March 27, 2009
Slicing and dicing the Recession
Explanations of the current recession are often bent by biased analysis, making truth as elusive as it is complex.
Language is the first challenge most of us face. "Tranche" (French: to slice or cut - maybe it has something to do with cooking) is a popular word these days.
Then there's that myriad of perplexing acronyms: CDOs (collateralized debt obligations), CMOs (collateralized mortgage obligations), CLOs (collateralized loan obligations), ABSs (asset backed securities), SPEs (special purpose entities), CDO2's and CDO3's (those ugly step-children of CDOs - like taking the discarded apples in an orchard and selling them labeled according to their progressive states of rot.).
And let's not forget SIVs (structured investment vehicles) and those downright scary CDSs (credit default swaps, like bungee cords made of over-cooked spaghetti).
All part of a dizzying array of esoteric terms that provokes a lament some of us haven't voiced in decades: "Geez, how much of this s%#&'s goin' to be on the final?"
But you want to understand where we are, and how we got here, so you buckle your chin strap and read books written by reputable authors, published by credible houses.
Among the current works that analyze the meltdown are two that have "meltdown" right there in their titles. Shouting "Hey, read me!"
When compared, they illustrate how presuppositions spin analysis.
Thomas E. Woods, Jr.'s book, Meltdown, A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and the Government Bailouts Will Make Things Worse. Woods writes:
"It is not simply that government spending has reduced the pool of savings and relatively impoverished the population, though that is of course true. But when government runs deficits (that is, when it spends more that it receives in taxes) and borrows the money to make up the difference, it pushes interest rates upward. If the Fed is coordinating its injections of new money with reference to a particular interest rate - if it has an interest rate target, in other words - then the higher interest rates caused by deficit spending mean the Fed has to inject ever more money to force rates back down to the target again. In that way, government borrowing encourages further money reaction and thus the continuing debasement of the dollar." (pp. 149-150)
So, the causes are the Fed's loose monetary policy that started going very wrong, he suggests, with the reign of Alan Greenspan, aggravated by deficit federal spending. In other words, a derivative built from mixed cloning using DNA from Milt Friedman and John M. Keynes.
Now, we turn to the other book with "meltdown" in its title: The Two Trillion Dollar Meltdown: Easy Money, High Rollers, And the Great Credit Crash, by Charles R. Morris.
Morris blames Wall Street and its fetish for creating mathematically mind-boggling derivative variations, like flavors of Baskin Robbins ice cream. Herds of nerdish financial math gremlins were turned lose to wreak havoc on The Street with their infectious CCSs (collateralized cycloidic securities - I made that one up.)
"Residential mortgages became grist for quantitative portfolio management after they had been re-engineered into instruments that looked much like tradable bonds. The investment efficiencies generated large benefits for both investment banks and consumers but were quickly carried to dangerous extremes." (p. 58)
Here's his perps list.
"All three of these trends - the shift of financial transactions to unregulated markets, the steady worsening of the Agency problem [which he defines as "the problem of ensuring that an employee, a contractor, or a company performing a service doesn't act against your interest"], and the pretense that all of finance can be mathematized - flowed together to create the great credit bubble of the 2000s." (p. 58)
Near the end of his book, Morris shoehorns in a discussion of wealth inequality, the need for investment in the country's infrastructure, and health care reform. (Where have we heard this before? Did I mention that, in the book's Foreword, Morris credits George Soros - who is bragging now about making $1.1bn during the recession - for helping him understand currencies?)
His last paragraph reads:
"In other words it comes down to taste, and balance, and judgment. My personal belief is that the 1980s shift from a government-centric style of economic management toward a more markets-driven one was a critical factor in the American economy recovery of the 1980s and 1990s. But the breadth of the current financial crash suggests that we've reached the point where it is market dogmatism that his become the problem, rather than the solution. And after a quarter-century run, it's time for the pendulum to swing in the other direction." (p. 177)
So, according the Morris, the fix is more government regulation. What a surprise! And, he never mentions the Community Reinvestment Act, or the evil twins, Fannie & Freddie.
This brings us the climax at the mystery dinner-theater. The host asks:
"So who done it, folks? Was it:
(A) The self-assured, slick, 30-something greedy Wall Street Ivy League financier?
(B) The frumpy-suited, federal bureaucrat who consumes the people's money like a bowl of shelled pistachios at a comp bar? Or,
(C) The self-serving elected politicians who hunger for power when what they lack most is intelligence and integrity?"
How about a (D) for all of the above?