Video of my testimony

by Russ Roberts on October 29, 2009

in Financial Markets, Politics

Video of my testimony on Capitol Hill yesterday, talking about executive compensation (and the financial crisis) is here. My part starts at 2:01:36 followed by William Black’s statement (interrupted by a vote) followed by Q and A.  I’m very sympathetic to Black’s argument that there was looting but argue that the looting was enabled by the implicit government guarantee of Wall Street. The first two hours is a masterful performance by Kenneth Feinberg. He makes it look easy, despite the embarrassing Wall Street Journal article that had come out that morning. Feinberg is able to deflect that criticism by pointing out that he still cut compensation. I think that misses the real point that the whole thing is ad hoc and includes negotiation, wheeedling, begging, and so on.

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Anonymous October 29, 2009 at 11:31 am

For what its worth, I agree with you that Prof Black doesn’t see that the crony in crony capitalism was in play just as strongly in the scandals he used as examples, as it was in current examples used by yourself. Enron did not happen in a government vacumm, it happened (as I understand it) through the manipulation, made possible by extreme wealth, of government regulations that shouldn’t have been there in the first place.

However, as a lover and defender of individual freedom to make mistakes, to be stupid, to fail, etc., you opened with some remarks I found surprising. Those remarks being yours directed at financiers who gave others what they indicated they wanted, big loans and big houses. Your remarks gave me to believe that you thought people should have been prevented from making huge financial mistakes. That’s not freedom.

Anonymous October 29, 2009 at 12:32 pm

Vidyohs,

The government implicitly promised to take care of people who invested in houses. When people responded by building more and bigger houses, that free choice isn’t a good thing. It’s a bad thing. It’s wasteful and it’s certainly not the result of freedom. It’s the result of distorted choice.

So I don’t think people should have been prevented from making their choices. I think the government should not have encouraged financial mistakes. People make mistakes. They should be free to take risk. But not with my money against my will. The current mess is the result of people being encouraged to use my money as a taxpayer against my will. Bad thing. The opposite of freedom.

Anonymous October 29, 2009 at 4:30 pm

“The government implicitly promised to take care of people who invested in houses.” Which people? The ones who built them, sold them, or bought them? I agree that government made the implicit promise to the first two, but not the latter. Yes, in the end government made their bad decisions a little less painful, but there was no promise going in. Loans were issued stupidly but were still issued with the understanding that payments would be made.”When people responded by building more and bigger houses, that free choice isn’t a good thing.” Really, I am surprised that a man who sees buying and driving gas guzzling SUVs as a matter of free choice does not see the same applies to building and selling homes. As for being wasteful, it seems to me, again look at the auto industry, that home builders were building what the consumer indicated they wanted. Now I agree that when they are doing it with my money, I don’t like it and think it is a bad idea. It is a good thing if they all use their own money.”It’s the result of distorted choice.” Again, where was the distortion? For the consumer, the ones who freely walked in and applied for loans they could not afford, the choice was not distorted at all and it was made freely.That paragraph is for you uncharacteristically muddled, and full of words used in the vague sense that does not nail down your point or clearly express your views. (IMHO of course)”So I don’t think people should have been prevented from making their choices.” Again, which people? For myself, the people who should have been prevented from making a choice would be those elected officials who decided to vote on and pass the regulations that made it possible for builders, and financiers, to push into dangerously risky territory.”I think the government should not have encouraged financial mistakes.” Yes, I agree, but I’ll see your disagreement and raise you with the comment that government should not be in the business of encouraging anything at all in the arena of commerce.”The current mess is the result of people being encouraged to use my money as a taxpayer against my will.” Here I won’t nail you for your use of people, it doesn’t matter which people here, all people should not be encouraged to use any second or third party’s money, much less money that has been stolen from the one who created it. However, all of us are subjected constantly to advertisements (encouragement) to buy or do many things, do we blame the advertiser because the consumer is too stupid to see the obvious trap? And this leads to my bigger point which is that the bad thing isn’t that they were encouraged, but that they were too enculturated into the thumbsucker doctrine to look at the encouragement as what it really was, an invitation to probable financial disaster.No matter how you slice or dice all the facts, the truth remains that no mortgage, no foreclosure. No loan, no debt. No insanely risky investments, probably no dramatic losses. We can blame government and forget that government is you and I, but that is a bad thing, isn’t it?If we don’t get smart about government then the cycle between feast and famine, justice and oppression, freedom and slavery, will continue to look just like a radio low frequency sine wave.

Anonymous October 29, 2009 at 4:45 pm

Vidyohs,

I’m talking about the people who lent money to Fannie Mae and the people who lent money to Bear Stearns. They were rescued by the government after they had financed (along with some other lenders to other institutions) a few trillion dollars of bad loans.

My essay on this will be available soon. I hope it is less muddied.

Russell October 29, 2009 at 4:54 pm

Quoting vidyohs:

“Which people? The ones who built them, sold them, or bought them? I agree that government made the implicit promise to the first two, but not the latter.”

I’d say that the ability to walk away from a mortgage with no further liability is an implicit promise to the buyers. Why couldn’t the banks go after the buyers? Because the gov’t thinks that’s a good idea. Another gov’t regulation that caused distortions.

Anonymous October 29, 2009 at 5:37 pm

Ah, but Russ, the ability to walk away from a mortgage with no further liability was not an implicit promise to the buyers going in. That aspect came into play after the crash. I lived through it just like you did and I paid attention as well.

The buyers may have hoped, prayed, or sacrificed children to the God of socialism for the ability to walk away, but there was no publicly stated promise that this would be so. Can we maybe believe that some unscrupulous lenders well connected to such as ACORN that did an under the table promise, or suggestion that people would be able to walk away, it might be likely. But I don’t think it has been proven.

gappy October 29, 2009 at 12:52 pm

I greatly enjoyed the testimony. Your comment on NPR was very short and sounded a little populist. This one was more detailed, and made a very strong case that the past two governments are pro-business, not pro-market.
I am still very unconvinced that compensation mechanism is “the” problem. Black calls for incentive-based compensation. But a large number of big executives (Pandit, Cassano, Fuld, Cayne) were fully invested through the crash. Same happened when Enron went bankrupt. On top of that, status and reputation are valuable assets for these executives, and they are lost in the case of a default. Black quotes Ackerlof-Romer, but the evidence plays against him.

Even if executive compensation were fully tied to long-term performance, I don’t think this would have changed the risk appetite of decision makers. Conversely, I think that Russ has it right. The S&L crisis and especially the bailout-by-another-name of LTCM had a disastrous effect on risk attitudes. Mix this with the ample regulatory capture exercised by the financial industry in the past 20 years, and you have a recipe for disaster.

Anonymous October 29, 2009 at 1:53 pm

The punchline is in the chairman’s closing remarks. Problem is, it’s not funny. They simply do not get it. Expect the worst.

Russell October 29, 2009 at 2:25 pm

Your testimony was fantastic. Thank you!

Anonymous October 29, 2009 at 2:34 pm

Seeking doesn’t seem to work. Is it just here? (Linux + Flash combo)

Anonymous October 30, 2009 at 4:32 pm

I think it may just be the player because a video that I watched in Flash on Linux did allow me to seek, but it was a different looking Flash player app. This one does not allow me to seek either.

Anonymous October 30, 2009 at 4:32 pm

I think it may just be the player because a video that I watched in Flash on Linux did allow me to seek, but it was a different looking Flash player app. This one does not allow me to seek either.

A reluctant analyst October 29, 2009 at 2:38 pm

That was a brilliant speech Russ. Is there a way to get a download of this, or may be specifically the part where you speak?

Anonymous October 29, 2009 at 3:01 pm

I should have an edited version available soon.

midnightgolfer October 29, 2009 at 2:49 pm

Capitalism isn’t dead, but it sure seems intent on committing suicide-by-cop.

Anonymous October 29, 2009 at 3:43 pm

Can someone explain William Black’s basic argument to me?

Anonymous October 29, 2009 at 4:07 pm

Okay, so I’m reading a bit of what he’s written. It seems like his approach isn’t to “regulate” so much as it is to have more eyes on the books to ensure fraud isn’t taking place. That seems reasonable to me.

But from his testimony I get the idea that he wants to specify how or limit how much CEOs get paid. Am I understanding him correctly?

Anonymous October 29, 2009 at 4:17 pm

And if he is arguing that pay structure is the problem, doesn’t that arise from decision-makers not having enough “skin in the game?” And wouldn’t that be a result of the government protections on their “personal” wealth? Either these guys need to take responsibility for their own actions, or there needs to be somebody else at the top of the corporation who will, who has an incentive to make sure that fraud is not taking place lower down in the chain.

But I can also see Russ’s point, which, combined with cheap money from Fed makes a whole lot of sense.

Anonymous October 29, 2009 at 4:47 pm

Leverage encourages risky bets, short-term profits, and high salaries linked to those profits, profits that disappear when the bets go bad. I think he’s right. I only add that the leverage becomes possible because the borrower thinks he’ll get rescued.

Anonymous October 29, 2009 at 5:53 pm

That helps clarify things. Thanks, Russ.

I just wonder whether that implicit guarantee is really by itself enough to explain what happened. Artificially low interest rates from the Fed probably also contributed, but are those two things enough to account for what happened?

I don’t expect a free market to ever be rid of mistakes–it’s just a question of whether or not a free market will result in these kinds of system-wide meltdowns every decade or so, or whether the players within it will really have the foresight (through natural market incentives) to avoid them.

Justin P October 29, 2009 at 7:21 pm

Yeah I had to listen to him again because at first glance, I thought he was advocating Nanny Statism.

Anonymous October 30, 2009 at 4:35 pm

As did I. To me, he was being a classic college professor who knows a lot but is not very good at using more common language to explain his argument. Russ, you did and always do a masterful job on your podcast EconTalk at explaining economics in a very accessible way. You don’t dumb the concepts down, but just like in the engineering profession, like I am in, there is always a way of describing something in a more simple way – it does not have to resort to only explaining with the most precise mathematical formula.

Mark M October 29, 2009 at 6:12 pm

I don’t Prof. Black was getting the point (there’s fraud everywhere!). And, in his missing the point, he continually sought the approval of Prof. Roberts, which, contrary to above, he didn’t seem willing to give.

Mark M October 29, 2009 at 6:13 pm

I don’t think* Prof. Black…

SteveO October 30, 2009 at 2:08 am

I got Russ’s point. I think Black’s point was that in addition to Russ’s point, compensation as an incentive was part of the problem.

The thing Russ focused on wasn’t a problem, but he only talked about the peanut butter, without the jelly. The other thing he could have mentioned, that would have undercut Black’s point, was the restriction on insider trading. I’ve been studying Enron all semester, and there were plenty of people who know what was going on. Any one of those people could have undercut Skilling, Lay and Fastow’s stock based incentive pay.

To sum: 2 relevant points. (1) Allowing market loss encourages prudence. (2) Trading by all who can bring information to the market reigns in stock based “out of control” pay incentives.

SteveO October 30, 2009 at 2:08 am

I got Russ’s point. I think Black’s point was that in addition to Russ’s point, compensation as an incentive was part of the problem.

The thing Russ focused on wasn’t a problem, but he only talked about the peanut butter, without the jelly. The other thing he could have mentioned, that would have undercut Black’s point, was the restriction on insider trading. I’ve been studying Enron all semester, and there were plenty of people who know what was going on. Any one of those people could have undercut Skilling, Lay and Fastow’s stock based incentive pay.

To sum: 2 relevant points. (1) Allowing market loss encourages prudence. (2) Trading by all who can bring information to the market reigns in stock based “out of control” pay incentives.

RL October 30, 2009 at 2:47 am

FYI, Prof. Roberts. I pasted your testimony (attributed, of course) into a physician’s blog I contribute to. One of the doctor’s, in the comments, wanted you to run for President. :-)

RL October 30, 2009 at 2:47 am

FYI, Prof. Roberts. I pasted your testimony (attributed, of course) into a physician’s blog I contribute to. One of the doctor’s, in the comments, wanted you to run for President. :-)

mesaeconoguy October 30, 2009 at 4:07 am

I believe TARP originally stood for: Troubled Asset Repurchase Program. I would like to ask Mr. Geithner how and why that changed.

I’m fairly certain that’s been expunged from our collective lexicon, as the “repurchase” part evaporated, because government was completely ineffective in determining relatively cogent market valuations for these assets. And Barney Frank had an important rendezvous in Montreal at the time.

This caused our current conundrum (sorry, Dr. Greenweenie) since the problematic assets remain on many banks’ books.

This may actually be a good thing, as much of the unseen underlying asset revenue stream continues to perform, despite the original NRSRO AAA rating.

The missing piece is rising real estate values, which, according to Austan Goolsbee, should be right around 2005 levels about now.

So, Russ, why is it surprising that Mr. Feinberg, whoever he is, is a politician?

mesaeconoguy October 30, 2009 at 4:07 am

I believe TARP originally stood for: Troubled Asset Repurchase Program. I would like to ask Mr. Geithner how and why that changed.

I’m fairly certain that’s been expunged from our collective lexicon, as the “repurchase” part evaporated, because government was completely ineffective in determining relatively cogent market valuations for these assets. And Barney Frank had an important rendezvous in Montreal at the time.

This caused our current conundrum (sorry, Dr. Greenweenie) since the problematic assets remain on many banks’ books.

This may actually be a good thing, as much of the unseen underlying asset revenue stream continues to perform, despite the original NRSRO AAA rating.

The missing piece is rising real estate values, which, according to Austan Goolsbee, should be right around 2005 levels about now.

So, Russ, why is it surprising that Mr. Feinberg, whoever he is, is a politician?

mesaeconoguy October 30, 2009 at 4:34 am

Good lord. Who is this UMKC Prof. Black fool?The incentive structure is a canard. We already fixed that with Sarb-Ox, didn’t we?The securitization drivers, i.e. the risk envelope parameters, are being driven further out right now because this idiot doesn’t understand incentives, and THE CHECKBOOK IS OPEN EVEN WIDER NOW THAN IT WAS BEFORE.This clueless fraud Towns thinks Associate Deputy Assistant Professor Black knows the RTC structure. He doesn’t. You were 20,000 feet above Mr. Black in your explanation. Towns was busy wiping his ass.Dead on Dr, Roberts. Well done, sir. But incredibly depressing.

mesaeconoguy October 30, 2009 at 4:34 am

Good lord. Who is this UMKC Prof. Black fool?The incentive structure is a canard. We already fixed that with Sarb-Ox, didn’t we?The securitization drivers, i.e. the risk envelope parameters, are being driven further out right now because this idiot doesn’t understand incentives, and THE CHECKBOOK IS OPEN EVEN WIDER NOW THAN IT WAS BEFORE.This clueless fraud Towns thinks Associate Deputy Assistant Professor Black knows the RTC structure. He doesn’t. You were 20,000 feet above Mr. Black in your explanation. Towns was busy wiping his ass.Dead on Dr, Roberts. Well done, sir. But incredibly depressing.

Anonymous October 30, 2009 at 6:43 am

Beautiful! Looking forward to an edited version to share.

Anonymous October 30, 2009 at 6:43 am

Beautiful! Looking forward to an edited version to share.

Anonymous October 30, 2009 at 11:01 am

Wow, it takes guts to say what you did to politicians’ face. Kudos to your comportment and poise!

Anonymous October 30, 2009 at 11:01 am

Wow, it takes guts to say what you did to politicians’ face. Kudos to your comportment and poise!

Anonymous October 30, 2009 at 4:41 pm

I agree! There was emotion in Russ’ voice, but it was the emotion of urgency that if our government does not back off and stop down this stupid path of meddling, we’re in trouble. I totally agree with that and I was proud of Russ and the clear stand that he took seemingly alone. Prof. Black seemed to agree with Russ, but his focus was on the wrong thing. Well done Russ!

David October 29, 2009 at 6:10 pm

vidyohs,
The ability to walk away from a mortgage without personal liability — the “one action rule” — is the law in California, Utah, Nevada, Idaho, Montana, North Dakota, New Jersey and, arguably, New York. It was not an implicit promise may to buyer, but in fact a legal right in these states.

Russell October 29, 2009 at 6:17 pm

Quoting vidyohs again:

“Ah, but Russ, the ability to walk away from a mortgage with no further liability was not an implicit promise…”

Even worse than an implicit promise, this was an EXPLICIT promise (As David has noted). No-recourse loans are not something that just came about in response to the current crisis.

Anonymous October 29, 2009 at 6:31 pm

Russ, how does Dave’s input change your previous posts, when you made them?

And, personally we can agree that Dave’s information on a “one action rule” in play in 7 states and possibly one more changes nothing about how your generalized statements were applied to the other (Obama count) 50 states. I mean specifically this: “I’d say that the ability to walk away from a mortgage with no further liability is an implicit promise to the buyers.”

You did well in front of the committee, Russ, I just believe I saw a contradiction that you carelessly let slip, pressure maybe? I do not, and will never, accuse you of statism or believing in a reduction of personal freedom.

My problem is that I have spent too much of my time over the last ten years listening to testimony in a legal setting, and I listen not only as a low grade intel guy but now as a lawyer as well. I probably ought to be shot as a danger to myself if for no other reason.

Russell October 29, 2009 at 6:33 pm

Keep in mind that I am not Russ Roberts…

Anonymous October 29, 2009 at 7:11 pm

Vidyohs,

I’m confused.

I wrote something here that you interpreted as an attack on the freedom. I clarified what I meant by government guarantees. What’s the contradiction?

Anonymous October 29, 2009 at 7:15 pm

Thank you for making the distinction, sorry bout that.

Anonymous October 29, 2009 at 7:23 pm

I am sorry Prof Roberts, I mistook Russell’s replies as being from you. However if we go back to your last, I really did not see the clarification you speak of. My bad?

Anonymous October 29, 2009 at 7:27 pm

I don’t know who’s bad it is. When you read my essay you’ll have a better idea of what I was trying to say and can weigh in again then.

Anonymous October 29, 2009 at 8:43 pm

Tis true. Look forward to it.

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