Kevin Drum

Smoke and Mirrors Wins Another Round

| Thu Oct. 22, 2009 10:35 AM EDT

I see today that the legislation to do away with the annual ritual of pretending to cut doctors' pay has failed.  So instead we'll just keep on pretending.  Ain't politics grand?

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They're Back....

| Thu Oct. 22, 2009 1:10 AM EDT

And now, in news that should surprise precisely no one:

Some of the biggest Wall Street firms are back in the political-spending game after hunkering down while they were getting government bailout funds.

Goldman Sachs Group Inc., Bank of America Corp., Morgan Stanley and other large financial-services firms stepped up their political donations in September to members of Congress, for many the first time this year they have joined the fray.

....The renewed assault on Washington comes as the Capitol Hill debate begins on a broad overhaul of financial-services regulations that is strongly backed by President Barack Obama and opposed by large swaths of the finance industry. The spending could also heighten tensions with Mr. Obama, who as recently as Tuesday called on Wall Street to stop lobbying against the proposed regulations.

The battle to pass financial regulatory reform is going to be like trench warfare: a grinding, bloody struggle that's won a single subparagraph at a time against a relentless barrage of money, lawyers, and lunches at Tosca.  And that's the optimistic view.  Strap on your flak jackets, folks.

Trading It All For Leverage

| Wed Oct. 21, 2009 11:40 PM EDT

Nate Silver predicts how the argument over banking reform will play out:

From a 30,000-foot view, the debate will be between the Volckerists and the Summersists, with the Volckerists arguing that large financial institutions need to be broken up — probably through something resembling a modern Glass-Steagall Act — and the Summersists arguing instead for more extensive regulations.

I don't understand.  Why do I have to choose?  These aren't mutually exclusive, after all.  Tightly regulated small banks seem like the sector to have come through last year's meltdown in the best shape.

In any case, Yves Smith reminds us of the obvious: when the crisis hit last year, the pure investment banks fared pretty poorly:

Remember, Morgan Stanley and Goldman, both pure investment banks as of last year, also nearly failed, and Merrill, Lehman, and Bear perished....The industry had already become so concentrated (and levered) that it had become more failure prone. So merely separating commercial banking and investment banking is not sufficient; you have to do something about the risk taking of capital market players.

....And the elephant in the room is derivatives. The big players have massive OTC derivatives exposures. You need a really big balance sheet to provide OTC derivatives cost effectively....The books are large, and most exposures are hedged dynamically.

There are lots of regulations I'd like to see implemented, but if I had a choice I think I'd trade every single one of them for a comprehensive set of restrictions on leverage.  Stronger capital adequacy standards might do part of the trick, but what I'd really like to see is some kind of flat, systemwide restriction on the amount of borrowed money (as well as the tenor of the borrowing) that both individuals and institutions are allowed to apply to asset purchases.

The credit bubble of the past eight years could never have taken off if it weren't for the huge chain of increased leverage at every step along the way.  At the individual level, mortgage loans were geared up when down payments went from 20% to 10% to 3% to zero.  The loans were then securitized and sold off so they didn't count against bank capital requirements.  The loan securities were turned into CDOs that got more complex over time and hid ever more stupendous amounts of built-in leverage.  The super-senior tranches were insured via AAA credit default swaps and moved off the balance sheet entirely.  And all that came on top of loosened capital adequacy requirements from the FDIC and the Fed.  (Basel II had the same effect in Europe.)

When you multiply it all out, how much did leverage increase throughout the financial system over the past decade?  I'm not sure anyone has any idea.  But without it, the mortgage market doesn't take off, the derivative market doesn't take off, and in 2008 the banking system suffers only a minor flesh wound when a small regional housing bubble bursts.

I'm happy to be corrected on this point, but I'm pretty sure that, even combined, all the other financial pathologies we've identified recently wouldn't have caused more than a few hiccups if not for the massively increased application of leverage we experienced over the past ten years.  That's the key pathology, and if it's rooted out and controlled everywhere and in every guise, we could probably skip most of the other stuff.

Unfortunately, it's not really clear how to do this.  Deleveraging from our current heights will take years even under the best circumstances, and leverage shows up in so many different forms than I'm not sure how you can write rules broad enough to keep it under control.  And God knows, since leverage is the common key to big paydays almost everywhere, serious rules to curb it would be bitterly opposed by every financial lobbyist in the country.  But we should at least try.  A decade after the collapse of LTCM and a year after the collapse of the planet, we should have learned at least that much.

Too Quick on the Draw

| Wed Oct. 21, 2009 6:37 PM EDT

I just got a phone call from "James" at the "National No Call List Department."  I hung up before he got any further, and now I'm sorry I did.  Was this (a) the most brazen telemarketing call of all time, or (b) a fantastically misguided effort by the federal government to survey people about the Do Not Call list?

Almost certainly (a), and now I wish I'd stayed on the line to find out was the scam was.  Unfortunately, my telephone reflexes got the better of me.  Maybe he'll call back.

A Shot Across the Bow

| Wed Oct. 21, 2009 6:02 PM EDT

I'm pretty sure that Lefty High Command has instructed us not to refer to the Obama administration's "coordinators" as czars anymore, but anyway, Obama's pay czar has apparently decided to show that he's no potted plant.  Kenneth Feinberg announced today that banks that got a big chunk of bailout aid will have to rein in their top managers:

The seven companies that received the most assistance will have to cut the cash payouts to their 25 best-paid executives by an average of about 90 percent from last year....Total compensation, which includes bonuses, will drop, on average, by about 50 percent.

The companies are Citigroup, Bank of America, the American International Group, General Motors, Chrysler and the financing arms of the two automakers.  At the financial products division of A.I.G., the locus of problems that plagued the large insurer and forced its rescue with more than $180 billion in taxpayer assistance, no top executive will receive more than $200,000 in total compensation, a stunning decline from previous years in which the unit produced many wealthy executives and traders.

There's certainly some justice in this.  But I'd prefer something less punitive and more useful: a limit on the total bonus pool at these banks.  The point isn't just that executives who imploded their companies don't deserve huge paydays — though there's a lot to be said for that — it's that financial companies in trouble should be using their retained earnings to build up their capital base, not to pay their staffs outlandish salaries.  Today's action is nicely symbolic, but insisting on a more wide-ranging cultural change that helps the entire system recover would be even better.

That Word Does Not Mean What You Think It Means

| Wed Oct. 21, 2009 1:33 PM EDT

Bloomberg listens in on a panel discussion entitled “What is the place of morality in the marketplace?”and hears this:

A Goldman Sachs International adviser defended compensation in the finance industry as his company plans a near-record year for pay, saying the spending will help boost the economy.

“We have to tolerate the inequality as a way to achieve greater prosperity and opportunity for all,” Brian Griffiths [said].

Hmmm.  I haven't personally noticed any of the rest of us prospering from Wall Street's silicon-powered, supercharged rent seeking in the capital markets.  Perhaps Griffiths could enlighten us on that score.  More here.

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Chart of the Day

| Wed Oct. 21, 2009 12:30 PM EDT

Via Felix Salmon, this might be the most perfect blog chart ever: totally fascinating but without any serious redeeming value at all.  Even better, it provides support for virtually any politico-cultural argument you care to make.  It comes from Credit Karma:

Based on a sample of 20,000 credit scores, our data shows that there is a difference of average scores based on what email service users prefer. Interestingly, Gmail and Comcast users came out the top with a higher average, while AOL and Yahoo users had the lowest average credit scores.

Hah!  Stupid Yahoo users do poorly!  But — southerners seem to do well!  Snooty Gmail users aren't as great as they think!  Etc.  I'll bet David Brooks could squeeze an entire column out of this.

Psst! Ben Bernanke is a Chinese Mole

| Wed Oct. 21, 2009 12:11 PM EDT

Why is there so much keening and wailing on the right over the decline of the dollar, a technical issue that virtually every economist agrees is (a) inevitable (b) good for America? Apparently the answer is Matt Drudge, who now writes about the weak dollar about as frequently as he writes about hurricanes during storm season.  Eamon Javers at Politico:

Clearly, Matt Drudge has developed a fascination with the declining U.S. dollar.  “He’s fixated on it,” said Tom Rosenstiel, director of the Pew Research Center’s Project for Excellence in Journalism. “There’s no question that Drudge can alter what people are paying attention to.”

This comes via Dan Drezner, who points out both the obvious (a weak dollar is a positive development, not a negative one) and the slightly less obvious (perennial worries that the dollar is losing its status as a global reserve currency are mostly absurd).  Then he puts on his blogging cap:

So, what's really going on here?  I suspect that with the Dow Jones going back over 10,000, Republicans are looking for some other Very Simple Metric that shows Obama Stinks.  The dollar looks like it's going to be declining for a while, so why not that?  Never mind that the dollar was even weaker during the George W. Bush era — they want people to focus on the here and now.

This is helped considerably by the fact that upwards of 98% of the country hasn't the slightest idea of what a "weak" dollar is aside from the fact that "weak" doesn't sound very appealing, and upwards of 99% hasn't the slightest idea of what a reserve currency is or why it matters.  This makes it excellent fodder for Trilateral Commission style conspiracy theorizing,1 which in turn makes it excellent fodder for the current intellectual leaders of the conservative movement.  This is the kind of stuff that used to be limited to cranks with mimeograph machines but is now beamed into millions of homes via the wonders of cable TV and the internet.  That's progress, my friends.

1Remember back when the Trilateral Commission was running the planet?  Good times.  How have they managed to fall so low since then?

A Deal With Iran

| Wed Oct. 21, 2009 11:29 AM EDT

The talks with Iran about a deal to ship its low-enriched uranium out of the country to be turned into fuel for its medical research reactor went into overtime, but today a tentative agreement was announced:

The head of the world's atomic energy watchdog said Iran and world powers have until Friday to approve a proposed deal to transfer most of Iran's nuclear material abroad to be reformatted for medical purposes.

...."We have had very constructive discussions, intensive discussions," Iran's envoy to the atomic energy agency, Ali Asghar Soltanieh, said after the meeting, according to news agencies....Under the terms of the deal sketched out before this week's meeting, Iran would send up to 80% of its supply of low-enriched uranium to Russia, where it would be further refined, and France, where it would be turned into plates for use in a medical research reactor.

It's a positive step.  On the other hand, Iran's ability to enrich LEU into weapons grade uranium is a little fuzzy right now, so it's possible that this costs them nothing at all.  It will take them upwards of a year to replace the stockpile of LEU they send out of the country, but if they're a year away from mastering the full enrichment cycle then this deal doesn't actually slow them down any.

Still, this is good news.  It's not great news, and I wouldn't take it as a sign of a new era in Iranian relations or anything.  But it's better than nothing.

Outfoxed

| Wed Oct. 21, 2009 10:19 AM EDT

Shorter Mickey Kaus: every news organization has its own temperament, but only Fox News has Roger Ailes.

Note to the press etc.: When even Mickey agrees that Fox's brand of mendacity is in a class by itself, maybe it's time to start admitting the obvious.