Capitalism is dead. Markets are passe. So says E.J. Dionne (HT: Vasu Murthy). According to Dionne, even fans of capitalism have come to realize that the system is broken:
What’s striking is that conservatives who revere capitalism are
offering their own criticisms of the way the system is working. Irwin
Stelzer, director of the Center for Economic Policy Studies at the Hudson Institute,
says the subprime crisis arose in part because lenders quickly sold
their mortgages to others and bore no risk if the loans went bad."You have to have the person who’s writing the risk bearing the
risk," he says. "That means a whole host of regulations. There’s no way
around that."
Stelzer is definitely on to something. You do want people who take risks and impose risks on others to bear the costs when things go badly. Did risk-takers avoid the costs in the case of subprime mortgages? People say they did. But did they? Bear Stearns didn’t do so well. They went out of business. They bore the risk, didn’t they? Executives there lost a lot of money. I wish they’d lost more, but Ben Bernanke decided to soften the blow. (Dionne cites Bernanke as another market-lover who thinks more regulation is needed, but of course Bernanke has a horse in the race–his organization will accrue power if it has more regulatory authority over investment banks.)
And don’t we have a lot of regulations already? Before I spoke about the inevitablity of "a whole host of regulations" I’d want to make sure that existing regulations didn’t cause the current problem. I’d also want to make sure that existing regulations were enforced.
I hear it said all the time that the subprime mortgage was caused by people who lent money to people knowing there was a good chance that it wouldn’t get paid back but lent the money anyway because they knew someone else would buy the loan. But why did that next person buy it? Didn’t they check to see if the risk was high? Yes, goes the explanation, but they bundled it up with other stuff and sold it to someone else. But why did that person buy it? Eventually someone got left holding the bad loan. Bear Stearns is one example. No doubt there are others. I suspect that a lot of people have gotten more wary of bundled mortgages. Do we need to make it even harder to make bad loans in the future?
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I'm having a little trouble understanding where the risk when when the first lender sold the paper.
I thought that whole deal involved net present value and net future value calculations to set the price of the paper in the trade.
Which econ class did I miss?
Excellent point Larry. 80% of all paper conforms to FHA and FMA guidelines and those were the guys buying the paper, wholesale, after it was placed in the bankruptcy independent trusts. For the longest time, the market priced Fannie Mae and Freddie Mac stock at a premium to it's intrensic value. Now, with some of that paper showing increased defaults, it is those same share are priced at at discount, or at least more reasonably. So much of this crisis is just so bogus. Most of the "write downs' that FNM and FRE are now experiencing are paper write downs, not actual loses, and once those written down properties are foreclosed on and disposed of, those "write downs" will suddenly be magically reversed.
If not, taxpayers will have to foot the bill. Fear not though, because, taxpayers will soon enough recover the loss, once the Democrats justly and deseveredly give Big Soda their due for using all that sugar and corn syrup in their products that are forcing the government to sop up all the extra health care costs associated with those products. Not to mention all that crucial tax revenue soon to be reaped from greenhouse gases!
Is it just me, or do others notice a hint of sarcasm in some of those post by that jpm guy?
Larry you missed the class where Dionne and Stelzer learned that sellers have to take the buyers' risks for free and that the government has to dictate who sells what and who can own what when.
It wasn't an econ class.
In what way did Ben Bernanke "soften the blow"? As I understand it, the Fed (and Treasury) wanted the lowest possible price for the shareholders and the rise to $10 was to cover up a screw up by the lawyers while drafting the contract. In fact, the Fed demanded an additional $1 billion in guarantees from JPM on the assets it inherited from Bear. See http://dealbook.blogs.nytimes.com/2008/03/24/bears-big-guarantee/?scp=4&sq=bear%20stearns%20contract%20guarantee&st=cse (for the legal controversy) and http://www.nytimes.com/2008/03/25/business/25bear.html?scp=3&sq=bear%20stearns%20contract%20guarantee&st=cse (for the extra $1B that JPM had to give the Fed in return for raising the price). I think you owe Bernanke an apology.
I suspect that they were able to pass along a bad risk because people didn't know exactly what they were buying. In order to keep transaction costs low, securities are standardized and rated. The ultimate buyers assess the risk based on the ratings of a particular security. I would suggest that unreasonably optimistic ratings were assigned to risky loans, and *this* probably had a lot to do with the crisis.
All is well with this tidy setup until there is little downturn and the defaults begin to pile up. Then it starts to look like a variation on a ponzi scheme with the taxpayer ending up with all the bad paper. No matter. Nothing that can't be fixed by a few runs of the printing presses.
Well somebody really goofed on the subprime bond ratings, namely S&P and Moodys. I live less than 100 miles from ground zero of the subprime mess – Stockton, Ca. If I had been the person responsible for rating mortgages and I saw all of this mortgage paper coming out of Stockton and similar locales, I wouldn't come close to giving an AAA rating. Sorry Stocktonites, but you've had this rep for a LONG, LONG time. I mean, lock your doors when you drive through there, even in the daytime. Wouldn't it be supremely ironic that Stockton winds up being the small crack in the dam that brings down the entire financial system?
Russ,
you scared me with that title…
"Capitalism is dead…and I myself don't feel very good."
Aren't Freddy Mac and Fannie Mae semi-nationalized?
"You have to have the person who's writing the risk bearing the risk," he says. "That means a whole host of regulations. There's no way around that."
Why is there no way around that? How about NO regulations?
We need to do away with greedy capitalist pigs. Bring in the commies now! They'll give us the utopia of all of us being in the mud!
Capitalism is Dead
E.J. Dionne
Wrong. Regulation is dead:
http://www.bloomberg.com/apps/news?pid=20601087&sid=aAYLeK3YAie4&refer=home
IndyMac Seized by U.S. Regulators; Schumer Blamed for Failure
By Ari Levy and David Mildenberg
July 12 (Bloomberg) — IndyMac Bancorp Inc. became the second- biggest federally insured financial company to be seized by U.S. regulators after a run by depositors left the California mortgage lender short on cash.
The Federal Deposit Insurance Corp. will run a successor institution, IndyMac Federal Bank FSB, starting next week, the Office of Thrift Supervision said in an e-mail yesterday. The regulator blamed U.S. Senator Charles Schumer for creating a “liquidity crisis'' after a letter on June 26, in which he expressed concern that the bank may fail.
The Pasadena, California-based lender specialized in so-called Alt-A mortgages, which didn't require borrowers to provide documentation on their incomes. The demise adds to the crisis caused by the subprime collapse and may mean regulators will have to raise more money to support the federal deposit insurance program that repays customers when a bank fails.
http://www.fdic.gov/news/news/press/2008/pr08056.html
More to follow.
"Bring back the communes"? You wish FL! Maybe the crap-stirring statement ('Capitalism is dead') could better applied to the 'idyllic non-coercive version of the free market is dead' – presuming it was alive in the first place. Suchlike sarcasm sounds like the economic version of a nerd asking why do the girls swoon for the Alpha-male football-captain types. Are the two versions of i>The Art of War standard reading in business school? (cue Gordon Gecko
)
ALEX (to Gekko) Fox says Bluestar just hit 23. What do you want him to do? … As your broker, I advise you to take it.
[After Gekko took size position, trying to unload, i.e. seller]
As a professional trader, I would advise against taking bids, and instead hitting them when you are a seller, as this will protect you from any future Oliver Stone Hollywood script terminology confusion, especially being on the wrong side of the trade (hit bids = seller, lift offers = buyer).
Helpful weekend trading tip….
The only real problem in the whole affair is the concept of "too big to fail". If Bernanke and the rest of the regulators would allow the market to take its toll, the economy would suffer for awhile and then come back much stronger.
"Capitalism is dead" says Dionne; sounds like a Marketing professor in my building who asked me whether I still took stock and any of "that old Adam Smith stuff." Yes, I told him and I still think that those old laws about gravity and inertia are worth considering, particularly on winter days after some freezing rain. But from the look on his face, my candor was unappreciated.
“the subprime crisis arose in part because lenders quickly sold their mortgages to others and bore no risk if the loans went bad.”
Oh, this is so way down the list of causes for the subprime crisis. Without the credit rating agencies no one would have been able to resell anything.
Up there, as proud and sole the numero uno culprit, we find the financial regulators who ignoring the markets ordered or stimulated about everyone, one way or the other, to heed the advice of the credit rating agencies… and which unanimously shone their prime ratings on some securities collateralized with much worse than subprime subprime mortgages… and the market followed them… as lambs.
If we have a problem it is that the current crop of conservatives is a very weak one and they all got side-blinded into the stupidity of believing that just because the credit rating agencies were private…they represented the markets. Our conservatives and many others were fooled by the regulators who instead of having appointing their own financial commissars, which would have raised hell, outsourced that function to the credit rating agencies.
Have you heard about any regulator having been held accountable and fired because of having contracted the credit rating agencies? No? I didn’t think so!
Without the credit rating agencies no one would have been able to resell anything.
CNN is failing to identify Chuck Schumer in their lead story, IndyMac Bank failure.
This is flatly lying, and completely inaccurate.
Dumb statement:
Without the credit rating agencies no one would have been able to resell anything.
Posted by: Per Kurowski
I’ll explain later. If I have time.
Id say the market worked quite well in this regard. Garbage in-garbage out, and guess what a whole lot of people buying garbage got burned.
Markets work just fine. Its the the agents who comprise the market that go haywire from time to time.
Nobody says that markets forgive stupidity.
Anyways, EJ Dione is boring. He is a political writer, what else do you want him to say? The only reason he attacks capitalism or the market is because conservatives have sided with the market.
If the left was on the side of capitalism and regaled it with praise on a continual basis then Dione would argue for capitalism.
Id say the market worked quite well in this regard. Garbage in-garbage out, and guess what a whole lot of people buying garbage got burned.
Markets work just fine. Its the the agents who comprise the market that go haywire from time to time.
Nobody says that markets forgive stupidity.
Anyways, EJ Dione is boring. He is a political writer, what else do you want him to say? The only reason he attacks capitalism or the market is because conservatives have sided with the market.
If the left was on the side of capitalism and regaled it with praise on a continual basis then Dione would argue for capitalism.
Pertz writes: "If the left was on the side of capitalism and regaled it with praise on a continual basis then Dione would argue for capitalism."
This is an effective slam at Dione for standing for nothing, but the statement seems otherwise self-contradictory because the "left" could not be the "left" if it advocated capitalism; could it?
"Dumb statement:
Without the credit rating agencies no one would have been able to resell anything.
Posted by: Per Kurowski
I’ll explain later. If I have time."
Posted by: Mesa Econoguy | Jul 12, 2008 2:24:27
Dumb comment:
Self-explanatory
"You have to have the person who's writing the risk bearing the risk,"
Hmmmm, I always thought the borrower was taking the risk. The risk that the value of the asset would be greater than the debt. (When using debt, equity becomes a call option).
Per, not to put too fine a point on it, but you don’t understand economics, do you? You’re quite confused that 1) some intermediary is required or necessary for transactions, and 2) absent this intermediary, transactions would fail due to lack of information.
Prices are information.
In this particular financial example, you assume that absent the ratings agencies, no pricing would occur. This is false.
Hence, your inherently stupid non-economic statement,
Without the credit rating agencies no one would have been able to resell anything.
Posted by: Per Kurowski
Dumb statement.
[Plus, they got the ratings wrong, didn't they?]
As long as the music is playing, you’ve got to get up and dance. Chuck Prince, CEO Citigroup
Worldly wisdom teaches that it is better for the reputation to fail conventionally than to succeed unconventionally. John Maynard Keynes
We need regulation, because the herd of managers of other people's money will, regardless of the information available to them, always crowd into the worst of the boom's excesses — leaving the taxpayer to bail out the system.
“Prices are information. In this particular financial example, you assume that absent the ratings agencies, no pricing would occur. This is false.”
Posted by: Mesa Econoguy | Jul 12, 2008 5:51:27 PM
If you jusr read I say the opposite. Absent the “official” risk content specifications provided by the credit rating agencies the market would have worked a lot better, the pricing would have been more correct, and the subprime mess would never have happened.
“We need regulation, because the herd of managers of other people's money will, regardless of the information available to them, always crowd into the worst of the boom's excesses — leaving the taxpayer to bail out the system.”
Posted by: Ellen1910 | Jul 12, 2008 10:06:23 PM
The irony though is that in this case it was the regulators, through their outsourced risk measurers, the credit rating agencies, that induced the herd to run over the subprime precipice.
"Mises was right." — Robert Heilbronner
Is 1989 that far gone?
E.J. Dionne and his knowlege/understanding of capitalism can be summarized in one word.
Stupid.