We’ve all heard Obama repeatedly point the finger at McCain & Republicans for deregulating Wall Street - leading to this financial mess. Obama has basically become like a bad song on the radio - you hear something enough, it actually starts to sound decent, or in Obama’s case, seem like truth.
But deregulation isn’t really at the heart of the issue, according to American Enterprise Institute Fellow in recent Bloomberg piece (bolding added),
In the debate on Sept. 26, Democratic presidential nominee Barack Obama argued that the current crisis in the financial markets is the result of Republican deregulation.
The credibility of the charge depends on ignoring several important facts:
– There has been a great deal of deregulation in our economy over the last 30 years, but none of it has been in the financial sector or has had anything to do with the current crisis. Almost all financial legislation, such as the Federal Deposit Insurance Corp. Improvement Act of 1991, adopted after the savings and loan collapse in the late 1980s, significantly tightened the regulation of banks.
– The repeal of portions of the Glass-Steagall Act in 1999 — often cited by people who know nothing about that law — has no relevance whatsoever to the financial crisis, with one major exception: it permitted banks to be affiliated with firms that underwrite securities, and thus allowed Bank of America Corp. to acquire Merrill Lynch & Co. and JPMorgan Chase & Co. to buy Bear Stearns Cos. Both transactions saved the government the costs of a rescue and spared the market substantial additional turmoil.
None of the investment banks that got into financial trouble, specifically Bear Stearns, Merrill Lynch, Lehman Brothers Holdings Inc., Morgan Stanley and Goldman Sachs Group Inc., were affiliated with commercial banks, and none were affected in any way by the repeal of Glass-Steagall.
– Republicans have favored financial regulation where it was necessary, as in the case of Fannie Mae and Freddie Mac, while the Democrats have opposed it. In 2005, the Senate Banking Committee, then under Republican control, adopted a tough regulatory bill (for which McCain was a voluble co-sponsor) for Fannie and Freddie over the unanimous opposition of committee Democrats. The opposition of the Democrats when the bill reached the full Senate made its enactment impossible. [...]
– The subprime and other junk mortgages that Fannie and Freddie bought – and the market in these mortgages that their buying spawned — are the underlying cause of the financial crisis. These are the mortgages that the Treasury Department is asking for congressional authority to buy. If the Democrats had allowed the Fannie and Freddie reform legislation to become law in 2005, the entire financial crisis might have been avoided.
Obama & Democrats are pulling a bait & switch with regard to subprime lending as well. Apparently, Democrats had nothing to do with pushing home ownership for those who couldn’t afford homes. At-will dementia is a powerful and pathetic thing.
Technorati Tags: Economy, Fannie Mae, Freddie Mac, housing crisis
Greg Mankiw (if you’ve ever taken macro, you know this prof) received a note critiquing the critics of Paulson’s Plan. It’s important to hear from the folks in the field, no matter how much you may distrust what they have to say. Note follows with my bolding.
Academic economists don’t like the Treasury plan, but nearly all of the Wall Street economists are for it. You don’t have to be all that cynical to say that the Wall Street economists are talking their book. But I’d like to think that there is at least in part a sense in which they are more attuned to the reality of the situation in credit markets — that last week we were a day or two away from a breakdown of the financial system.
Here are three common critiques from the academics and journalists and what they are missing:
1. “Treasury must overpay for this to work because otherwise you are not injecting new capital, only adding liquidity.”
Treasury is talking with the experts you would expect — prominent academics who have designed auctions. It’s complex because there are so many different MBS (Mortgage-backed Securities), but Treasury is committed to get the market price as best as it can. It will not intentionally overpay. But the assertion that the plan will not boost capital is wrong. If Treasury gets the asset prices exactly right next week when the reverse auction starts, those prices will be higher than the prices that would have obtained before the program was announced. That difference means that by paying the correct price next week we will be injecting capital relative to the situation ex-ante. Treasury does not need to overpay. And the taxpayer can still see gains — say if the announcement and enactment removes some uncertainty about the economy and asset performance, but not all. Then prices could rise further over time. But the main point is that it is not necessary to overpay to add capital. I think Krugman is a leading purveyor of the “they must be intending to overpay” assertion.
2. “Taxpayers will be better off if Treasury gets warrants.”
This is essentially the assertion made in David Leonhart’s column in the NY Times on Wednesday. And it again illustrates that we would all be better off if high schools taught the Modigliani-Miller theorem. MM implies that the price of the asset (again,assuming the auction gets it right) will adjust to offset the value of any warrants Treasury receives. In this case of a reverse auction, imagine that the price is set at $10. If Treasury instead demands a warrant for future gains of some sort, then the price will rise in the expected amount of the warrant — say that’s $2. Then the price Treasury pays for the asset will be $12. Some people might prefer to get $12 in cash and give up a warrant worth $2 in expected value. Fine, that’s a choice to be made. But the assertion that somehow warrants are needed is simply wrong.
3.”The plan should be to inject capital instead.”
This is the Luigi Zingales criticism. Again, that’s a fine plan and might be a good idea. But that’s a complement to an asset purchase plan, not a substitute — and it’s one allowed by the Treasury proposal and indeed envisaged in some cases. But that will take much longer to implement than an asset purchase. That’s why it’s a complement not a substitute — Treasury needs to act now. The particular ideas from Zingales et al that there should be a forcible capital injection are pure ivory tower, unfettered by the practicalities of legality, enactment, or implementation.
Technorati Tags: Bailout, Economy, Paulson, Treasury
McCain & Obama’s differing attitudes toward tackling the economic crisis has kept the country, already reeling from the financial saga, focused on the presidential race. Act II of this saga: McCain’s risky, indeed maverick, move to delay the first debate is considered by liberal MSM & polled voters as a mistake, while conservative proponents view his decision to focus on the economy as presidential and verification that McCain does indeed put “Country First.” Obama remains focused on his campaign (easily able to handle both debate & legislation to save the economy), quick to voice caution, and reluctant to return to Washington (though he did come back for a meeting today at the behest of the current President).
Right now, the Presidential Debate Commission says the Friday debate is still on, and whether it’ll turn into an Obama stump speech is definitely possibility. Is this crisis really important enough for either Obama or McCain to postpone their campaigns, or does the crisis merit more discussion (i.e. debate) from the candidates for voters to better determine how they would act as President?
Brookings published simple explanation of the crisis in “A Brief Guide to Fixing Finance”
- The bubble in home prices, fueled by the ready availability of credit, resulted in an underestimate of the risks of residential real estate;
- The peaking of residential home prices in 2006, combined with lax lending standards were followed by a very high rate of delinquencies on subprime mortgages in 2007 and a rising rate of delinquencies on prime mortgages;
- Losses thereafter on the complex “Collateralized Debt Obligations” (CDOs) that were backed by these mortgages;
- Increased liabilities by the many financial institutions (banks, investment banks, insurance companies, and hedge funds) that issued “credit default swaps” contracts (CDS) that insured the CDOs;
- Losses suffered by financial institutions that held CDOs and/or that issued CDS’s;
- Cutbacks in credit extended by highly leveraged lenders that suffered these losses.
McCain characterized the consequences of these actions in his address yesterday (my bolding),
We must pass legislation to address this crisis. If we do not, credit will dry up, with devastating consequences for our economy. People will no longer be able to buy homes and their life savings will be at stake. Businesses will not have enough money to pay their employees. If we do not act, ever corner of our country will be impacted.
Many have called for the debate to go on and believe that is political suicide for McCain to suspend his campaign. Perhaps so. McCain has made clear, political stratagem or no, that he is going to live up to his pay grade and develop an appropriate solution and build congressional consensus behind economic legislation.
Obama’s statement on the economy urged congress to focus on the “broad principles” that he & McCain put forth (my bolding).
There are times for politics, and then there are times to rise above and — politics, and do what’s right for the country.
So, in my mind, actually, it’s more important than ever that we …try to describe where we want to take the country and where we want to take the economy, as well as dealing with some of the issues of foreign policy that were initially the subject of the debate.
Indeed, in this statement, Obama highlights just how much he speaks,
I have been in constant contact with leadership in Congress. I have talked to Secretary Paulson just about every day. I spoke to him twice today…
I have spoken to congressional leaders every day this week. I have spoken to Secretary Paulson every day this week.
But, keep in mind, again, I’m talking to Nancy Pelosi, Harry Reid, the congressional leadership, Hank Paulson, I’m talking to them every single day.
We have an economic crisis with the potential to financially cripple millions of lives - the absence of liquidity in the markets has serious ripple effects that must be addressed. Congress must submit a timely, appropriate solution signaling confidence in the market system to prevent companies from artificial or premature collapse (from investor panic and liquidity calls).
The difference between the two candidates is starkingly clear. McCain is a man of action & risk (indeed as a military officer, he had to quickly assess the situation and act - or else face death). Obama feels the need to “describe” the issue to convince voters of how he would act - a step shy of acting himself. Voters need to decide if the saying, “actions speak louder than words,” really has merit after all.
To be continued in Act III.
Technorati Tags: Economy, McCain, Obama, Presidential Debate
No response to the financial market turmoil has provided a quick and easy answer to quell the general apprehension out on the street. Obama and McCain stuck to their brands, with varying and questionable success.
Obama, ever cautious, deliberated — preferring to address the “worst financial crisis since the Great Depression” as a bench warmer. Obama’s nuanced views apparently rendered him incapable of providing his supporters with the “common sense, practical leadership, & economic stewardship” that they needed. His criticism of McCain & the Bush Administration - doing “nothing as the crisis hits” - would be leveled at Obama’s own reaction by conservative critics.
And McCain? His maverick persona may have gotten the better of him this past week. McCain certainly was no shrinking violet. And supporter or no, rightly or wrongly, McCain puts his position out there for voters to sink their teeth into - as many in the media did this past week.
As we all know, the financial crisis isn’t a band-aid fix, and taxpayers will bear the brunt of any solution passed. Therefore, it is especially vital to consider economic and tax policies of both candidates with the inevitable burden of the financial market bailout. NBC did a brief rundown earlier this year:
Obama’s fairness doctrine, which Biden famously muddied with patriotic language, is income redistribution and welfare advancement on a scale we haven’t seen in decades. But it’s nothing new - America has taken this pony ride before. Stephen Moore’s article looking at income mobility in America points out our past:
Q. Are high tax rates on the rich a good way to redistribute income?
A. No. History teaches us that high tax rates are the worst way to redistribute income to the poor and the middle class. I recently reviewed IRS tax return data by income group going back to 1972. The results are jaw-dropping. In 1972, when the highest tax rate on the rich was 70 percent and the top capital gains tax rate was 35 percent, the richest 1 percent of Americans paid 17 percent of the income tax burden. Today, with a top income tax rate of 35 percent and capital gains at 15 percent, they pay 39 percent. With higher income tax rates the rich shelter more of their income through tax carve-outs, they invest less in the United States and more abroad, and they work less. The Robin Hood strategy has almost always failed because it means less income, not more, to take from the rich and give to the poor.
Contrary to what Obama (and some Democrats) would have us believe, the “poor” are not stuck in poverty, and the “middle class” are not on the verge of collapse. Quality of life and consumption standards have improved across all economic strata.
Q. Have the income gains by the rich come at the expense of the middle class and the poor?
A. Since 1983, every income group has seen an advance in after-tax income (see graph 1). Yes, the gains of the very rich have increased the fastest. But that is in part because of a statistical illusion. When poor people earn more over time, they move into the middle class or the upper class and are no longer classified as poor. Consider someone who was earning $20,000 a year and saw her income move to, say, $50,000 as she moved up the career ladder. That 150 percent gain in income isn’t apparent, because we no longer categorize her as poor. But every penny of income gain by a rich person is counted, because there is no higher income class she can move into.
Another problem with comparing the distribution of income from one point in time with another is that up to 1.5 million new immigrants enter the United States every year. A fairly high percentage of these immigrants start at the bottom of the income ladder, replenishing the people who are at the bottom rungs. This creates the impression that poor people do not make significant progress in the American labor force.
Q. Is there really a ‘war against the middle class’ in America as claimed by people such as CNN’s Lou Dobbs?
A. Well, if the middle class is fighting a war, they’ve been winning. Graph 2 shows the income range needed to be considered in the middle class in the United States (between the 40th and 60th percentiles in income for families). In 1967 the average middle-class pre-tax income was about $40,000; in 2005 it was about $60,000. And this does not include the increased generosity of non-wage and non-salary benefits such as healthcare, pensions, flexible workweeks, and more family leave, vacation, and holidays.
Most economists agree that when these income numbers are adjusted by a more accurate inflation measure—one that takes full account of the improved quality of the products we now have access to, such as cell phones, laptop computers, and new medical technologies, for example—the purchasing power of the American middle-class family is about one-third higher today than in the 1970s.
The Census Bureau family income data indicate that in 1967 one in 20 families had an income of $100,000 or more (in today’s dollars). In 2005 one in six families did. There are three times as many families earning more than $75,000 a year today than there were in 1967.
The challenge for the future administration is to provide real economic growth. The tax burden of the financial bailout cannot be alleviated through mere tax increases. In this fragile economic period and highly sensitive consumer confidence, the economy cannot afford to withstand the sophist’s “fair” and “patriotic” tax policy totally devoid of historical perspective.
Technorati Tags: class warfare, Economy, McCain, Obama, tax policy
Amidst the daily shake-up of the financial sector, Barack Obama compared this as “the most serious financial crisis since the Great Depression.” Obama railed against Bush (and ergo McCain), outraged at the 6.1% unemployment rate and the 504-point (4.4%) drop in the Dow Jones average.
Here, Obama goes beyond hyperbole to mislead us. Absolutely, the economy has yet to recover from the sub-prime mortgage fallout. However, economic history is proof positive that his gloom & doom assessment of our current economy is a better argument for Obama being “out of touch” with reality.
Does he think that we don’t know unemployment didn’t drop below 6.1% from 1975-1987 …and went as high as 9.7%? How would Barack Obama characterize those years?
Obama’s economic vision for America and his obvious admiration for the European model should give us pause. Does Obama look so kindly on a model which, in practice, results in unemployment rates generally higher than the US and in some cases, a broken welfare state?
Admittedly, Obama is not the only politician or pundit to cry foul at the increase in unemployment. But many critics are the same people who bemoaned the 4.6% unemployment last year and every year under the current administration.
And to be fair, the rate of unemployment that balances with steady inflation has decreased over the past decades. Maintaining control over inflation is a challenge for Bernanke & the Fed. Hopefully, they will act appropriately.
DJIA did drop 4.4% on Monday, and barring a slight recovery the following day, it’s dropped 7.1% so far this week. Compare this with the one day 7.68% drop following 9/11 and 22.61% loss on Black Monday, October 19, 1987. And there are more large one-day drops:
7.74% on 10/24/1997
7.42% on 10/12/1989
7.36% on 01/07/1988
8.74% on 10/23/1987
7.00% on 09/23/1955
22.46% on 06/05/1945
7.27% on 05/20/1940
7.30% on 05/13/1940
Great Depression 1929-1939
12.78% on 12/17/1921
11.81% on 09/19/1918
7.81% on 01/31/1917
30.76% on 07/30/1914
7.42% on 07/29/1914
14.46% on 03/16/1911
13.08% on 10/28/1908
But I’m comparing oranges to clementines. Though should not diminish the serious problems at Fannie, AIG, et. al., the losses listed above are probably more significant than what we’ve experienced today. Obama’s freehanded revision of economic history and the future outlook banks on voters’ “short-term memory” mentality - and his assumption that we’re not smart enough to access public statistics.
Technorati Tags: Barack Obama, Economy, Stock market, Unemployment
