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As Obama Taps Larry Summers, Recalling Summer's Days as a Regulation Foe

On Monday, President-elect Barack Obama announced his economic team, noting that Lawrence Summers would be the director of his National Economic Council. In touting Summers, Obama praised the former treasury secretary for his work during the Clinton years

Larry helped guide us through several major international financial crises – and was a central architect of the policies that led to the longest economic expansion in American history, with record surpluses, rising family incomes and more than 20 million new jobs. He also championed a range of measures – from tax credits to enhanced lending programs to consumer financial protections – that greatly benefited middle income families.

As a thought leader, Larry has urged us to confront the problems of income inequality and the middle class squeeze, consistently arguing that the key to a strong economy is a strong and growing middle class....And as one of the great economic minds of our time, Larry has earned a global reputation for being able to cut to the heart of the most complex and novel policy challenges.

While some of that might be true, Summers has been a controversial figure, and it's likely no accident that he is being handed a position that does require him to be confirmed by the Senate.

But despite Summer's intellect and experience, it's worth remembering that he did blow one of the major calls of the 1990s: what to do about financial derivatives--those esoteric financial products (such as credit default swaps) that helped grease the way to the subprime meltdown. Not only did Summers oppose greater regulation for those financial instruments; he led the opposition against it.

Back in May 1998, the Commodity Futures Trading Commission, then chaired by Brooksley Born, issued a memo noting it was "re-examining its approach to the over-the-counter (OTC) derivatives market." It noted:

While OTC derivatives serve important economic functions, these products, like any complex financial instrument, can present significant risks if misused or misunderstood. A number of large, well-publicized financial losses over the last few years have focused the attention of the financial services industry, its regulators, derivatives end-users and the general public on potential problems and abuses in the OTC derivatives market.

At the time the OTC derivatives market was valued at $28 trillion, according to the CFTC. The CFTC noted that it was time "to review its regulator approach to OTC derivatives." The CFTC was suggesting the time had come for it to regulate this complicated, opaque corner--or hidden continent--of the economy.

Summers, then the deputy secretary of the Treasury, had another idea--as did Robert Rubin, the secretary of the Treasury, and Alan Greenspan, the chairman of the Federal Reserve. These wise men each gazed with horror upon Born's proposed consideration of regulation for derivatives. Speaking for them, on July 30, 1998, Summers testified in the Senate against the notion of the CFTC even pondering rules governing the trading of derivatives. By releasing its memo, the CFTC, Summers complained, "has cast the shadow of regulatory uncertainty over an otherwise thriving market--raising risks for the stability and competitiveness of American derivative trading."

Summers blasted the CFTC for having raised" the possibility of increased regulation over this market." And he hailed derivatives:

The dramatic growth of the market in recent years is testament not merely to the dynamism of modern financial markets, but to the benefits that derivatives provide for American businesses.

By helping participants manage their risk exposures better and lower their financing costs, derivatives facilitate domestic and international commerce and support a more efficient allocation of capital across the economy. They can also improve the functioning of financial markets themselves by potentially raising liquidity....OTC derivatives directly and indirectly support higher investment and growth in living standards in the United States and around the world.

Even "small regulatory changes," Summers cautioned, could throw the whole system out of whack. Determined to slap down the CFTC, his Treasury Department, the Fed, and the Securities and Exchange Commission crafted a proposal that would prohibit the CFTC from issuing new rules regulating any swap or "hybrid instrument."

Summers told the Senate he and his fellow economic bigfoots were not slamming Born and the CFTC cavalierly:

We understood the seriousness of making this proposal. To question an independent agency's concept of its jurisdiction and then to propose legislation that would temporarily curtail that agency's ability to act is not something we do lightly. We concluded, however, that such legislation was necessary to avoid disruption and dislocation in the market while the underlying issues were being considered by Congress.

Congress in late 2000 did end up implementing the Summers approach, when Senator Phil Gramm, then the head of the Senate banking committee, used a back-room maneuver to slip into a must-pass spending bill a measure that prevented the CFTC or the SEC from regulating derivatives.

During that 1998 Senate appearance, Summers did acknowledge that there could be problems with derivatives:

They can also be abused. And there have been certain problems that have arisen in recent years in both the OTC and exchange-traded derivatives market, as well as problems arising from inappropriate investments in complex securities with embedded derivatives. More broadly, questions have been raised as to whether the derivatives markets could exacerbate a large, sudden market decline.

But all he--and Rubin and Greenspan--wanted to do at the time was to study the matter. After all, Summers noted, the Big Finance institutions buying and selling "these kinds of contract are largely sophisticated financial institutions that would appear to be eminently capable of protecting themselves" from any problems with derivatives. In other words: fear not, the high-flyers of Wall Street and the world's financial markets know what they are doing.

Summers got that wrong. (See Citigroup.) While others--such as Born and her staff at the CFTC--presciently spotted potential problems arising from the exploding derivatives market, Summers, Rubin and Greenspan blithely fell back on the conventional view: regulation is a growth-killer. Summers' 1998 testimony was imbued with the hubris that led to the current financial disaster. Obama--and the rest of the nation--should hope that when it comes to thinking about regulation these days, Summers has experienced a market-driven correction.

Comments

One thing to keep in mind about Summers and Rubin's position on regulating derivatives is the timing: in July of 1998 when Summers testified, the hedge fund Long Term Capital Management, had not yet failed. That would happen 3 months later, when it became clear that a substantial part of LTCM's problem was that it had massive side bets in derivative instruments that when it could not cover these bets, caused massive dislocations and threats to the global banking system (which had invested heavily in LTCM, thinking it was run by "geniuses"--see Roger Lowenstein's great book, "When Genius Failed".) I think Summers and Rubin might have had a differenct view on the regulation of derivatives after the LTCM catastrophe.

Posted by: Bob C on 11/24/08 at 4:45 PM Respond

Summers is an ardent proponent of free trade and globalization, but then again, at Harvard, he understood about women so he is not all bad. I know that the GOP is very happy with Obama's economic team. It will just be another 4 years of Bush, but with a Black face in the White house.

Posted by: Ari on 11/24/08 at 5:32 PM Respond

This is very alarming news. Obama is headed for trouble with this appointment.

This feller looks like the best friend a crooked hedge fund ever had.

Posted by: amazingdrx on 11/25/08 at 12:22 AM Respond

If the value of our portfolio ever recovers, we're pulling it out of play and leaving the country.

Although I worked for the Obama campaign during the primaries, I realized the error of my ways and switched to Nader. Nader should have gotten Larry Summer's job. Why are we doing the same stuff we did in the last decade and expecting that we'll get different results? Isn't that the popular definition of insanity?

On a side note, I believe that Petition and Redress is dead in the US.

-Wexler

Posted by: William W. Wexler on 11/25/08 at 7:56 AM Respond

You have to give Obama credit for his recycling efforts: Summers and Geithner being former Clintonites, now repackaged as shiny new agents of change.

Experienced! Both experienced in financial deregulation or reluctance to regulate in the face of crises caused by under-regulation. "Experienced" like Napoleon was "experienced" in Russian invasions.

Whiz kids! Same Ivy League elites who have played "follow the leader" and have looted the Treasury for trillions. If whiz kids like this are so smart, how come the country is so bankrupt? Oh, that's right...they ARE whiz kids because THEY are not bankrupt.

What are these guys REALLY good at? Flying under the shit-storm radar. Ever heard of AIG, Lehman Brothers, Bear Stearns, Citigroup? Members of Obama's economic dream team were integrally involved in--and partly responsible for--those fiascos. Putting foxes in charge of henhouses is not "change we can believe in," it's Washington business as usual.

Posted by: Donte Ventryit on 11/25/08 at 9:42 AM Respond

I second the foolishness of this choice. I was struck by the particulars of the clash that Summers had with the Commodities Future Broad, the head was a woman, a highly competent and straight forward analyst. At Harvard he ran into that problem again. The arrogance and hubris that comes with defending intellectual failure is slow to leak out, especially when a man has a problem with women peers. I predict this will be an appointment that will turn sour.

Posted by: marcus medler on 11/25/08 at 10:31 AM Respond

Hopefully Obama will reign in the free "traitors" and deregulators he is appointing once he is top dog. But don't hold your breath since the same people who "purchased" Washington for the last mpteen years seem to have Obama on their payroll. Let's hope not for if he turns out to be just another servant of the 'rich and famous' then let this has-been country rot!!!!

Posted by: KMarx on 11/25/08 at 10:45 AM Respond

It's hard to tell what Summers has done right - how much of the tech boom can be credited to Rubin, GReenspan and Summers? As far as I can tell they got out of the way of a productivity explosion for which if anyone Bill Gates should get the credit. They also did as little as possible to support workers, keeping the labor markets fluid and benefits low, while smirking at management's exploding pay packages. They should have prevented the bubble that developed, and they could have done more to support public health insurance, the absence of which probably has as much to do with the demise of the of US automobile industry as the ineptitude of Wagoner et al. Summers also flopped on Enron, as Alex Gibney has recently noted elsewhere. Technocrat surfer boy, thrilled with freedom, getting a good ride. At least Obama didn't pick the bumpkin billionaire from OK to watch over his fellow speculators.

Posted by: bmeisen on 11/25/08 at 11:56 AM Respond

So we will blame it all on derivatives when it was really a credit bubble lead by housing debt and fueled by our government?

I guess with a little hope we can change the culprit into whatever we want.

Horrible picks btw.

Posted by: MJ on 11/26/08 at 8:44 AM Respond

But why on earth must we forget about Summers' view that 52% of the population can't do science? Arrghhhh!

Posted by: hysperia on 11/26/08 at 12:02 PM Respond

hysperia, Summers got that right about the gender and science, he got everything else wrong.

Posted by: Tom Lycus on 11/26/08 at 12:32 PM Respond

As Joe E. Brown said to Jack Lemon at the end of *Some Like It Hot": "Nobody's perfect."

Posted by: James M. Martin on 11/26/08 at 1:10 PM Respond

Everyone seems to be forgetting that Summers is not the entire economic team. Economist Christina Romer and Berkeley professor will be director his Council of Economic Advisors, as well as Melody Barnes, executive vice president for policy at the Center for American Progress. These two women are very progressive thinkers with very different approaches to the economy.
I believe it is important to have strong viewpoints from all angles to determine what are the best economic policies to be put in place during the current situation. We just went through 8 years of an administration that viewed policy from only one perspective and we saw where that got us. Let's see what a diversity of ideas may lead to.

Posted by: completemayhem on 11/26/08 at 1:11 PM Respond

WHOA there cowboys!

Before we throw-out the baby with the bath water, I think we all need to calm down and get a grip on the REALITY of the situation that is facing someone who is NOT actually the president at this moment. Duh!

The last time I looked, Larry Summers was NOT the entire economic team. Nor is he even a major part of it. His advice on the ERRORS of the past should be as valuable as his ideas for correction.

Obama's position at this point only allows him to signal to the weasels in charge of Wall Street that he will NOT pull the rug out from under their pampered asses immediately! I would liken anyone's ability to provide a solution for 20 years of economic "Wild West" activity to a person stuck in a phone booth with a rattlesnake. You want to extricate yourself from the danger without needlessly threatening the snake and end-up dying in the process.

Since Obama has started his "press conference" diplomacy, the market has responded by gaining nearly 1300 points in 4 days. This is while he is still just the "potential" president. When was the last time a press conference from "President Numbnuts" caused the market to rise? It would appear that the only ones that Obama needs to impress at this time are the "snakes". Not the naysayers on this blog. Yes, he may be crazy..........crazy like a fox!

THE MOST IMPORTANT NUMBER ON EARTH........"350"!

Go to www.350.org to find out why. Do it for your grandchildren.

Posted by: JNH88KR on 11/26/08 at 2:38 PM Respond

If Summers and the others failed to learn anything from the past 8 years and from the proclivity of the GOP to sneak in legislation that bars the government from protecting the public, this nation is thoroughly screwed and like Wexler, I too, will leave this country to slide into poverty and obscurity that it so richly will deserve.

Posted by: Kal Palnicki on 11/26/08 at 3:27 PM Respond

OOPS!!!!!!!!!

Sorry guys, but in my previous post I used the WRONG number for the total DOW average from 11/21/08 to 11/26/08.

It should have been under "1200" instead of "1300". Non-Republican party members aren't perfect.........just intellectually honest.

Posted by: JNH88KR on 11/26/08 at 7:14 PM Respond

Why are you not doing articles on the fact that Obama has stopped talking about taking our troops out of Iraq. Just today the Iraqi Government voted to keep US troops until 2012. Didn't Obama promise change? Didn't he tell all you liberals that he would take the troops out day 1???
Change? What does that mean? You all were LIED to. And the liberal media never asked Obama a damn question!!!! Fools!

Posted by: Ames Tiedeman on 11/27/08 at 8:40 AM Respond

Nothing makes me feel as good as reading all the moaning and groaning from the willfully naive on this string. You all believed. Some of you were zealots. Now that reality has given you all a pinch, maybe you'll reassess your views on the efficacy of the ever expanding administrative state. "social Justice," "Fair Trade," and all those amorphous are not something you can regulate, because the terms are truly meaningless.

Posted by: Cortney on 11/27/08 at 10:54 AM Respond

Great comments, I too was dismayed by Mr. Summers pick, having read several articles relating to the CFTC & MS. Born. I think he is a poor pick I do, see the logic to the roundtable type of team where all views are expressed. We are going to need to reregulate the finicial industry, and we need it done in a manner that does not constrict the flow of capital yet guards against what has happened happening again. Who better to represent Wall Street than a serial de-regulator from the clinton adminstration.

Posted by: Steve Fuller on 11/27/08 at 12:30 PM Respond

There was no Obama supporter more committed than I, both with my time and my finances. But this is a disasterous choice and so are most of his econcomic people. I am already leary of any "change" that will come, and it seems like Obama is doing what I most feared: he is taking the Republican neo-con mess and merely putting a Democratic name on it. It he carries though with this, Hillary has a chance with me in 2012, I can tell you.

Posted by: Victor Edwards on 11/28/08 at 10:57 AM Respond

Republican Mess? How about Clinton mess - when did it start? who protected the mortgage abuse? Democrates. Oh boy - market up 1200 points from press confernaces - It dropped so fast when he was elected. I think people are pleased he is already backing off from all the changes he promised and take from the hard working progressive americans that work and make themselves better and give it to those that are wanting the "american dream" without working for it.
Oboma is not the dream team you where hoping for. He is a good speaker - the movie star presidant - movies over. Reviews will not be great.

Posted by: C. McBride on 11/28/08 at 12:20 PM Respond

EVERYBODY'S A CRITIC!!!!!!!!

No wonder this country is so screwed-up. The electorate is full of clueless idiots. While everybody has a complaint, NOBODY has a solution. At least let the guy get in the White House before you pass judgment. Even though he's not in power yet, at least he's doing more than pardoning turkeys.

I believe the phrase........."Nattering Nabobs of Negativeness" comes to mind after listening to the irrational and paranoid rantings of the uneducated Monday Morning Quarterbacks on this blog. There are too many factual errors listed here to even waste my breath on. Everybody wants to b*tch, but nobody wants the job. Typical!

I will be the first to spout my criticism when there is actually something substantive to criticize. Until then..............just sit-down, shut-up, and let the intelligent adults begin to dig us out of 8 years of the "REAL" mess that Obama faces. Cowboy George stole the keys and WRECKED the car. Barack's first job is to get it running again......... BEFORE he even thinks about replacing the chrome trim. Get a grip!

Posted by: JNH88KR on 11/28/08 at 2:16 PM Respond

JNH88KR:

Right on the money, as usual!!!

And yes, why don't you all at least wait until he actually has the opportunity to do something before you even b!tch!!! There is only one president right now. And we all know, in addition to the crap he's already left, he's got a list of f@*k-ups as long as my arm he's waiting to leave Obama. I'm sick and tired of all the nay-sayers, the complainers, and those that think they know better. Really??? When was the last time any of you were actually in a position that you had to make decisions on a false war or a country's economy or our Constitution being ripped apart? If you're going to
b!tch, then do it at the expense of an administration that has actually been in power and has chosen to screw people over, f@$k things up, start a false war, and demolish our Constitution rather than do the right thing. If you’re going to b!tch, then aim it in the right direction!!!

I, too, will be the first in line to complain if Obama doesn’t “change” things. But it only makes sense to wait until he’s in a position to do it. Right now, he can’t do anything, so shut up, sit tight, and wait until January 20, 2009!!!

Posted by: Common Sense in Politics on 11/29/08 at 1:44 AM Respond

THNX "Common Sense in Politics"!

I was beginning to think I was a lone voice in the wilderness. As usual you point out the fact that "common sense" isn't very common in this country.

Furthermore..............regarding the knee-jerk response to the appointment of the "centrist", Larry Summers, it would appear that the unwashed masses are NOT doing their homework(again).

He has made several "radical" statements on the subject of the ideological Bush tax-cuts in articles over the last years. Summers made NO bones about the fact that he believes this to be the GREATEST redistribution of wealth from the "middle class" to the rich and powerful in recent history. Virtually "screwing-over" the working class of America! In a time when there are NONE so blind as those who REFUSE to see..................it seems that Larry Summers' eyes have been truly opened to the mistakes of the past.

This view-point would appear to be directly opposed to the standard tactics of the Republican party as we know it today...........(1) Plot a course that sounds Conservative to your base and coincidentally fills the pockets of you and your cronies. (2) Follow that course to it's dead-end conclusion and catastrophe for fear that ANY deviation would allow you to be labeled a "Flip-Flopper".

As you know................the easiest way to confuse a right-wing, religious conservative, narrow-minded neo-con is to put him in a round room and tell him to sit in the corner. He will walk in circles for days until a "Think Tank" tells him how to respond with the appropriate "talking points"! Which brings this fact to mind. If the only ideas that you come-up with are stupid........................can you be called a "Think Tank"?????????

THE MOST IMPORTANT NUMBER ON EARTH.............."350"!

Go to www.350.org to find out why. Do it for your grandchildren.

Posted by: JNH88KR on 11/29/08 at 5:48 AM Respond

Larry Summers is Obama's response to Wall Street and the international markets. Remember Summers played an important role when Mexico needed a urgent loan of 20 billion dollars to save the Mexican peso, naturally, Vice Prsident Gore took the credit.

Summers is a signal send to the financial world out there. Specially to those countries within Latin American and to its investors,worldwide. Trust me, I have a good source, a well off corporate lawyer who deals with this aspects on a daily bases.

Posted by: Robert Ballantyne on 11/29/08 at 10:03 PM Respond

Larry Summers is President Obama's response to the world crisis we are facing in the international markets. His selection sends assurance that Obama's administration is in control of the situation. Remember that Summers'involvement in Mexico's peso's devaluation?, and the emergency loan (10 to 20 billion dollars) to save the Mexican economy from crashing?, therefore, Summers is well known in Mexico's financial circles, as well as in the rest of Latin America.In other words, Summers is placed in Obama's economic team to bring tranquility to the financial sectors worldwide. Well, at least that's what I read between the lines.

Posted by: Bethoven on 11/29/08 at 10:16 PM Respond

You guys unfairly helped destroy Hillary Clinton believing some how Obama will govern from the left. As one of the left myself, I believed and said repeatedly at the time that all successful Presidents govern from the center and that he will triangulate the hell out of you starry eyed cretins. He is doing just that and I feel like shouting loudly: I told you so, I told you so!!!!

It gives me great joy to see you guys get your comeuppance.

Posted by: Kabindra on 12/08/08 at 5:02 AM Respond

BLAH, BLAH, BLAH!

More inanities from the nattering nabobs of negativity. The masses have spoken and crying in your beer is NOT going to change anything. No amount of premature prattling will stop the inevitable improvement to be expected from a new and COMPETENT administration. Show some class and do something productive or just slink-off and suck your "sour grapes" in silence!

I don't believe that anyone was "unfairly destroyed". The two candidates competed under the same rules that they BOTH agreed upon at the beginning of the contest. The fact that you cannot accept the outcome says more about YOU than either the victor or the people who voted for him. Grow up!

Posted by: JNH88KR on 12/08/08 at 4:32 PM Respond