21st century "Glass Steagall", among other regulatory apparatus.

I shared Jared Diamond's warnings against kleptocracy some years back. They are worth a relook. One snip:

The difference between a kleptocrat and a wise statesman, between a robber baron and a public benefactor, is merely one of degree: a matter of just how large a percentage of the tribute extracted from producers is retained by the elite, and how much the commoners like the public uses to which the redistributed tribute is put.

Finally here is the Why Occupy Wall Street video, featuring Elizabeth Warren, among others:

The video suggests four resolutions that differ at wee bit from mine:

• Reinstate Glass-Steagall
• Audit the Fed
• Reverse "Citizens United"
• Overhaul the Corporate Tax Code

I'm in favor of better disclosure from the Fed. So is Ben Bernanke. I too support reversing "Citizens United" by Legislative action, most likely by publicly financing all elections. Of course, such financing would not only disallow super-PAC election manipulation, but would also disallow billionaires from manipulation elections with their own money. Finally, like 99.9% of US citizens, I support overhauling the entire US Tax Code, simplifying it, and restructuring it for economic fairness in part by requiring the wealthy few to shoulder more of the tax burden.

Note: I used the term kleptrocacy (Wikipedia) in part to add flair and controversy. Plutocracy (Wikipedia) might have been a better choice. Louis Brandeis favored the term oligarchy (Wikipedia).

 

My Wars Against Economic Fundamentalism

I spent most of my working life in the US Forest Service, battling fundamentalism. Most of the battles dealt with economics. My first job was to coordinate use of a linear programming model (FORPLAN) in the development of forest plans. The model may (or may not) have been useful in projecting overall timber sales volumes from big-timber forests, but to have used it as an overall planning model was a mistake. Forests are not factories. Multiple uses for timber, recreation, wildlife, minerals and oil and gas, livestock grazing (and so on) must be carefully balanced against preservation and conservation efforts in the dynamic self-organizing systems that we call Nature—forest and grasslands in particular. That balancing act is not the stuff of simple, formulaic problem solving.

I remember one day in 1979, before I joined the Forest Service, having lunch with FORPLAN developer K. Norman (Norm) Johnson when a memo came down from the Forest Service Washington Office declaring FORPLAN to be the primary analysis tool for forest planning. Norm said, "My God, we've just lost the war." No truer prophecy was ever uttered. But that was just the beginning of my nightmares with what I call economic fundamentalism. The problem extended beyond the FORPLAN follies, into project and program cost-benefit analysis generally. When passion for this type fundamentalism began to wane, a new threat appeared in the form of free-market fundamentalism. That latter threat is still very real, while the two former threats have faded into memory.

The FORPLAN Fiasco
During the early years of US Forest Service "forest planning" (1979-1985, generally) there was a big problem with what we then called "analytical determinism." The problem, simply stated entails placing too much faith in narrowly framed analysis, with too little synthesis, ignoring broader contextual relevance. It is a problem that plagued the Forest Service practice of Operations Research, narrowly focused on the linear programming model FORPLAN (Forest Planning). No matter how hard some of us tried to get beyond mindless application of the FORPLAN model — set up with a maximize "present net value" objective function — the message never took hold. In retrospect, the whole agenda was wrong-headed, as Oregon State University Dean of Forestry John Beuter and I finally tried to show in a Critique of Forest Planning by contrasting FORPLAN with a model we called MARVIN. [See: Beuter, J.H. and Iverson, D.C. (1987): FORPLAN: an economic perspective. In: T.W. Hoekstra/Dyer A.A./LeMaster D.C. (Eds.) "FORPLAN: an evaluation of a forest planning tool," U.S. Forest Service General Technical Report IRM-140, pp. 87-95] Marvin was not a real model, in particular not an algorithmic or formulaic model, but rather the name of a wise fellow who used to manage the Oregon State University school forests. No model was ever going to replace Marvin. Finally, the Forest Service abandoned FORPLAN in favor of simulation models projecting forest ecosystem trajectories. FORPLAN died with a whimper, with no death announced. But by then I had moved on to other wars against fundamentalists.

Rational-Planning Economics
In about 1983 I took a step upward (so I thought) in the Forest Service, moving from Regional Operations Research Analyst to Regional Economist for the Intermountain Region. I was hoping for higher standards than were common among the Operations Research crowd. Instead, I found the broader economics practice at minimum every bit as backward. During that era, the Forest Service Manual and Handbook championed an obsolete branch of economic thinking called Neoclassical/Rational Planning (See Alan Randall's classic article on resource economics schools of thought, 1985). Interestingly, Alan Randall had already declared "economic rational planning" dead just about the time I arrived on the scene. I spent a couple of years trying to get my Forest Service economic colleagues to recognize the death, or a least to engage in dialogue about various schools of economic thought—and what each school believed relative to other schools. But it was not to be. Nobody wanted to hear that message, neither to engage in that conversation. Instead they just wanted practice their economic priestcraft, narrowly framed around so-called "efficiency analysis"—concocting Present Net Value indices, alongside "economic impact assessments," trying to associate jobs and income with forest-related programs. My major "beef" was with the "efficiency analysis." I left equally vexing problems with "impact assessment" to my colleague Hank Robison. Since I could not practice what the Forest Service Manual and Handbook mandated, I set out to develop an alternative practice. I initially set out my "advice" in a small publication that I handed to people whenever/wherever I felt the need. I finally framed my advice (Economic Advice for Forest Managers) as part of a three-part series that I aired on Eco-Watch,1995.

But long before then I began research into who else was in the battle against government rational planning economics. It turned out that many were (and had been for a long time) waging a similar war in broader government settings. I compiled their findings and reconfirmed my view that I would not help people jinn-up formulaic, cost-benefit analysis numbers. I also advocated against the practice: Cost-Benefit Analysis: Wonder Tool or Mirage?

Leaving stuff around on the internet became my common practice, since I'd grown weary of trying to publish in so-called "refereed journals"—each associated with its own narrowly framed version of economics. Of course, none of it would make a dent in economic practice in the Forest Service, since FS Manual/Handbook materials were considered gospel. I often referred to it as the Gospel According to Marx, not Karl but rather Groucho. Finally though, just before my retirement in 2007, we whittled the Forest Service Economics Manual/Handbook down to two pages, that said in essence, go forth and practice economics according to the ideas/philosophies/methods of whatever school of economic thought a practitioner aligned themselves with. (Assuming that the court of public opinion could sort out economic wheat from chaff). I wonder what has happened since? [Note: In a world of my design, I would have just banished the Economics Manual and Handbook, right alongside almost all (or all) of the rest of Forest Service Manuals and Handbooks. But that was not to be]. This saga doesn't end here, there was yet-another fundamentalism to deal with, the fundamentalism of right-wing free-market fundamentalists.

Free Market Fundamentalism
About the time my rational planning wars were winding down, the Republican "right" gained much power in the United States and around the world (late 1990s – 2008). Part of their pitch since at least the time of Ronald Reagan was that markets will free us, government with its red-tape will bury us. In short: Markets Rock! Government Sucks! The agenda, according to spokesperson Grover Norquist was to "Shrink Government down to the size that we can drown it in a bathtub." These some call free-market fundamentalists, or market fundamentalists, some call them theoclassical economists. In the mid-1990s, Dick Behan called them Economic Taliban.

Free-market fundamentalists believe that individuals are supremely qualified to make all value decisions — or at least almost all — and that allowing government to interfere is pretty much a slippery slope to socialism. They do allow for voluntary collaboration of individuals—as long as it is done outside the purview of "government." They elevate "the market" to the end-all-be-all for providing for social benefits (allowing minor space for faith-based and other non-government institutions), and denigrate government wherever possible. To earn the title free-market fundamentalists, practitioners must subscribe to some form of market worship.

Ed Cone sums up the idea of "market worship", talking about the 2007-2008 financial implosion:

[T]he latest iteration of the old boom-and-bust story has reached the part where a few people get led away in handcuffs, while the legal crooks on Wall Street slink into the background until the next promotional cycle begins. The plot is timeless even as the details change with the decades.

This time it was supposed to be different. This was the millennium of the market. That may yet prove true in some ways, as the market economy is not about to join communism on history's ash heap. But things look depressingly familiar here in the era of capitalism triumphant. America's near-religious faith in the magic of the market has been revealed as idol worship.

The truth is that markets and corporations are not good or evil. They are machines, often very powerful and useful machines, but no matter how well you build them, they are run by human beings, and they are thus subject to the frailties of their designers, owners and operators. Only a think tank economist could be surprised to discover that business people are venal more or less in proportion to the general population. Certainly this is not news to anyone who has ever spent time in close proximity to an actual business.

Market worship goes way beyond the belief that private property and open economies can do the most good for the most people, or the assumption that there is a moral quality to economic freedom. Even the no-more-business-cycle claptrap of the Internet bubble was just an offshoot of the ideological view of markets that took root in this country during the '80s, flourished in the '90s and was last seen buried beneath a pile of worthless WorldCom shares.

The greatest impact of this market cult has not been on the economy, which is, after all, treading a beaten path, but on politics. A corollary of market perfection has to be the undesirability of nonmarket forces, especially in the form of government. Whatever else was driving the anti-government fervor of the late 20th century, the certainty that markets always knew best was part of the equation.

Some have argued that Free-Market Fundamentalism died sometime in 2007-2008 with the implosion of world financial markets. But that tragic event more likely emboldened free market fundamentalists in their quest to return the world to what they perceived as the wonderworld of yesteryear, with small shopkeepers and other independent entrepreneurs—as if that could happen in a world ever-more globalized—ever-more dominated by large global corporations.

I believe that free market fundamentalists helped lead us to that 2007-2008 day of financial reckoning, postponed at minimum by bad decisions by the US Federal Reserve—led by a supposedly reformed free market fundamentalist, Alan Greenspan. Many of us thought that the financial market bubbles would burst in the late 1990s, but even with the dot-com bubble burst, the markets (with the help of the government) were just catching a second breath. And no, I don't let other government players off the hook either, neither Wall Street's self-proclaimed "titans of finance," nor the so-called independent ratings agencies. There is plenty of blame to go around, but free market fundamentalists get their fair share of this blame. The battle against free-market fundamentalists goes on. I do my small part.

Free-market Environmentalism
A curious branch of free market fundamentalism attached itself to public lands and the environment. It was/is called "free-market environmentalism."This group too are fundamentalists: too narrow a perspective, too much emphasis on exorcising devils they believe they know, while allowing devils they don't know to gain power.

Free-market environmentalists, like their broader libertarian fellows seem to cluster around a narrow "Austrian School" or "Classic Liberalism" view of economics.

Practitioners tend to demonize the role of the state, and champion the workings of the market, based on deeply help principles necessitating, then elevating to near divine stature the idea of private property ownership. They leave little room for public ownership or control—mostly just the military. The Cato Institute, a hotbed of Austrian economic thought and "dedicated to the principles of individual liberty, limited government, free markets and peace"—sounds good so far—favors abolishment of these branches of the US Government (partial list): Department of Education, Department of Energy, Department of Agriculture, Department of Interior, Department of Transportation.

As for the public lands, they want the government to disappear. Specifically they advocate for either privatization of public lands, else some kind of fiduciary trust where money is a main driver. See, Chapter 23 of the Cato Handbook for Policymakers, 2009 (pdf). Or for a shorter version, see here. And it's not just Cato. The whole crowd of self-proclaimed free-market environmentalists have a similar agenda.

Given Cato and fellow travelers' "abolishment agenda" I find their public lands ideas disgusting. Wallace Stegner once declared the national parks our nation's best idea. The national forests/grasslands are just a step removed, and often provide a scenic/re-creational "context boost" for the national parks. Call me a public lands fundamentalist if you wish, but I find no meaningful rationale for Cato's stand. I can not stand idly by and let CATO and friends denigrate our public lands institutions based on a flawed reasoning. It is the stuff of a "leap of faith," justified in the main by a predetermination that "Markets rock! Government sucks!" that seems to drive them into their dreamland. Instead I side with Thomas More in his paper "Privatization of Public Lands," which ought to be subtitled "A bad Idea,"

[Note: For more on why some things ought to be dealt with as "public interest" and not left to the vagaries of the market, see in particular Mark Sagoff's The Economy of the Earth, Elizabeth Anderson's Value in Ethics and Economics, and Margaret Jane Radin's Contested Commodities. Note too that not all who are heavily influenced by Austrian economic thought fall into the fundamentalist trap. To fall into that trap, one must, like CATO, declare government to be the enemy.]

I continue a long-standing joust with the free-market environmentalists, which for me began many years ago at Utah State University, and will not end soon. I fully expect them to once-again serve up the public lands for privatization (in whole or in part) as the Congress begins to grapple with US national debt that has for too long been ignored. If/when that prospect becomes reality I'll be back on the battleground. In the meantime I'll continue my studies in heterodox economics.

Heterodox Economics
As for me, I believe in economic heterodoxy. Like Stephen Jay Gould I view economics as a history of technology and development, not as some formulaic quest to tame wicked social problems via mathematical economics. I believe we can learn from various schools of economic thought, as long as we remember that much of our study is to "avoid being deceived by economists" as Joan Robison once put it. I've learned much from various schools of economic thought including Austrians, Marxists, Keynesians and Post-Keynesians, practitioners of Ecological Economics, Institutionalists (including Evolutionary Economics), Behavioralists, Complexity Theory economics, from Information Economics. I base my own practice on a belief in separation of powers. Markets AND governments are both beneficial and necessary, but both also tend to abuse power. I believe that a natural tendency (in our age) is for business/industrial combinations to get big and powerful and corrupt. So too with government. The best we can do is to be ever mindful of power and its tendency toward corruption. We can not abolish either government or markets by administrative or legislative fiat. On the other hand we can work toward ever-better checks and balances on abuse of power wherever it arises.

Stop Killing Messengers: Banking and Finance Edition

Killing the messenger has been around for a very long time. In our day, we mostly don't shoot them (at least not in so-called "civilized countries"), but "it is still worth a man's neck to disturb an emperor's image. Nowadays the axe falls more subtly and the execution may be postponed, but sooner or later it comes." (citation in Wiki link above.)

Why not reward whistleblowers instead? If we were to reward whistleblowers, rather than killing them—figuratively, if not literally—we would have to reward them handsomely. Why? Because in most cases whistle blowing is a career-ending if not a job-ending move. Over at Macroeconomic Resilience Ashwin Parameswaran champions whistleblowing:

Compared to other whistleblowers, employees have the best access to the information required to uncover fraud. They also possess the knowledge to analyse and parse the information for any signs of fraud. This is especially important in a field such as banking where outsiders rarely possess the knowledge to uncover fraud even when they possess the raw information….

[M]onetary incentives have an even stronger role to play in uncovering fraud in banking. The extremely high lifetime pay expected in the course of a banking career combined with the almost certainly career-ending implications of becoming a whistleblower means that any employee will think twice before pulling the trigger. Moreover, the extremely specialised nature of the industry means that many senior bankers have very few alternative industries to move to. …

The focus must be not to keep whistleblowers from losing their jobs but to compensate them sufficiently so that they never have to work again. As it happens, the scale of fraud in financial institutions means that this may even be achieved without spending taxpayer money. The whistleblower may be allowed to claim a small percentage of the monetary value of the fraud prevented from the institution itself, which should be more than sufficient for the purpose.

There is little doubt that if Brooksley Born had been listened to by Robert Rubin, Alan Greenspan, and Larry Summers during the Clinton era, the 2007-8 US financial meltdown might have happened sooner, but would arguably have been milder.

Rewarding whistleblowers can serve as a compliment to an idea The Epicurean Dealmaker, put on the table to attract some highly-talented people into government service. To TED:

Staff the SEC, or whatever "Super Regulator" the government decides to deputize to oversee this mess, with a bunch of highly-paid, tough-as-nails, sonofabitch investment bankers. You will have to pay them millions, just like regular bankers. (You can tie their incentive pay to improvements in the value of securities held under TARP and TALF, if you like.) Pay them well, and investment bankers won't be able to treat them like second-class citizens at the negotiating table. Pay them like bankers, and your regulators won't hesitate to read Jamie Dimon or Lloyd Blankfein the riot act, because they won't give a shit about getting a job from them later.

Trust me, these are the kind of people you will need on your team: highly educated, financially sophisticated, psychotically hard-working, experienced professionals who know or can figure out CDOs, SIVs, balance sheet leverage, and credit default derivatives just as easily as the idiots who created and trade this shit. …

If these two measures were used to compliment other reform measures, we would go a long ways toward preventing future financial catastrophes.

[Personal Disclosure: I serve on the board for a little organization (FSEEE) set up to protect whistleblowers as a part of a three-part mission. What I've learned over 20 years is that there is little protection for whistleblowers. Despite high-sounding rhetoric in several Acts of Congress, whistleblowers usually lose most everything: jobs, families, property, etc. FSEEE, PEER, and GAP (three organizations I know that attempt to protect whistleblowers) all advise prospective whistleblowers not to blow the whistle, at least not publicly. Even though all three organizations know well the value of whistleblowers, they advise against the practice because the personal price to be paid is too high. Only crazy people blow the whistle, but FSEEE, PEER, and GAP (among others) stand ready to help by getting the message out (either anonymously or with what meager protection that can be offered by "going public in a big way").]

A Macroeconomic Resilience View

I took Rajiv Sethi's advice and read all Ashwin Parameswaran's posts at Macroeconomic Resilience. I promised myself early last year that I'd keep up on posts at Macroeconomic Resilience. Instead, I got swept up in despair over the BP oil spill, TEA Party emergence, and continued malaise following the financial implosion. I quit blogging and just hunkered down. But something got me started again. So today, I want to explore Parameswaran's thoughts on the resiliency of our banking/finance system.

I like the idea of working toward macroeconomic resilience. With resilience defined: "the capacity of a system to absorb disturbance and reorganize while undergoing change so as to still retain essentially the same function, structure, identity, and feedbacks."  It's all bit wonky, but it works. I like too that Macroeconomic Resilience may be the only financial economics blog I've seen that ties routinely to Buzz Holling and friends work, e.g. at the Resilience Alliance. I have championed that work for years in trying to move my old employer, the US Forest Service, into adaptive ecosystem management.

Here are a few themes I found while webcrawling through Macroeconomic Reslience,with example-hyperlinks:

Crony capitalism and rent-seeking

Path dependency (hysteresis)

Alternating security and turbulence along evolutionary transformation paths, e.g. Minsky's "stability breeds instability"

Organizational and Subsystem Rigidity

Schumpeter's Creative Destruction – with emphasis on recruitment

Rationality, Irrationality, and Bounded Rationality

Novelty, Surprize, Ignorance: e.g. Knightian Uncertianty

Tight Coupling and System Fragility

Similar ecologically-framed concepts are noted at Resiliance Alliance.

I will continue to follow Macroeconomic Resilience, and to engage Parameswaran in commentary on his blog. In the meantime here are a few salient points I gleaned from his posts:

I sense, perhaps incorrectly, what I'll call a "small is beautiful" bias woven throughout the posts. E.F. Schumacher's Small is Beautiful: Economics as if People Matter is my source for my chosen reference point. I too, harbor a similar bias. But I am not yet convinced that immediately breaking up the big banks is prudent strategy. Better perhaps, to work on regulatory rules that allow big banks to fail relatively gracefully, and see if the big banks have staying power in emergent banking/finance ecosystems as they evolve.

Another thing that bothered me is the notion that interest rates might now be too low. Maybe. But there is something that rings true about not being able to move objects by pushing on a string.On the other hand, if money is just going to "crony capitalists" to play derivative games that don't positively affect the "real economy", then maybe there is a point to be made. I'll have to look further into this notion. I certainly have argued, along with many others that Greenspan left interest rates too low for too long during the bubble-up era that predated the crash of 2008 (or thereabouts).

Unlike Nouriel Robini (last I checked), Parameswaran does not believe we ought to reinstate Glass Steagall, but rather that we need mechanisms to allow for a more diverse thereby resilient banking/finance sector. This argument deserves attention.

Fiscal Prudence or Union Busting?

One of my economic dreams, albeit implausible, is that governmental entities could learn to live within their means, and do so without the need for drama and crisis. Like many economists I see little harm in not balancing the budget in any given year, but see little good (and eventually much harm) in ever-increasing budget deficits year-on-year when measured in "real" dollars. This latter possibility I include in the nightmares realm.

Another recurrent economic nightmare is that somehow our politicians and captains of industry will so mess up our system that the United States will become an entrenched plutocracy (Wikipedia), better still kleptocracy (Wikipedia) — assuming that we are not there already. Note: All my chatter about power and corruption here.

Much of the talk this week about the budgetary plight of various states has oddly — likely by political calculation — been intertwined with talk of eliminating collective bargaining by state employee unions. Governor Scott Walker of Wisconsin has been at the epicenter of the debate on the issue, with tens of thousands of protesters surrounding the state capital. Walker's steadfast refusal to budge on "collective bargaining" for pensions and health care — which he wants to deny, although with exceptions for police and firefighters — puts him at odds with organized labor and with liberals generally (NY Times, Steven Greenhouse; Huffington Post, Robert Reich). Notably, police and firefighters too are standing with their fellow state employees in protests.

Alarmingly Interestingly, two Darth Vaders of key players in American plutocracy, the Koch brothers (Wikipedia), showed up in a cameo role. The incident was popularized in a stunt (Huffington Post, Jason Linkins), a fake phone call from David Koch to Governor Walker. For more, and tiny bit less bias than I've used here, see "Who's Afraid of the Brothers Koch" (NY Times, Tobin Harshaw)

Vampire's Lair or Plato's Cave?

I've spend a bunch of time on this blog trying to understand who played what roles in both the run up to, and the meltdown of the recent financial bubble. But I've not, until now covered Matt Taibbi's exposés, or "screeds" as some call them. [Note: I got 179,000 Google hits on "Matt Taibbi"+screed] Taibbi's, The Great American Bubble Machine, Rolling Stone (07/09/2009), libeled Goldman Sachs as a "great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money."

Ultimately in the court of public opinion, if not in the legal system, we have to come to grips with who among Wall Street players might have been playing the role of bloodmoney-sucking vampires, aided and/or least cheer-led by politicians, regulators, rating agencies, and the media.

However, since it proves too easy to charge others with crimes (or even moral turpitude), we need to introduce a notion that Gillian Tett talked about in Fool's Gold: that many were blind to realities that others readily saw. Some were blinded by their own institutions and subcultures. Some were simply blinded by greed and venality. All were (some still are) among those dwelling in modern-day versions of Plato's Cave (Wikipedia). To these we have to give a pass — I suppose — although we (and they) have lessons to learn about why we need whistleblowers, and why we all need to take responsibility to speak up when we think things seem not right.

In a recent update to his story, Why Isn't Wall Street in Jail?, Rolling Stone (3/3/2011), Taibbi leaves little doubt that a whole bunch of Wall Street players ought to be in jail for their roles in the meltdown of 2007-2009. See also Taibbi's recent interview with Amy Goodman at Democracy Now.

I don't disagree that many ought to be in jail. But "ought to" is easier than "will be." Too many laws (financial regulation, usury, etc.) were relaxed over the last decade or two, and too many people played too many games on both sides of the political aisle as well as on both sides of the regulatory game to make it easy to sort out bad-enough deeds — vampire deeds — to land very many people in jail.

No matter which court (public opinion or legal) we work with, how are we to decide whether folks were knowingly committing fraud? As noted earlier, the media and politicians too were seldom found on the peoples' side of the issue. Regulators and ratings agencies were either hoodwinked or captured. Those few who dared speak up lost their heads, figuratively speaking. Maybe instead we ought to handsomely reward whistleblowers.

Finally, how are we to determine deeds deemed bad enough to constitute fraud, when we know that both organizations and culture trap people into ideological and methodological traps from which few can escape. People become chained as prisoners, and blinded by circumstance in Plato's Cave, as Gillian Tett notes in the epilogue to Fool's Gold (2009):

[T]he financial world's lack of interest in wider social matters cuts to the very heart of what has gone wrong. What social anthropology teaches its adherents is that nothing in society ever exists in a vacuum or in isolation. Holistic analysis that tries to link different parts of a social structure is crucial, be that in respect to wedding rituals or trading floors. Anthropology also instills a sense of skepticism about official rhetoric. In most societies, elites try to maintain their power not simply by garnering wealth, but also by dominating the mainstream ideologies, in terms of both what is said and what is not discussed. Social "silences" serve to maintain power structures, in ways that participants often barely understand themselves let alone plan.

… In recent years, regulators, bankers, politicians, investors, and journalists have all failed to employ truly holistic thought—to our collective cost. Bankers have treated their mathematical models as if they were an infallible guide to the future, failing to see that they were based on a ridiculously limited set of data. A "silo" mentality has come to rule inside banks, leaving different departments competing for resources, with shockingly little wider vision or oversight. The regulators who were supposed to oversee the banks have mirrored that silo pattern, too, in their own fragmented practices. Most pernicious of all, financiers have come to regard banking as a silo in its own right, detached from the rest of society. They have become like the inhabitants of Plato's cave, who could see shadows of outside reality flickering on the walls but rarely encountered that reality themselves. The chain that linked a synthetic CDO [Collatorized Debt Obligation] of ABS [Asset Backed Securities], say, with a "real" person was so convoluted, it was almost impossible for anybody to fit it into a single cognitive map—be they anthropologist, economist, or credit whiz.

Yet the only thing that is more remarkable than this deadly state of affairs was that it went so unnoticed, for so long. [pp.252-3]

Let's leave final words to John Kenneth Galbraith, The Great Crash 1929:

One of the oldest puzzles in politics is who is to regulate the regulators. But an equally baffling problem, which has never received the attention it deserves is who is to make wise those who are required to have wisdom.

Some of those in positions of authority wanted the boom to continue. They were making money out of it, and they may have had an intimation of the personal disaster which awaited them when the boom came to an end. But there were also some who saw, however dimly, that a wild speculation was in progress and that something should be done. For these people, however, every proposal to act raised the same intractable problem. The consequences of successful action seemed almost as terrible as the consequences of inaction, and they could be more horrible for those who took the action.

See also: In Plato's Cave, The Economist, 01/22/2009

[Endnote: By their own admission, neither Taibbi nor Tett got their stories perfectly right. But they came close enough. Their main storylines hold true. And if they don't I suspect I'll hear about it soon.]

What About the Deficit?

Here in the US, the libertarian right tells us that we are doomed by a federal debt that will soon wreak havoc on the world's financial system, with much pain to be felt here at home. Perhaps they are correct, but I doubt it. If anything a debt problem will be chronic, not acute and near-term calamity is not likely. Their argument gains traction each year as budget deficits add to the debt, and no new jobs (net) seem to be an ongoing tragedy. Even if you don't buy their arguments, there may be other reasons to at least shift spending, if not both shift spending and reduce deficits. So it is at least time to begin to parse various proposals to cut into deficits and debt.

This week President Obama unveiled his budget. There wasn't much to cheer about, for those who hope to trim back a bit on our public debt. Obama and Co. trotted out the same old "let's whittle away at that small percent of government that has served for years as the politically correct set of "touchables," leaving Defense and Entitlements at minimum in the "untouchable" category. Nobody is buying Obama's offering as much more than political posturing w/r/t deficit reduction. So we'll have to look elsewhere for substantive suggestions.

Recently, Mother Jones' David Corn talked with David Stockman (Ronald Reagan's Budget Director) to get his ideas on tackling the problem, a problem Stockman dealt with, unsuccessfully, way back when. Stockman offered up a few ideas: First, cut military spending by $100 to $150 billion a year. Second, apply a means test to Medicare and Social Security. Third, massively raise taxes. On the third, Stockman suggested a Tobin Tax on financial transactions, adding that it might generate $100 billion annually. He also suggested a value-added tax on consumption.

I would add in a few others. Why not try to get another $100 billion/year from the Medical Industrial Complex? I suspect that if we were to seriously look at "end of life" excessive health care we might find that much there. But if not, we might look at excessive profits in the "Complex", and or excessive insurance costs, etc.

Why not get another big number by beginning to phase-in a gas tax? That way we would be hitting the Energy Industrial Complex, to compliment the hits already proposed to the Military, Finance, and Medical Industrial Complexes.

And we might get a bit by raising the tax, progressively, on America's top 5%.

What else might we tag on? We might as well begin developing lists, while we wait and wait for our politicians to do anything beyond "tax and spend" or "borrow and spend."

Note that Stockman also advocated for a "means test" on Social Security. I have thought this a good idea in times past, but now suspect that it wouldn't be worth the fight. Just raise taxes on the rich, and let them collect their pittance from Social Security.

Reinstate Glass-Steagall: Roubini says yes

I have been keeping an eye on various proposals to "reinstate" Glass-Steagall for quite some time. Sometime I ought to post a more comprehensive list as to who is in favor (and in what sense) and who is opposed. Clearly the folks at New Economic Perspectives (from Kansas City and Beyond) are so inclined. So too Nouriel Roubini, as reported by Tech Ticker, 4/11:

Roubini supports the 'Volcker Rule' which would force banks to stop proprietary trading. "Why should you use taxpayer money to essentially subsidize risky prop trading?," he asks.

Roubini goes even further, saying Congress should reinstate Glass-Steagall which separated commercial banking from investment banking. "If Goldman Sachs wants to be a hedge fund, so be it, but there should be a level playing field," he argues. "Other hedge funds don't borrow at zero rate with the guarantee of the government."

For more on the "Volcker Rule", and financial reform: 5/13 CNN Money video featuring Senator Ted Kaufman, D-Del that is worth a look, and 5/11 link featuring Nouriel Roubini.

Paul Krugman's ideas seem to differ a bit, and seem to be where the Obama Administration is trying to lead Congress. Here's Krugman, Financial Reform 101, 4/1:

It's easy to see where concerns about banks that are "too big to fail" come from. In the face of financial crisis, the U.S. government provided cash and guarantees to financial institutions whose failure, it feared, might bring down the whole system. And the rescue operation was mainly focused on a handful of big players: A.I.G., Citigroup, Bank of America, and so on.

This rescue was necessary, but it put taxpayers on the hook for potentially large losses. And it also established a dangerous precedent: big financial institutions, we now know, will be bailed out in times of crisis. And this, it's argued, will encourage even riskier behavior in the future, since executives at big banks will know that it’s heads they win, tails taxpayers lose.

The solution, say people like Mr. Volcker, is to break big financial institutions into units that aren’t too big to fail, making future bailouts unnecessary and restoring market discipline.

It's a convincing-sounding argument, but I'm one of those people who doesn’t buy it.

Here's how I see it. Breaking up big banks wouldn’t really solve our problems, because it’s perfectly possible to have a financial crisis that mainly takes the form of a run on smaller institutions. In fact, that’s precisely what happened in the 1930s, when most of the banks that collapsed were relatively small — small enough that the Federal Reserve believed that it was O.K. to let them fail. As it turned out, the Fed was dead wrong: the wave of small-bank failures was a catastrophe for the wider economy.

The same would be true today. Breaking up big financial institutions wouldn’t prevent future crises, nor would it eliminate the need for bailouts when those crises happen. The next bailout wouldn’t be concentrated on a few big companies — but it would be a bailout all the same. I don’t have any love for financial giants, but I just don’t believe that breaking them up solves the key problem.

So what's the alternative to breaking up big financial institutions? The answer, I'd argue, is to update and extend old-fashioned bank regulation.

And this is exactly what the Senate is now doing. Sort of. Economics of Contempt (EoC) is generally OK with regulatory reform that doesn't get too bizarre. On the other hand, EoC is particularly against the Sen. Blanche Lincoln's "Section 106" proposal as per derivatives. To EoC, 5/8:

Bloomberg has an excellent story on the origins of Blanche Lincoln's disastrous swaps proposal (the infamous "Section 106") — Bloomberg: How ‘Hard to Fathom’ Derivatives Rule Emerged in U.S. Senate. Short version:

The idea arose from a mix of policy debate, campaign politics and personal relationships -- and little consideration of the business or economic implications, according to interviews with Senate aides, administration officials and industry lobbyists.

Read the whole article. Oh by the way, Paul Volcker has now also come out against Section 106. Sheila Bair penned a letter to Lincoln sharply criticizing Section 106 last week, and the Fed circulated a memo on the Hill a couple weeks ago arguing that Section 106 should be deleted. …

The whole point is that Section 106 doesn't distinguish between prop trading and market-making. It bans banks from doing both. [Robert] Reich clearly has no clue what Lincoln's Section 106 proposal is even about — and yet he's already declared that failing to support it would be "pandering to Wall Street."

Look, this isn't difficult. Swaps are a critical part of modern banking. Just like normal commercial lending requires banks to serve as intermediaries between savers and borrowers, the swaps market also requires intermediaries (known as dealers, or market-makers). These intermediaries borrow short and lend (through swaps) long; they are susceptible to runs; and their disorderly failure can cause severe collateral damage to the real economy. Pretending that swap dealers aren't engaged in an important banking function by refusing to call them "banks" is not just delusional, it's also dangerous. And yet this is what Blanche Lincoln's Section 106 proposal aims to do.

Maybe Section 106 won't last long. According to one source, 5/12 "Reuters was reporting Monday that … Section 106, is going to get excised, perhaps this week."

Export Our Way Out of Debt?

Over at Fed Watch, Tim Duy reminds us to be keenly aware of the subtleties of international finance — and simpleton thinking that there are quick fixes. If everybody tries to export their way out of their finance problem all will lose. So too if even a bunch of countries try. It is one thing to be rightfully worried about Europe and the PIIGS, but we need also add in worries later this year about the USA and California, NY, and other states (also counties and municipalities). For those of us who have lived long enought to have assets, where do we find a "safe haven"?  Or do we? At Clusterfuck Nation, James Howard Kunstler believes that it is "over," meaning Western Civilization. Kunstler believes that we have finally pumped up the ultimate bubble, government debt pretty much worldwide, and that all bets are now off. We'll see!  To Duy, We Can't All Be (Net) Exporters 4/29:

The Greek crisis, which helped further extend the Dollar's uptrend in place since the beginning of the year, is a reminder that global imbalances are still with us - and, if not corrected, will eventually threaten the sustainability of the global recovery. Indeed, how sustainable can any recovery be if the vast majority of nations are pursuing an export oriented growth strategy? After all, clearly that is not a game all can play - there needs to be a net importer to offset the net exports. Who wants to fill that role? If the US is pushed into filling that role, we have simply come full circle over the past three years.

The Administration is clearly aware of this challenge, but concerns are growing that any action will fall short of what is necessary to bring about real change. From Sudeep Reddy at the Wall Street Journal:

President Barack Obama's goal of doubling U.S. exports over the next five years will be difficult to meet, business leaders and economists say, because of the lack of momentum on demolishing trade barriers and the shift by more American companies toward producing overseas.

U.S. exporters want Washington to put more pressure on trading partners to eliminate tariffs, crack down on intellectual-property violations and take a harder line on trading partners' currency policies. American firms say stronger action by the federal government could substantially boost prospects for U.S. exports.

Policymakers argue that it is far too early to admit defeat:

Christina Romer, chair of the White House Council of Economic Advisers, calls the administration's export target "an ambitious but reasonable goal."

"Going up 100% over a five-year period is not such a radical idea when you think about historical experience," she said, noting that exports increased more than 75% between 2003 and 2008. "It is going to be a gradual process. We are just starting the concrete steps in terms of what we can do to lower the fixed costs associated with exporting through trade promotion and commercial diplomacy."

… Am I the only one that finds the Administration's focus on doubling exports somewhat disingenuous? Economic growth depends on net exports - doubling exports is a fine goal, as long as import growth is contained, such that the net effect is positive. But with the economy bouncing back, will import growth remain contained? Recent signs are not supportive - the recovery so far has ended the improvement in the real trade gap….

[A]s the broad global financial crisis continues to fade, nations will increasingly attempt to withdraw fiscal support for their economies - even more so with the Greece example now so vivid - and attempt to rely on external growth to compensate. It is not a game everyone can win. But if it deteriorates into competitive devaluations, it is a game everyone can lose. 

Creeping hyperinflation anyone? As frightening as that prospect seems, Jim Kunstler spins it into something more immediately ominous. In And Chicks for Free, 5/10 Kunstler says:

[I]mbalances of global finance are so grotesque now that the whole money system is hanging together with nothing but spit and prayer. I get rafts of e-letters every week warning of a supposedly-coming global currency -- a companion idea to the notion of a one-world government. Both are idiotic fantasies. Events are taking the nations of the world in the other direction: towards break-up, down-sizing, down-scaling. Likewise, if major currencies such as the Euro and the dollar blow up, they're much more likely to be replaced by more local bank-notes backed by gold than by some hypothetical Amero or Globo-buck.

At seven a.m. Eastern time, the European stock markets were zooming, and Bloomberg even carried a wonderfully mysterious headline saying Greek Bonds Rally. That was especially rich -- like, who in the fuck is going to load up on Greek bonds now? Is there a pension fund somewhere run by such dimwits that they would sell their positions in the Goldman Sachs issued Timberwolf CDO in order to get in on the new bargain in ten-year Greek sovereigns? I hope those pensioners are prepared to spend what remains of their lives selling chestnuts from pushcarts on the streets of Oslo, because they sure won't be clipping coupons in front of any World Cup telecast.

As if life in the USA wasn't surreal enough last week. Once upon a time, the stock market was a  place where people with capital went to look for productive activity to invest in -- say, a company devoted to making soap flakes, an underpants factory. Now the market is a robot combat arena where algorithms battle for supremacy of the feedback loops.  Thursday's still-baffling fifteen-minute "crash" was an excellent demonstration of the diminishing returns of technology. People too-clever-by-half, aided greatly by computers, have now gamed the investment indexes so successfully that these markets no longer have anything to do with investment -- they're just about shaving micro-points of profit at high volumes by micro-milliseconds off mere differentials in... math! This is truly quant heaven, a place where only numbers matter and there is no correspondence to anything in the real world. In other words, last Thursday's bizarre action was a warning that the American stock markets have flown up their own aggregate ass.

So there you have it! If you find a safe place to hide assets, let me know. Goldbugs want you to buy gold. Rick Bookstaber (3/8) tells us that gold too is a bubble. According to Felix Salmon, 5/7, PIMCO's El-Erain is hyper-bearish and wants you to send money to them so they can out-compete all others.  So does Goldman Sachs.  Or maybe you are too small a fish for Goldman to bother with. In any case, Happy Tuesday.

Lingering question: Is there any way short of Jubilee (Jubilee Debt Coalition) to end this era of global imbalance? See, e.g.  Niall Ferguson: Bring on the debt jubilee!, 2/13/2009.

[End Note: I'm not a big fan of Debt Jubilee.  I believe people (and nation states) ought to be accountable for their debt. On the other hand I believe that institutions, e.g. financial institutions (government and private) ought to be accountable for setting up arrangements that are understandable to those who use them.  We have a big problem on our hands and seemingly no answers. This post is a bid dark, even for me.  Oh well, I categorized it under "irrational pessimism"--mine.]

The Government Debt Problem

I've been thinking about the public debt problem lately. Is the problem really a non problem or at minimum a problem of creeping gradualism, as many Keynesians seem to argue? Or is the problem acute: the next big bubble to burst, as argued lately by Doug Noland in various posts on at Credit Bubble Bulletin, most recently Tuesday April 27, 2010. A snip:

From my analytical perspective, the system has found its way into another "terminal phase" of excess – this time emanating from the Global Government Finance Bubble. Intoxicated yet again by the effects of loose “money,” the bulls see (inflating) markets as confirmation of sound system underpinnings. I, in contrast, see another policy-induced absolute mess in the pricing and distribution of finance throughout the entire system. As always, calling the timing of a Bubble’s demise is a perilous proposition. But I can sure see the makings of acute systemic fragilities.

Today, while wading through too many emails, I found a nice little tidbit from Bill Bonner, which should give us pause. Of course it won't give any pause to those who we might libel "inflationists". To Bonner, US Deficit Spending and Why Governments CAN Go Broke, The Daily Reckoning, April 30:

The private sector is de-leveraging...as near as we can tell. Private businesses cut their payrolls. They trimmed expenses. They protected their profit margins - generally.

But the public sector figures it has a different role to play...a countercyclical role. While the private sector eases off, the public sector puts the pedal to the metal.

That's been the story for the last year and a half. The government pays more. Hires more. And floats deeper in the water.

Walter Wriston once commented that the "government can't go broke." But that just shows you why the banking sector is in such trouble; Wriston ran Citibank…

The trouble with most people in economics and finance these days is that they study too much math and not enough history. If they read more history they'd know that governments go broke all the time. They'd probably get a hint about why governments go broke too - they pay too much; hire too many people; give away too much money on bread and circuses; and they get involved in too many costly foreign wars.

What's new?

Nothing really. But the fab finance is an innovation. Now, with the debt spread among so many unaware debtors…we can all go broke in a much bigger way. [Hyperlink added]

So, we will all watch as first Greece, then Spain, then the other PIIGS (and the rest of Euro-land) try to find a way out of the mess. And we'll watch later as the US tries to deal with California and about 5 other states, along with a bunch of big cities who are also in one hell of a fiscal mess.

For those like me who may have thought that their federal pensions were a safety net, we might want to think again! [Note: I never thought that I would get to keep all my federal pension benefits. I heard/read about the Great Depression, Native American "treaties" with the US Government, etc. long ago and realize that promises are the stuff of words. The link between word and deed is always and everywhere tenuous.]