October 12, 2008

CRASH TALK OCTOBER 12

Katrina vanden Heuvel, Nation - More than a decade ago, a woman you're likely never to have heard of, Brooksley Born, head of the Commodity Futures Trading Commission-- a federal agency that regulates options and futures trading--was the oracle whose warnings about the dangerous boom in derivatives trading just might have averted the calamitous bust now engulfing the US and global markets. Instead she was met with scorn, condescension and outright anger by former Federal Reserve Chair Alan Greenspan, former Treasury Secretary Robert Rubin and his deputy Lawrence Summers. In fact, Greenspan, the man some affectionately called "The Oracle," spent his political capital cheerleading these disastrous financial instruments.

On Thursday, the New York Times ran a masterful and revealing front page article exposing the culpability of Greenspan, Rubin and Summers for the era of dangerous turbulence we live in. . .

In 1997, Brooksley Born warned in congressional testimony that unregulated trading in derivatives could "threaten our regulated markets or, indeed, our economy without any federal agency knowing about it." Born called for greater transparency--disclosure of trades and reserves as a buffer against losses.

Instead of heeding this oracle's warnings, Greenspan, Rubin & Summers rushed to silence her. As the Times story reveals, Born's wise warnings "incited fierce opposition" from Greenspan and Rubin who "concluded that merely discussing new rules threatened the derivatives market." Greenspan deployed condescension and told Born she didn't know what she doing and she'd cause a financial crisis. (A senior Commission director who worked with Born suggests that Greenspan and the guys didn't like her independence. " Brooksley was this woman who was not playing tennis with these guys and not having lunch with these guys. There was a little bit of the feeling that this woman was not of Wall Street.")

In early 1998, according to the Times story, one of the guys, Larry Summers, called Born to "chastise her for taking steps he said would lead to a financial crisis. But Born kept at it, unwilling to let arrogant men undermine her good judgment. But it got tougher out there. In June 1998, Greenspan, Rubin and the then head of the SEC, Arthur Levitt, Jr., called on Congress "to prevent Ms. Born from acting until more senior regulators developed their own recommendations." (Levitt now says he regrets that decision.) Months later, the huge hedge fund Long Term Capital Management nearly collapsed--confirming some of Born's warnings. (Bets on derivatives were a key reason.)

"Despite that event," the Times reports, " Congress (apparently as a result of Greenspan & Summer's urging, influence-peddling and pressure) "froze" Born's Commissions' regulatory authority. The next year, Born left as head of the Commission.

Portland Press Herald - In Maine, weekly unemployment claims hit 8,524 during the first week of October. That compares to 5,888 during the same period last year. . . New online job postings in Maine fell from 12,000 to 10,900. . . Year-over-year traffic on the Maine Turnpike plummeted 15 percent in September, to levels last seen in 1999. Beyond tourism travel, it reflects a decline in the movement of goods and commerce linked to jobs. . . L.L. Bean is one of the state's largest employers, with 4,000 year-round workers in Maine. It relies heavily on seasonal help to fill holiday orders, hiring 7,000 workers last fall. This season, it's bringing on 5,400 – a 23 percent reduction.

Market Watch - Federal regulators have ordered Fannie Mae and Freddie Mac to start buying $40 billion of troubled mortgage bonds each month as the U.S. government tries to revive the economy, according to a published report. . . The purchases would be separate from the U.S. Treasury's $700 billion bailout plan, which was signed into law earlier this month, Bloomberg noted. Fannie and Freddie were taken over by the U.S. government in early September, in the first of several bailouts the government has launched recently to try to halt the spread of the mortgage-fueled credit crisis.

Washington Post - The stock market's prolonged tumble has wiped out about $2 trillion in Americans' retirement savings in the past 15 months, a blow that could force workers to stay on the job longer than planned, rein in spending and possibly further stall an economy reliant on consumer dollars, Congress's top budget analyst said. . .

Despite the losses, companies will still be obligated to pay out the same pensions promised to employees but will have to recoup the extra costs in other ways, Orszag said. "When pension assets decline in 401(k) plans, the burden is on the workers," he said. "When pension plan assets decline in defined-benefit plans, the burden is on the firm to make up the difference. The firm will have to pass those costs on to their workers, to their shareholders or to consumers."

Defined-benefit plans are company-sponsored programs that provide retirement payouts based on an employee's salary and tenure. The company shoulders the bulk of the investment decisions and risk. Defined-contribution plans, such as 401(k)s, turn those tasks over to the worker and are subject to the whims of the stock market.

Increasingly, employers have switched workers into defined-contribution plans. The federal government has also pushed 401(k) plans heavily, approving a law late last year that makes it easier for employers to automatically enroll their employees in them and other similar retirement plans.

Defined-contribution plans tend to be more heavily weighted in stocks, either through individual holdings or mutual funds. As a result, said Orszag, "the value of assets in defined-contribution plans may have declined by slightly more than that of assets in defined-benefit plans."

Brady Wiseman
- Talk about the Fed buying commercial paper is not new. It was in the title of the original Federal Reserve Act in 1913: "An Act To provide for the establishment of Federal reserve banks, to furnish an elastic currency, to afford means of rediscounting commercial paper, to establish a more effective supervision of banking in the United States, and for other purposes." In fact, when the bankers were on their PR campaign to sell the system to the people, they plainly said that the Fed would serve private companies, not just well-connected banks, by buying their commercial paper, thus making the peoples' credit available to, well, the people. In those days, commercial paper was much more widely used by much smaller companies than have access to it today. Another historical fact: Mr. Goldman and Mr. Sachs got their start in banking by peddling commercial paper.

Robert J. Shiller, Washington Post - In his farewell address back in 1796, 20 years after the publication of Adam Smith's "The Wealth of Nations," George Washington defined the new republic's own distinctive national economic sensibility: "Our commercial policy should hold an equal and impartial hand; neither seeking nor granting exclusive favors or preferences; consulting the natural course of things; diffusing and diversifying by gentle means the streams of commerce, but forcing nothing." From the outset, Washington envisioned some government involvement in the commercial system, even as he recognized that commerce should belong to the people.

Capitalism is not really the best word to describe this arrangement. (The term was coined in the late 19th century as a way to describe the ideological opposite of communism.) Some decades later, people began to use a better term, "the American system," in which the government involved itself in the economy primarily to develop what we would now call infrastructure -- highways, canals, railroads -- but otherwise let economic liberty prevail. I prefer to call this spectacularly successful arrangement "financial democracy" -- a largely free system in which the U.S. government's role is to help citizens achieve their best potential, using all the economic weapons that our financial arsenal can provide.

So is the government's bailout a major departure? Hardly. Today's federal involvement offers bailouts as a strictly temporary measure to prevent a system-wide financial calamity. This is entirely in keeping with our basic principles -- as long as the bailout promotes, rather than hinders, financial democracy.

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