A number of readers have emailed me to ask what I thought of this:
Austan Goolsbee, an economics professor at the University of Chicago and one of Sen. Obama's closest advisers on economic issues, said the senator believed strongly in enhanced regulation of any financial institution that has access to the Fed's discount window."If you can borrow money from the U.S. taxpayer at a moment of crisis, that is a very sacred insurance policy underwritten by the U.S. taxpayer," said Mr. Goolsbee in an interview last week with Dow Jones Newswires. "We have the right to oversee anyone who is accessing that insurance policy."...
Mr. Goolsbee said that an Obama presidency would ensure that investment banks are regulated as closely as commercial banks.
Greg Mankiw asks: "Can an investment bank avoid such regulation if it promises never to use the discount window? Or is this insurance-regulation combo a mandate?"
I'm not sure that's the right question. As Matt pointed out yesterday
My first read on this was that a "promise" would be no good. A bank can't "promise" not to fail. Nor can a bank promise not to be bailed out if it does fail. A bailout, when justified, isn't a favor you do for the bank. It's something you do because it's necessary to avoid larger negative consequences throughout the economy. So a promise to avoid the discount window would be valueless. But if the public is going to need to guarantee that financial institutions that grow "too big to fail" don't fail, then the public is going to need to regulate those institutions.
Bear Stearns wasn't bailed out for the good of Bear Stearns; it was bailed out because it was the counterparty to vast numbers of trades, and the Fed was worried that markets would lock up. No bank can credibly commit not require government assistance, so in some sense, they're gambling with our money. Once you take the King's Shilling, you also take the King's orders.
The question I have is this: what regulations? Over the past few months, I have been to a dozen or more events sponsored by various think tanks that together represent most of the American ideological spectrum. Most of them think that investment banks need "more regulation"; it's a pretty strong consensus. The problem is, there are precious few ideas as to what that regulation might entail.
Here is, as far as I can tell, a comprehensive list of all the regulations that most economists could probably agree to:
1) Increased capital requirements for investment banks
2) Cracking down on fraud in the mortgage brokerage market
3) Less off-balance sheet activity
4) Requiring originators to keep a piece of the loans they package
The problem is, it's not really very likely that these four would have prevented the current crisis. If you borrow short and lend long--and all banking is some variant on this--you will at least occasionally be caught out. There's no real evidence that the problem in the housing market was supply-side, rather than demand-side, fraud. Bear Stearns wasn't taken down by its SIVs. And it's not really clear that the originators would have behaved much differently had they been keeping a piece of the loans they packaged.
The housing bubble created a powerful illusion: that low income lenders with bad credit were actually quite profitable to lend to. That's because the rising housing prices allowed borrowers in trouble to refinance rather than default. There's no reason to think that the originators were any less deluded about the credit risks than the investors. The no-doc, option and negative amortization ARMS were not a secret; everyone knew what was going on. People bought mortgage bonds anyway in what now looks like a stunning piece of idiocy.
When I try to get people to specify, beyond those four rather anodyne suggestions, we should do, there's a lot of hemming and hawing. Even the left-wing think tankers sort of look at their shoes and whisper "We need a better regulator". At which point even the left-wing journalists in the audience start asking "Where are we going to find regulators who understand this better than the guys at Goldman Sachs--and are willing to work for, say, a GS-13 salary?" The only people who confidently state that they have a surefire master plan to fix the problem are, not to put too fine a point on it, morons with very limited understanding of financial markets. These people generally start by talking about how the Bear Stearns crisis can really be traced back to the repeal of Glass-Steagall, then almost immediately reveal that they know nothing of Glass-Steagall other than its name.
I have tried all sorts of ways to ask these questions. Nor am I engaged in "libertarian gotcha"; though the game is hours of fun, I am not actually against better or even more regulation of investment banks*. I just want to know what sort of regulation we are going to have; I am against doing something for the sake of doing something.
Which financial instruments should be illegal, I ask, but few are willing to name one. How should we arrange the orderly winding-down of an investment bank with complicated business lines and massive counterparty exposure? Rueful shrugs. What business lines should investment banks be forced to divest? Ummm . . . . Should we limit the percentage of a market that one bank can control, at the risk of lowering liquidity in ordinary times? Welllllllllll . . . Should banks have broader distribution of their capital across business lines, or fewer business lines, and is either even possible to arrange without financial disaster . . . good question. Do we give the regulator broad powers, to make them more flexible, or narrow powers, to make them more accountable? Let me think about that . . .
But the fundamental question that no one ever answers is simply "How will the regulatory agency be any smarter than the banks?" The political process and existing regulatory infrastructure did about as well at anticipating and preventing the current problems as the banking system did. As I say above, this question usually gets asked by liberal journalists. And its usually answered by an honest and intelligent liberal policy wonk forthrightly saying, in essence, "I have no idea."
Now, it's certainly very possible that Austan Goolsbee has answers to at least some of these questions; he's forgotten more about finance than I'll ever know. But I'd really like to hear what they are.
* Though I am slightly taken aback by the fact that it is the already fairly heavily-regulated investment banks, rather than basically unregulated hedge funds, that have caused the problems.
From Megan:
Then you have no future in politics.
Megan, that's an excellent post and I agree that it seems more or less impossible to do a better job of regulating private financial activity than is already being done, at least in terms of averting crises.
That's why I think the (entirely original and novel) solution in this case is a higher tax on the banks (and the hedge funds too!) that are big enough to require bailouts if things were to go south. It won't stop future crises from taking place, but at least the government would be bailing them out with their own money.
Good Post, as usual you hit the points in a clear manner. Thanks
I'm wondering if all this new regulation will be necessary once we've successfully dismantled the modern economy to head off global warming.
I'm not the greatest economic historian, but were there big problems with financial crises in stone-age times?
"Now, it's certainly very possible that Austan Goolsbee has answers to at least some of these questions; he's forgotten more about finance than I'll ever know. But I'd really like to hear what they are."
Amen to that. Great post on a fascinating topic.
I'd love to hear more details from Goolsbee on how regulation would even be possible. I admit to being cautiously pessimistic about the virtues of more regulation - But the Fed's role in the Bear Stearns Bailout leaves me open to the need of further regulation.
And it's not really clear that the originators would have behaved much differently had they been keeping a piece of the loans they packaged.
It strikes me as fairly clear. Adverse selection and all that - if a used car dealer doesn't offer a warranty, how's that car going to look?
"How will the regulatory agency be any smarter than the banks?"
They have seperate goals - the idea that the banks are regulating themselves de facto in line with what Goldsbee is recommending is questionable.
Getting a number in the marketplace as to how leveraged various institutions (including hedge funds) are would be a good place to start. Many of the major investment banks have essentially become de facto hedge funds, so their leverage rates should play a part. This isn't an easy number to do of course, but it is crucial information the market has no way of knowing.
And give the left some time - it's been a lot of heavy lifting just getting people to admit that it isn't always a floating walsarian perfect world out there in the markets...
I think the four points listed would help prevent future situations in that they build greater "care" into the system, and they would have definately had a preventative effect on the current difficulties.
3) Having less off balance sheet activity makes it easier to know the exact situation and health of a firm. And chances are changes in those requirements will happen. There is nothing like invisibility to add to instability. To the extent off balance sheet activity exists, it does not help our current situation. And one of the reasons banks cannot now lead us out of our situation is because of the balance sheet/asset value unknowns.
2) Cracking down on fraud in the insurance market would probably include actually changing how loans are marketed, which would get at the core of the problem we are in now. I would doubt any serious mind would look solely at fraud and ignore the legal actions that encouraged the fraud (like no-doc loans, a fraudster's orgasm).
4) Requiring loan originators to eat a portion of their own pudding helps prevent situations we are in now. If you can write loans and then take them totally off your books and pass them along, do you really care what's in them or whether the quality across the loan bundle holds up?
1) Increasing the capital requirements for investment banks would make it less likely they have to go begging when something does go wrong, no? Just like increasing an individuals capital requirement would make them better able to absorb difficulties. Further, loan packagers on Wall Street are more likely to build (and inforce) tough put-back options (to originators) and take greater care with their capital.
All four of those suggestions require little regulatory effort, while doing a world of good.
To say, it's not really clear that the originators would have behaved much differently had they been keeping a piece of the loans they packaged. seems to be somewhat simplistic.
For example, we all produce waste, and invariably it goes out to the dumpsters and we never see it (unless maybe we live on Staten Island). But how much more careful would we be if that waste had to sit in the apartment for a month before being removed? Different story. Same with mortgages.
Other than getting good press for having Austan Goolsbee onthe team, what has the net effect of Austan been on the Obama campaign?
The economic insanities favored by the Obama team outweigh the economically sound policies, and there's no particular reason to think that Goolsbee in repsonsible for the sound policies.
So what if he's smart - he doesn't seem to have any real effect. So who cares what regulations he's for - it's the lobbyists and zealots who'll write the regulations, just as they've determined the rest of Obama's policies.
Greater transparency can't hurt and, if the banks still tank despite the information being available, then there is not much that can be done.
I wonder how much of this is demographic -- we have a large cohort at the peak of their investing years chasing yield. This is bound to depress prices and magnify risk. We'll have the opposite problem in 20 years if this is correct as people are selling assets, yields are great and the complaint will be in capital losses.
Or at least that you be my (uneducated) guess.
This may sound incredibly naive, but if the problem (for taxpayers) is some banks and financial institutions are "too big to fail", why not limit the size of banks and financial institutions?
It’s a partisan meme. Some ears love the call to regulation.
Now you’ve gone and started to blow it.
I expect they’ll switch to, ‘no more regulation, for now, but the anti regulation Bushies were asleep at the switch / didn’t do their jobs / use the tools they had’ meme next.
Refresh my memory, what would those “economically sound policies” be again?
The only half-way decent idea I’ve heard from the Obama camp was to oppose a gas tax holiday but that was more than offset by his idiotic support for taxing “excess profits” (WETF they are) and for ethanol subsidies. His health care “reform” proposal is an abomination and the best you can say about it is that he hasn’t come out for an individual mandate (yet), he’s pro-corporate welfare, anti-free trade, and supports jacking up the capital gains tax rate just for the sheer joy of it.
Great comment Finn. Megan, would you mind posting a few presentations by the "pro-"regulation groups you have seen recently? Any stand out? I found it glib that you mention that there are a lot of presentations by would-be regulators but that the only specifics you gave is that they all "know nothing of Glass-Steagall other than its name" (no links, or standouts).
I've only been following it in the abstract but this was a promising first set of guidelines:
http://www.iie.com/publications/papers/goldstein0408.pdf
I don't have a comprehensive solution, but I have a few ideas that would make a few steps in the right direction. Please tell me what you think:
1) If the Fed's going to ensure liquidity of major institutions which are otherwise solvent, then go ahead -- make the loans. But PLEASE, charge them a higher interest rate! If it's to keep them from collapsing over a 3-month window, I *think* they can handle a 9% annual rate rather than a 5%. Come on Fed, how about a MEANINGFUL risk premium.
2) Not so much the banks themselves, but this would be a minimally intrusive way to stop risky home loans:
-Define a "standard" mortgage as one with 20% down, no prepayment penalty, etc., all the good stuff we expect responsible people to do.
-Require anyone getting any loan (or "loan product" as trendy people might say) that doesn't conform to this, to fill out a pointless form, and mail it off to get rubber-stamp approval from some pointless government agency in ~30 days.
The idea is that it adds a psychological barrier to getting a toxic loan, making the market gravitate toward reasonable ones. Yet, if you know what you're doing, it's still easy to get a bizarre loan, as the filling out of a form and waiting a little is no big deal to a determined soul like you.
Thoughts?
"Should we limit the percentage of a market that one bank can control, at the risk of lowering liquidity in ordinary times?"
How would limiting the percentage of a market that one bank can control equate to lowering liquidity in ordinary times?
The core of this is that the government was injecting huge amounts of liquidity in the market, via several mechanisms. There was the increase in spending. The decrease in taxes. And then the rock bottom interest rates. That liquidity needed someplace to go, and low interest rates made home lending an attractive place to camp. I seem to recall some people cheering this on in 2004, because "home values always rise". I and others saw this as a bubble waiting to burst, which it did. Now we have a fallout that is going part and parcel with rising fuel and food costs. Coincidence?
I don't know that regulators would have prevented the bubble. Perhaps some regulation would have prevented the credit crunch. Though to analogize this, it reminds me of someone who drank too much cheap beer the night before and now must "work it out" the next day on the toilet. We perhaps could have prevented the banks from collateralizing the loans as securities like they did, but and we might not have the credit crunch like we do, but we'd still have a housing fallout.
Skepticism so becomes you.
I should also point out that the free wheeling days of 04 with liar's loans and no money down are dead and gone. Did anyone else follow the mortgage implode-o-meter? All those free wheeling lenders are gone. So now that there can only be good loans, not enough people can qualify to soak up the excess units. Classic supply and demand problem. There is too much housing supply. We can either destroy supplies (demolishing homes that are foreclosed/vacant) or increase demand (subsidies to first time home buyers on owner occupied properties). Both are costly. Which is better?
How about something simple like, don't bail out losers.
Both are costly. Which is better?
Neither. Let prices fall for a while while I save up to buy a couple acres.
"Where are we going to find regulators who understand this better than the guys at Goldman Sachs--and are willing to work for, say, a GS-13 salary?"
Goldman Sachs' people make risk/reward judgements with the assumption that reducing the net worth of the company to zero is the biggest risk. Regulators would assume that there are worse possible outcomes. While I certainly believe that Goldman Sachs would be employing the more talented workforce, the regulators would have the advantage of working with more valid assumptions.
freddiemac:
There is too much housing supply.
What, there are suddenly less people in the country? Wasn't the other problem that working people couldn't afford housing anymore? Can't have it both ways...
Goldman Sachs' people make risk/reward judgements with the assumption that reducing the net worth of the company to zero is the biggest risk. Regulators would assume that there are worse possible outcomes. While I certainly believe that Goldman Sachs would be employing the more talented workforce, the regulators would have the advantage of working with more valid assumptions.
Missing variable: Goldman Sachs' people also make their judgments with the assumption that the biggest risk for screwing up is losing their crème de la crème job, along with their future credibility to assume a comparable position at any other comparable firm. Whereas government regulators...
Over the past few months, I have been to a dozen or more events sponsored by various think tanks that together represent most of the American ideological spectrum. Most of them think that investment banks need "more regulation"; it's a pretty strong consensus. The problem is, there are precious few ideas as to what that regulation might entail.
Let me see if I understand this: they all agree that they should have more power to force investment banks to do something, but they are not sure what to force them to do?
A fascinating insight into the art of government.
Here is, as far as I can tell, a comprehensive list of all the regulations that most economists could probably agree to:
1) Increased capital requirements for investment banks
2) Cracking down on fraud in the mortgage brokerage market
3) Less off-balance sheet activity
4) Requiring originators to keep a piece of the loans they package
The SEC's general power to investigate those it regulates and to take emergency actions shouldn't be underestimated. If you are a SEC-regulated entity, a member of the SEC staff can literally show up at your door at any hour of the day and say, "Give me your file on X" and you have to turn it over. (I have actually seen this happen.) Based on what it finds, the SEC can take lots of different steps to lock down your business. That kind of power may be subject to misuse -- cf. all those who criticized Eliot Spitzer's use of his Martin Act powers as AG -- but there is something to be said for that kind of flexible investigative power.
freddiemac:
There is too much housing supply.
In some areas (where they're basically giving away houses) this may be true, but for most housing down markets it's more accurate to say asking prices are more than buyers are willing to pay.
Person:
-Define a "standard" mortgage as one with 20% down, no prepayment penalty, etc., all the good stuff we expect responsible people to do.
-Require anyone getting any loan (or "loan product" as trendy people might say) that doesn't conform to this, to fill out a pointless form, and mail it off to get rubber-stamp approval from some pointless government agency in ~30 days.
The idea is that it adds a psychological barrier to getting a toxic loan, making the market gravitate toward reasonable ones. Yet, if you know what you're doing, it's still easy to get a bizarre loan, as the filling out of a form and waiting a little is no big deal to a determined soul like you.
1. I don't think it would be much of a barrier, really. If there's no chance of actually getting turned down, people will do it anyway, no matter what their circumstances. In fact, I would tend to worry that this would cause people to think that the government has okayed the loan and the government is somehow standing behind them financially.
2. Why concentrate on the borrowers and not the lenders? I'd rather see anyone holding such a "toxic" loan forced to report in to the government in some way, if there is no such requirement already.
"What, there are suddenly less people in the country? Wasn't the other problem that working people couldn't afford housing anymore?"
No, population is growing, but during the housing boom supply grew faster than population growth or growth in new home buyers.
I don't recall there being a problem that people were being priced out of the housing market. Possibly in some areas in SoCal, but that is SoCal geography for you. In many regions there is a lot of affordable housing but people were willing to drive pretty far to get away from those areas (see: Detroit).
At any rate, much of the excess supply during the boom was sopped up by people who bought investment properties that aren't so much of an investment now. So supply is increasing as non-owner occupied properties are dumped on the market. Also the credit crunch is stunting the growth in new home buyers, but some may argue that it is a good thing because otherwise we would be letting people who weren't credit worthy borrow and that's why we are in this mess to begin with.
I'll second freddiemac up there: the problem here is the Fed pushing money into the economy, that is, it is fractional reserve.
The key aspect of our money system is that banks which do not create money, lose. In our system, newly created money is not just given to banks; rather, they only get to have it if they loan it out (and they lose it as loans are repaid, but not the interest). Thus their profits are made by making loans. A bank which is not "loaned out" right up to the reserve ratio will be outcompeted in the market by other banks.
In this sort of market environment, when the Fed pushes more and more money into the economy, it will naturally end up going to worse and worse loans. Well, after the dotcom burst (the target of the last round of money-pushing), and 9-11, the Fed has been creating a lot of money. So, a bust somewhere, with lots of risky/crazy/fraudish activity was inevitable. If it had not been housing, it would have been something else. (Indeed, one wonders what it is right now.)
That was Cayne's repsonsibility at Bear Stearns. Ace Greenberg, a founder, was yelling at him in meetings that he neeeded to raise more capital. He did not. He was making the 'big money.' Bear Stearns is gone.
That's why I think the (entirely original and novel) solution in this case is a higher tax on the banks (and the hedge funds too!) that are big enough to require bailouts if things were to go south.
That would almost certainly cause more financial crises to occur. By guaranteeing in advance that you'll bail them out if things go south, you reduce the downside to failure and thus encourage banks to take on riskier investments. Raising their taxes also hurts their profits, so they will *need* to engage in riskier practices just to keep their prior levels of ROI for their investors.
Anyway, corporations and high-income Americans already pay virtually all of the non Social Security/Medicare taxes. They're the ones who lose the most if the economy goes south, so it is already pretty much the case that the people who benefit from a Bear Stearns-style bailout are paying the cost of it.
Goldman Sachs' people make risk/reward judgements with the assumption that reducing the net worth of the company to zero is the biggest risk. Regulators would assume that there are worse possible outcomes.
Regulators make their risk/reward judgments with the assumption that personally getting in trouble with their bosses is the biggest risk.
If they approve a business practice and it fails, they get in trouble. If they deny permission for a business practice that would have created thousands of new jobs and millions of dollars in tax revenue, nothing happens -- because, of course, you can't prove that such a thing would have happened, had the government not meddled in the economy. Regulators have no reason to care if the economy does well, if the business does well, or if the regulatory decisions they make actually make anybody better off. They have every incentive to forbid and restrict, and no incentive to approve and allow.
Anyway, corporations and high-income Americans already pay virtually all of the non Social Security/Medicare taxes. They're the ones who lose the most if the economy goes south, so it is already pretty much the case that the people who benefit from a Bear Stearns-style bailout are paying the cost of it.
Cite?
Ad hits it out of the park.
This is a question with an obvious answer to anyone who understands the principles of economics rather than just knows the content of the teachings.
Everyone who might have a hand in making new rules that will restrict what Goldman Sachs can do or not do is now the owner of an asset. That asset is the right to sell Goldman Sachs back it's charter to do business. Eventually, they will settle on a sale price (note who is raking in the biggest campaign contributions from Wall Street), Goldman will be able to continue doing business in basically whatever fashion it wants (they can just shift certain transactions to oversees entities) and there will be a huge mess of new rules.
These new rules will have the following effects:
1) Jobs for graduates of the programs run by the advocates of new rules. Elite law schools (lawyers), elite business schools (MBAs to apply brain power circumventing the new regulations), lower level law schools (government lawyers to enforce the regulations), lower level business schools (government accountants to run audits and such)
2) More power to "government" but in reality, those who will write the regulations. Oddly enough, expect that these people will be the people who advocated more "regulation" without saying what those regulations should be.
3) Less competition for Goldman Sachs and its ilk. Plenty of firms do things that require interaction with financial markets. The more regulated those markets are, the more it makes sense to concentrate regulated operations in a few firms with the specialized knowledge about the regulations.
4) Create the next problem. By creating a new regulations and eliminating part of market feedback, more bad incentives are likely to exist and cause things to go off track creating more problems. These can then be solved by more of 1-3. For example, everyone hated corporate takeovers so now it's harder to buy up controlling interest in a publicly traded company. As a result, the principal agent problem gets worse and worse and CEO pay spirals upward. Elliot Spitzer then gets elected governor for "taking on" high CEO pay.
This should be pretty basic public choice economics. Megan, is this a rhetorical question?
Think tanks are not good fonts for ideas about areas such as financial regulation. If government can't afford people to properly monitor financial activity risk, think tanks certainly can't. (Incidentally, banking and securities regulators are paid according to a special government scale that is significantly more than the GS scale, though still only a fraction what the financial sector pays.)
However, the point someone made above is correct: it's not so much about intelligence as incentives, and a regulator's incentives are different. At the same time, Megan's comment about hedge funds is slightly off the mark -- while hedge funds per se were not the big players in the subprime crisis (though 2 hedge funds owned by Bear Stearns actually did trigger it), the proximate cause of the credit crisis was on the unregulated side of the investment banks, where the IBs were indeed acting as giant hedge funds. The problem that occurred with Bear Stearns was that the firewalls that supposedly separated the regulated and unregulated activity of the firm broke down. (While there was significant counterparty risk to a Bear Stearns failure, it is important to note that investor funds were never at risk because those regulatory firewalls, at least, actually worked.)
I think it's correct to say that no regulation is ever going to prevent market bubbles. Economic research in this area even suggests that investors caught up in a bubble with speculate even if provided with complete information about the underlying value of an asset, so even improving transparency may not be a panacea. (See Lei, Vivian, Charles N. Noussair, and Charles R. Plott. 2001. "Nonspeculative Bubbles in Experimental Asset Markets: Lack of Common Knowledge of Rationality Vs. Actual Irrationality." Econometrica 69:831.) But this is where regulator incentives are important: because a financial regulator's job is to build firewalls rather than make a profit, you might still be able to design regulation to limit the systemic risks presented by a whole collection of very bad bets all going in the same direction. And if you are looking for recommendations in that area, I think the recent Senior Supervisors Group Report is a good start, particularly in the area of risk assessment requirements (http://www.sec.gov/news/press/2008/report030608.pdf). In other words, if you require firms to apply risk assessment practices to their entire operations (regulated and unregulated) and bring the off-balance sheet activity back on the balance sheet, you may not even have to tinker with the capital requirements because actual risk will be more apparent and the current rules would require the firms to put in so much additional capital that they will steer clear of the kinds of risks that could wreck the firm -- or else completely quarantine those risks so that the spillover is limited.
Self-regulation in a greed based industry is a right wing delusion.
The fire-wall between Wall St banking and consumer banking needs to be rebuilt. Otherwise in a matter of time the next "bubble" created by winking at the system will crush the banks again. Real estate bundles, junk bonds, there is always a twist on the same old same old.
The only reason one would resist better accounting and transparency is having something to hide.
What few remaining checks there are failed miserably. I am amazed Moody's and others aren't done, much like the accounting firms that abetted Enron.
I know that deregulation is the favorite chestnut of reaganites, but how many failures of this policy before you rethink it?
Try this:
http://www.brookings.edu/papers/2008/0516_credit_squeeze.aspx
"The problem is, it's not really very likely that these four would have prevented the current crisis. If you borrow short and lend long--and all banking is some variant on this--you will at least occasionally be caught out."
Houston, I think we found the problem. How about we let the banks fail when they borrow short and lend long? Before too long, the only surviving banks will be ones that engage in sound financial practices. The free market works. There is absolutely no economic justification for subsidizing maturing mismatching. Matching the date liabilities need to be paid off with the date income will be coming in is basic financial practice that every company practices. It's incredible that with banks we not only allow mismatching, we actively subsidize it!
I highly recommend reading Rothbard's History of Money and Banking and/or DeSoto's Money, Bank Credit and Economic cycles.
When some genius figures out how to regulate against bad judgment - and I have a hard time seeing the current difficulties as the result of anything more nefarious than that - let me know. In the mean time, as one of those (still) priced out of the housing market, I'll support freddiemac's suggestion of subsidies for first time buyers of owner-occupied properties. Big, glorious subsidies! Admittedly I think it's a terrible idea over all, but, you know, everyone believes in general economy and specific expenditure.
I hear you on the general uncertainty, Megan, as well as the tendency for vapidity, but you're exaggerating. There were some good suggestions, frankly, from the comment section. I highlight this:
Getting a number in the marketplace as to how leveraged various institutions (including hedge funds) are would be a good place to start. Many of the major investment banks have essentially become de facto hedge funds, so their leverage rates should play a part. This isn't an easy number to do of course, but it is crucial information the market has no way of knowing.If they approve a business practice and it fails, they get in trouble. If they deny permission for a business practice that would have created thousands of new jobs and millions of dollars in tax revenue, nothing happens -- because, of course, you can't prove that such a thing would have happened, had the government not meddled in the economy. Regulators have no reason to care if the economy does well, if the business does well, or if the regulatory decisions they make actually make anybody better off. They have every incentive to forbid and restrict, and no incentive to approve and allow.
Today's example of wild speculative assumptions asserted as law. The logical outcome of your 'model' is that regulators outlaw all possible or proposed financial transactions of every type. This is not reality, so you should come up with a new model.
Cite?
I don't have time to dig up government revenue information right now (maybe later tonight), but if I recall correctly approximately 95% of the non-SS/Medicare taxes are raised by the personal and corporate income taxes, with income taxes being about 2/3 of the total. The top income quintile pays around 2/3 of the total income tax; the next highest pays most of the rest. So somewhere around 85-90% of the government's non-SS/Medicare revenue is provided by corporations and upper-income Americans.
Look, we regulate financial institutions as does the rest of the developed world. The assertion that regulators are a bunch of government dimwits with a fraction of the intellectual talent of the regulated is not terribly useful. It could be used to argue for the repeal of the Securities Act of 1933 just as well. The content of the regulations is indeed everything. Saying that we need more regulations without knowing the content of the regulations is like saying we need more laws without knowing what laws we need.
The logical outcome of your 'model' is that regulators outlaw all possible or proposed financial transactions of every type.
That would be the logical outcome if and only if regulators had complete responsibility for the entire economy and unlimited power to regulate it. Neither of those things is the case.
You've heard the expression "it is easier to get forgiveness than permission", right?
You know, not all 100% financing deals are toxic loans. There *are* some people out there who don't make much now but, in the very near and very predictable future, will. That includes me, Dan; I don't relish paying for the bailouts of Bear Sterns, especially as I didn't make anything off their behavior. High income != high wealth. (The old truism that doctors are bad businessmen is abundantly real; if we were any good at evaluating risk and reward we'd never have chosen a business with a long lead time to any ROI, bad hours, and little or no option to take non-cash compensation with resultant high tax liability.)
And how do you choose to force loan originators to take part of the hit? Enforced pushbacks sound great until you figure that Wall Street will just find a way to shove back the junk loans on the originators, keeping the star performers for themselves.
Re: If you can write loans and then take them totally off your books and pass them along, do you really care what's in them or whether the quality across the loan bundle holds up?
Mortgage companies were almost always required to buy back loans that went back within the first six months of sale. This is a major reason why so many of them ended up going out of business.
While I'm hardly a gold bug, there is a pathetic irony to all of this. Every credible account of the mortgage market crisis that I have heard begins with an acknowledgement that the underlying driver of the crisis was that the central banks kept the liquidity spigot on for too long. Excess liquidity began chasing yield into uglier and uglier portions of the mortgage market. But this indicates that the underlying problem was not an instance of market failure but one of government failure. Had the mortgage market been more heavily regulated the banks would have merely allocated the liquidity to another sector with a comparable risk-return tradeoff. Under the suggested regulatory regime, the next time the government overflows the tub with cheap money, we'll be treated to the slow strangulation of the banks, rather than the dramatic loss of a few.
Woo hoo.
There were state regulators (inNY & GA, I believe) who before the mtg debacle blew up nationally were trying to regulate excesses within the mtg biz. They got shut down by Fed (non)regulators in the thrall of the market and Bushian cronyism (and willful selectivity about states' rights when there is a buck to be made). There are policies in place at the state level that could be reviewed and improved...maybe nationalized.
It took 47 comments, but someone finally nailed it.
"Austan Goolsbee, an economics professor at the University of Chicago and one of Sen. Obama's closest advisers on economic issues,"
Isn't this the guy who told Canada that Obama didn't really mean his anti-NAFTA schtick - and that it was all aimed at Mexico anyway, and was then promptly disowned? Does Obambi have any advisors that he hasn't disowned? Will Merrill McFreak be the next one under the bus, once his ramblings finally break the Dem's lock on big Jewish donors? McCain has a real chance with Jews - Bush did ok with them and he has a lot more evangelical baggage than McCain.
"We can either destroy supplies (demolishing homes that are foreclosed/vacant) or increase demand (subsidies to first time home buyers on owner occupied properties)."
Um, I flag a "false choice" debate tactic. How about option C: do nothing, let the market clear, and allow pricing to occur without government action?
Re the gold bug analysis, yeah, putting us on a gold standard may prevent too much liquidity when we don't need it. Of course, it would also hamper providing needed liquidity if we ever need it. I don't like people shooting heroin every day (i.e., too easy monetary policy), but I do want pain-killing morphine available for the inevitable emergencies life brings (i.e., bank run, economic shocks, etc.)
Spartee - 11:53 AM
But, as I said, I'm NOT a gold bug. I realize that there is a need, at times, for the injection of sufficient liquidiy into the financial system. What happened here, though, was a failure of the government to stop pumping liquidity. The doctor slipped heroin into the patient's morphine drip. My point is that it hardly seems appropriate to now put the patient under the doctor's control because we've established that he's a "druggie".
MDF: I think it's correct to say that no regulation is ever going to prevent market bubbles. Economic research in this area even suggests that investors caught up in a bubble with speculate even if provided with complete information about the underlying value of an asset, so even improving transparency may not be a panacea.
I am told that bubbles are in a sense free: everything lost by one investor is gained by another. And you can usually rely on getting a lot of anything that can be supplied for free.
Perhaps we should think about some way of taxing bubbles?
"Goldman Sachs' people also make their judgments with the assumption that the biggest risk for screwing up is losing their crème de la crème job, along with their future credibility to assume a comparable position at any other comparable firm."
Almost perfectly unaware of reality, I'd say.
Perhaps we should think about some way of taxing bubbles?
Wasn't that part of the motivation behind taxing short-term capital gains at a higher rate than long-term capital gains?
On a similar note, did the preferential treatment of capital gains on a primary residence make any contribution to the housing bubble?
How short term is short term? It takes years for the bubble to inflate, after all. It is the losses in the crash that come quickly...
Once you take the King's Shilling, you also take the King's orders.
But that's not what you're saying. You're saying that once the King has announced that, in some reasonably unlikely event, he will give you his shilling whether you want it or not, you must now obey his orders, which are intended to reduce the likelihood of your ever getting that shilling.
How do you distinguish your argument from that of the Health Nazis? If you end up with lung cancer and no means to pay for your treatment, the government will pick up the tab; it's said so, and it's no good you saying "well, it shouldn't". And that promise gives it the right to ban smoking. Or fried food. Or red meat. Or whatever else it thinks increases your chances of needing expensive treatment on its dime.
And because if you end up homeless and without savings the government will shelter you, it should be able to regulate your work life, to reduce the likelihood of your ending up in that position. It should be able to force you to go to bed on time so you won't be late to work; to pursue education leading to those careers for which it has decided you have the greatest aptitude; to budget your money correctly and not spend it on frivolities.
Instead, the next time someone says "we can't afford not to bail out Bear Stearns", why don't we add the inevitable moral hazard to the anticipated cost of the bailout. If it still seems worthwhile, then we really can't afford not to do it, and we accept that hazard willingly; if it no longer seems worthwhile, then we let the next Bear Stearns fail and eat the consequences, in the hope that at least we'll have staved off the next one.