Kevin Drum - October 2008

Quote of the Day - 10.05.08

| Sun Oct. 5, 2008 2:27 PM EDT

QUOTE OF THE DAY....From George W. Bush, dressing down an advisor who suggested that his 2001 tax rebate plan was bad policy:

"If I decide to do it, by definition it's good policy."

That's from Ron Suskind. Click the link for more.

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Iceland's Collapse

| Sun Oct. 5, 2008 2:06 PM EDT

ICELAND'S COLLAPSE....You think there's a banking crisis in the United States? Just be glad you don't live in Scandinavia's smallest country:

Iceland is on the brink of collapse. Inflation and interest rates are raging upwards. The krona, Iceland's currency, is in freefall and is rated just above those of Zimbabwe and Turkmenistan. One of the country's three independent banks has been nationalised, another is asking customers for money, and the discredited government and officials from the central bank have been huddled behind closed doors for three days with still no sign of a plan.

....On Friday the queues at the banks were huge, as people moved savings into the most secure accounts. Yesterday people were buying up supplies of olive oil and pasta after a supermarket spokesman announced on Friday night that they had no means of paying the foreign currency advances needed to import more foodstuffs.

I have to say, though, that the citizens of Iceland seem to be taking their travails remarkably cheerfully. "We will have to eat haddock and Icelandic lamb and forget these imports of goose livers and Japanese soy sauce," says Iceland's most famous chef. And drink more liquor. Lots more liquor.

It's October!

| Sat Oct. 4, 2008 7:49 PM EDT

IT'S OCTOBER!....The Washington Post has this year's least surprising story:

Sen. John McCain and his Republican allies are readying a newly aggressive assault on Sen. Barack Obama's character, believing that to win in November they must shift the conversation back to questions about the Democrat's judgment, honesty and personal associations, several top Republicans said.

Golly. Who could have predicted that a Republican presidential campaign would go down this road when October rolled around?

Financing Fannie

| Sat Oct. 4, 2008 3:42 PM EDT

FINANCING FANNIE....The New York Times continues "The Reckoning" today, its series of stories about the origins of the credit crisis. Today's piece about Fannie Mae makes a couple of things clear. First, Fannie wasn't in any way the cause of the crisis, it was merely following Wall Street's lead. Angelo Mozilo, the head of mortgage giant Countrywide Financial, made that clear to Fannie's CEO, Daniel Mudd, in 2004:

Mr. Mozilo, who did not return telephone calls seeking comment, told Mr. Mudd that Countrywide had other options. For example, Wall Street had recently jumped into the market for risky mortgages. Firms like Bear Stearns, Lehman Brothers and Goldman Sachs had started bundling home loans and selling them to investors — bypassing Fannie and dealing with Countrywide directly.

"You're becoming irrelevant," Mr. Mozilo told Mr. Mudd, according to two people with knowledge of the meeting who requested anonymity because the talks were confidential. In the previous year, Fannie had already lost 56 percent of its loan-reselling business to Wall Street and other competitors.

"You need us more than we need you," Mr. Mozilo said, "and if you don't take these loans, you'll find you can lose much more."

Second, this was a bipartisan screwup. Democrats and Republicans were both eager to keep the housing market bubbly:

Capitol Hill bore down on Mr. Mudd as well...."When homes are doubling in price in every six years and incomes are increasing by a mere one percent per year, Fannie's mission is of paramount importance," Senator Jack Reed, a Rhode Island Democrat, lectured Mr. Mudd at a Congressional hearing in 2006. "In fact, Fannie and Freddie can do more, a lot more."

....The White House also pitched in. James B. Lockhart, the chief regulator of Fannie and Freddie, adjusted the companies' lending standards so they could purchase as much as $40 billion in new subprime loans. Some in Congress praised the move.

"I'm not worried about Fannie and Freddie's health, I'm worried that they won't do enough to help out the economy," the chairman of the House Financial Services Committee, Barney Frank, Democrat of Massachusetts, said at the time. "That's why I've supported them all these years — so that they can help at a time like this."

The whole piece is worth reading.

Beyond Paulson

| Sat Oct. 4, 2008 3:15 PM EDT

BEYOND PAULSON....The Paulson bailout plan has several underlying theories. First, by buying up toxic securities at above market prices, it injects needed capital into troubled banks. Second, by creating a market for these securities, it will raise the value of the toxic waste held by all banks, thus raising their capital base. Third, by creating this backstop, it will encourage private sources to inject capital into banks, as Warren Buffett recently did with Goldman Sachs and GE. Since banks need capital to make loans, all of this additional capital will free up the credit markets and allow borrowers access to credit once again.

As critics have pointed out, though, this might not work. And even if it does, it isn't the most direct way of recapitalizing banks. The most direct way would be to simply inject government money into shaky banks in return for preferred shares. It's true that if all goes well, the indirect method of the Paulson plan might produce a bigger bang for the buck — but then again, it might not. So what's next?

There are several policy measures that the government probably ought to think about implementing quickly. The key to most of them is to apply them to all banks, not just banks that are in trouble. If the policies are voluntary, any bank that takes advantage of them is admitting that it's in weak shape, which in today's market is as good as signing its own death warrant. Make them mandatory and nobody is stigmatized since they're just following the rules. A few possibilities:

  • Doug Diamond and others suggest that banks be required raise more capital: "The authorities could require all regulated financial institutions, no matter how well capitalized, to present plans to raise 2% of their assets in additional capital over the next quarter to preserve the stability of the financial system. This increased capital will not represent an increase in the permanent level of required capital for bank holding companies, but instead give institutions the extra capital that will allow them to lend."

  • Sebastian Mallaby passes along a proposal to suspend dividends: "The government should tell banks to cancel all dividend payments. Banks don't do that on their own because it would signal weakness; if everyone knows the dividend has been canceled because of a government rule, the signaling issue would be removed."

  • Arnold Kling suggests temporarily reducing capital requirements for new loans: "My alternative is to encourage new lending by lowering capital requirements at the margin. Tell banks that loans issued after September 1, 2008, require half the capital of similar loans issued before September 1. Some banks are in such bad shape that even with those lower capital standards they will not be able to make new loans. Fine. You don't want those banks to grow. But other banks have room to grow, and you want them to grow more than they would under the existing regulations."

Of course, there's also the suggestion that we suspend mark-to-market rules, thus magically increasing the accounting value of bad assets and thus the capital base of the banks holding the assets. However, this seems like such a patently bad idea that I'm hesitant to add it to the list above. The rest of the ideas seem at least worth looking at, though, and can be done in addition to (and in parallel with) the Paulson plan. There's no reason to put all our eggs in one basket, after all.

Friday Cat Blogging - 3 October 2008

| Fri Oct. 3, 2008 4:05 PM EDT

FRIDAY CATBLOGGING....Here are my cats responding to today's passage of the bailout bill. Inkblot is hiding in the bushes, which must mean he thinks financial oblivion is still nigh, while Domino is perky and playful, which must mean she thinks all our problems are behind us. How is your critter taking the news?

Need more cats? Check out Cats for Obama. If it's any indication, Obama has the feline vote locked up.

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Our Coming Recession

| Fri Oct. 3, 2008 3:02 PM EDT

OUR COMING RECESSION....Ezra Klein is annoyed with pundits who think we need to cut back on spending programs because we're about to devote $700 billion to bailing out Wall Street:

The underlying presumption here is that during a recession, faced with heavy spending, the president will have to cut his investment agenda. It makes a certain amount of intuitive sense. In hard times, families cut back. But the government is not a household. In hard times, it should spend more in order to stimulate the economy. That's part of the utility of having a government: When consumers and businesses fall on hard times, they cut spending. Which cuts demand. Which cuts economic activity. Which deepens your recession. All that is a bad Thing. So it's useful indeed that we have an institution able to amp up spending in order to increase demand.

....A better question would take Keynesian economics a bit more seriously. Rather than asking what spending the candidates should give up, the question is which items they should prioritize. In theory, you now want to focus on policies that will create a rapid, short-term boost. This might cut towards a tax rebate and against infrastructure development, or towards green investment and away from health reform. But a recession does not cut against government spending. In fact, it does quite the opposite, and it's a real problem that our political system seems content to lazily assume otherwise.

Right. Monetary policy doesn't have much bite left, so fiscal stimulus is our best bet for boosting consumption and keeping the coming recession shallow. Unfortunately, one of our biggest problems right now is that we also have a large and growing current account deficit. We consume way more than we produce, and our consumption is financed by the Chinese, the Saudi Arabians, and our other fine overseas friends. This can't go on forever, and if we don't do anything about it ourselves, these fine overseas friends will eventually do something themselves. That would be painful in the extreme.

So here's my question. I don't think any real economist has ever addressed any of the questions I've ever posted on this blog, so I should probably just give up, but here it is anyway: Should we try to stimulate our way out of the coming recession? If so, how much and for how long? Or should we instead concentrate on reducing consumption, boosting exports, and getting our house in order before someone gets it in order for us? Can we somehow do both? Inquiring minds want to know.

Bailout Bill Update

| Fri Oct. 3, 2008 2:23 PM EDT

BAILOUT BILL UPDATE....The House has just voted to pass the bailout bill. Final vote coming in a minute.

UPDATE: The vote was kept open for a few extra minutes. The final tally was 263-171 in favor.

Democrats voted 172-63 in favor.

Republicans voted 91-108 against.

I know a lot of people were unhappy about this bill, but this is good news. It's not the best of all possible worlds, but it is a demonstration to the world that America is willing to clean up its own messes.

Quote of the Day - 10.03.08

| Fri Oct. 3, 2008 1:45 PM EDT

QUOTE OF THE DAY....From National Review editor Rich Lowry on last night's debate:

I'm sure I'm not the only male in America who, when Palin dropped her first wink, sat up a little straighter on the couch and said, "Hey, I think she just winked at me." And her smile. By the end, when she clearly knew she was doing well, it was so sparkling it was almost mesmerizing. It sent little starbursts through the screen and ricocheting around the living rooms of America.

I think this goes in the annals of blog posts he'll someday wish he hadn't pressed the "Publish" button on.

UPDATE: Then there's this from Jonah Goldberg: "It is amazing how the press can focus on how Palin's a disaster and then the second she stops being one, the press yawns as if this is a non-story." Huh? The press is supposed to write banner headlines whenever Palin refrains from being a disaster?

An Inch Deep

| Fri Oct. 3, 2008 1:38 PM EDT

AN INCH DEEP....I imagine this point has already been made — in fact, I made it myself after last week's debate — but this is the blogosphere, so I'll make it again anyway. It's this: I'm not surprised that the insta-polls suggest that Joe Biden won his debate against Sarah Palin. (I'm also not sure it matters, but that's a different issue.) Basically, I think the debate-watching public really does appreciate a command of facts and issues. This doesn't mean they want to hear dry recitations and pedantic inside baseball, but as long as it's expressed in an approachable way, they really do want to hear about actual policy. Biden provided that.

At the same time, I'm a little surprised (I know, I know....) that Palin is getting such generous marks for her performance. No, she didn't propose invading Denmark or eliminating the Supreme Court, but she was still painfully out of her depth. She had all the usual Reaganesque phrases and prepackaged zingers at the ready, but she didn't seem to understand that these are meant to be hauled out occasionally as applause lines, not simply strung together over and over and over. By the time she was finished, she had repeated these stock phrases so often that even a dullard could tell that she was just reading off notes.

At least, that's my take. Yes, she's got a thousand-watt smile and a folksy charm, but even people who are attracted to that kind of thing want to sense some depth as well. Palin didn't provide it, and I think the press underestimates Joe and Jane Sixpack when they act as if that doesn't matter.