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I recently interviewed [2] Joe Nocera, co-author with Bethany McLean of All the Devils are Here [3]. I really enjoyed the conversation and the book. Nocera and McLean describe various “devils,” people who made the crisis worse or who failed to stop it, despite their responsibilities as regulators. In the latter group, among others, they mention Alan Greenspan who repeatedly dismissed efforts to regulate the explosion in subprime lending and the securitization of subprime mortgages because of his ideological bias in favor of markets and their self-regulating properties.
In the interview with Nocera, I challenged this assessment of Greenspan. Greenspan certainly spoke like an ideologue at various times, particularly when he gave reasons for leaving things alone. The problem with this explanation is that it does not explain all the times Greenspan did intervene in markets, especially to bail out Wall Street. Those times would include his reaction to the October 1987 stock market fall, or his support [4] for the US bailout of Mexico via loan guarantees:
This program, in my judgment, is the least worst of the various initiatives that present themselves as possible solutions to a very unsettling international financial problem. Our concerns are not so much with potential losses to the US. taxpayer, which we believe will be minimized, but with what economists call moral hazard–when the active involvement of an external guarantor distorts the incentives perceived by investors. Thus, appropriate conditionality must be associated with the guarantees to underline the fact that they are being provided at high cost and on rigorous terms in exceptional circumstances. Moreover, Mexico’s economic policies are the key to ensuring that the guarantee facility actually does help to stabilize the Mexican economic and financial situation; ultimately only sound policies that are sustained over time will restore investors’ confidence in Mexico. External guarantees can only offer temporary support. Nonetheless, I see no viable alternative to the type of program that is being presented to the Congress if the financial erosion is to be stanched before it threatens to become a wider problem.
So while he recognized the moral hazard problem and understood that this intervention was a compromise with his so-called free-market principles, he supported the intervention as a “least-worst” solution. And while he justified the support on the grounds of preventing a “wider problem,” he surely knew that Wall Street banks who had lent money to Mexico and who earned fees from Mexico’s international finance activity, would be some of the beneficiaries of the guarantees. Was Greenspan’s ideology the real reason he opposed regulation of the subprime and the derivatives market?
In the book, Nocera and McClean fault Greenspan and Robert Rubin for failing to heed the warnings [5] of Brooksley Born and others about derivatives:
Her efforts to stop that from happening ran afoul of some of the most influential men in Washington, men with names like Greenspan and Levitt and Rubin and Summers — the same Larry Summers who is now a key economic adviser to President Obama.
Why did Rubin oppose Born? Nocera and McClean suggest that Born was insufficiently deferential to Rubin whose ego demanded more stroking. They say Summers had the same problem. Nocera and McClean also mention Ed Gramlich, a Fed governor who saw the warning signs that subprime was heading in a bad direction but was too polite and diffident to push back when his warnings were dismissed.
So Greenspan’s ideology, Rubin and Summers’s ego, and Gramlich’s lack of one explain their mutual failure to do something about subprime.
I have a simpler explanation. All of those folks had an incentive to ignore subprime. Ideology was just window-dressing. They liked their jobs. They wanted to stay in them. Helping Wall Street or at least not rocking Wall Street’s boat was the politically savvy thing to do. Ignore what people say is their motivation. Look at what they do. What Treasury Secretaries and Fed governors and Fed Chairmen do is protect creditors when they are large financial institutions [6]. That makes a bunch of people happy –especially the people who profit from being able to borrow lots of money and make highly leveraged bets. It allows firms to become interlinked and further justifies creditor bailouts in the name of preserving stability. When the crisis comes, instead of injecting liquidity, funnel money to particular firms. Both keep the economy relatively steady, but one helps generally. The other saves particular people who made bad bets and keeps them very happy with you. So the whole argument that x or y had to be done to save the system is doubly dishonest. One, it’s not clear the system needed saving. But more importantly, the way the system is saved time and time again insures that individuals who are politically important are able to make a great deal of money.
It’s not a conspiracy. I don’t think the chair of the Fed, be it Bernanke or Greenspan or their predecessors or the Secretary of the Treasury be it Paulson or Rubin, sit around thinking about how to take care of rich investment bankers. And I don’t think the men themselves see themselves as pawns of Wall Street. Just like a journalist sees different motives for different people, each of these decision makers tells himself that he is doing the right thing. But he isn’t. He’s doing the thing that makes his patron in the White House or on Capitol Hill happy–he is taking care of a few really important people and spreading the costs over the rest of us. They are not really devils. They are people caught up in the incentives who convince themselves that what they are doing is the right thing. They honestly feel they had no choice. The journalist comes along after the fact and sees the flaw. But I think it’s the wrong flaw. The flaw isn’t in the man who is the ideologue or the egotist or the gentle one. The flaw is the system that gives a louder voice to some rather than others.
One of the deepest things I have learned from Bruce Yandle is his observation that we ourselves have a bootlegger and baptist inside of us–a good motive and a bad motive. And when we do bad, we find ways to convince ourselves, to deceive ourselves, that we are doing good. My homage to Bruce’s ideas, this essay [7], tries to capture the role self-deception plays in ourselves, and then in the political process.
The challenge of economics and of journalism is to remind us that motives are less important than actions. People lie about their motives. Look at what they do, not what they say. Alan Greenspan was a lousy ideologue. He may have thought otherwise. He may have deceived himself. But we don’t need to be deceived.