Taking a Break

I'll be taking a break for a little while.

Earlier today, my doctor informed me that I'll require surgery in the next couple days to correct a condition that arose over the weekend. While the condition caused a good deal of concern and ongoing discomfort, I was thankful to learn that the surgery is routine - I should be back soon, as good as new.

While there is no "good time" for medical procedures such as this, the timing of this one is not all bad. As many of you have likely noticed, my heart really hasn't been in writing material for this blog lately - the sort of commentary that I enjoy writing has seemed somehow unimportant and inappropriate since Katrina hit the Gulf Coast last week.

Once things are more back to normal, with the Gulf Coast and my body, I expect to be back at it again with renewed vigor. The next six or eight months should be pretty exciting to watch as America and the rest of the world come to grips with the new realities that we all face - I expect to be here commenting on how we all cope with these new realities.

In the mean time, please feel free to peruse the archive or use the Google site search to find previous material that may be of interest. Two timeless posts that come to mind from back in May are This Explains a Lot and Where To From Here?

You'll be hearing from me soon.

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Devil Take the Hindmost

In re-reading much of Edward Chancellor's excellent "Devil Take the Hindmost - A History of Financial Speculation" over the holiday weekend, a few passages took on added significance this time through - they are related here today.

First, an intriguing crossing of paths of Charles Keating and Alan Greenspan in the mid-1980s. Recall that the last national real estate boom/bust occurred in the late 1980s, culminating in the Savings and Loan Crisis a decade and a half ago. When re-reading some of the history of this period, it almost seems quaint. The estimated cost of the S&L crisis of $150 billion seems pretty tame compared to today's Fannie and Freddie liabilities alone.

Although reckless in his speculations, Keating displayed great care in cultivating politicians and regulators. He provided campaign funds to nine senators and several congressmen, and offered lucrative jobs to several of Lincoln's bank regulators and auditors. At one point, he even succeeded in getting a man heavily in debt to Lincoln appointed as commissioner to the Bank Board, the body ultimately responsible for regulating Lincoln's affairs. If he couldn’t bribe bank regulators with employment, Keating threatened them personally with lawsuits.

He hired the economist Alan Greenspan, later Chairman of the Federal Reserve, to support Lincoln's application to increase its "direct investments" to more than 10 percent of assets. (In a letter he must have come to regret deeply, Greenspan wrote to the California bank regulator that the management of Lincoln and American Continental was "seasoned and expert ... with a long and continuous track record of outstanding success in making sound and profitable direct investments.")

In another letter dated 13 February 1985, Greenspan claimed that Keating's management had turned Lincoln into "a financially strong institution" which would not pose any risk of loss to the federal insurer "for the foreseeable future." Greenspan was paid $40,000 for writing the two letters and testifying on Keating's behalf.

When regulators discovered that Keating was concealing losses and had exceeded the regulations on direct investments, he used his friendly senators, later dubbed the "Keating Five," to browbeat the head of the Bank Board.

And, on the Long-Term Capital Management bailout:

The standing of the U.S. Federal Reserve was also damaged by the LTCM affair. Among John Meriwether's partners was a former vice-chairman of the Federal Reserve named David Mullins ...

Mullin's friend and former colleague Alan Greenspan was also embarrassed by events at LTCM. For several years, Greenspan had vigorously resisted calls to regulate both the derivatives markets and hedge fund activities. Only a couple of weeks before the bailout, Greenspan had insisted to Congress that hedge funds were, in his words, "strongly regulated by those who lend them money." Yet the leverage at LTCM showed clearly that this was not the case.

Throughout the years of the bull market, Greenspan had delivered a series of opaque and ambiguous speeches, half warning of the dangers of speculation and half congratulating America on its economic revival. After the LTCM bailout, complaints were raised that Greenspan had failed to do enough to stem the growth of a stock market bubble caused partly by excessive monetary growth. The reputation of the man who not long before had been described by a member of Congress as a "national treasure" was beginning to look as fragile as the stock market itself.

Shortly after the bailout of Long-Term Capital Management, Paul Volcker, Greenspan's predecessor as Federal Reserve Chairman, asked, "Why should the weight of the federal government be brought to bear to help out a private investor?" No answer to Volcker's question was forthcoming, except that both Greenspan and Treasury Secretary Robert Rubin insisted that technically there was no "bailout" since federal money had not been used. (Nor was it satisfactorily explained why an earlier offer for LTCM led by Warren Buffet of Berkshire Hathaway had been turned down. Apparently Buffet's offer left no residual value for LTCM's partners or investors, who after the Fed-sponsored bailout still retained a 17 percent annual return on their original investment.)

A few years earlier, the Federal Reserve had passively stood by while Drexel Burnham Lambert, an investment bank with some five thousand employees and a history stretching back into the nineteenth century, was deserted by its envious Wall Street competitors and collapsed because of liquidity problems.

Long-Term Capital Management, on the other hand, a mere four-year-old upstart with only two hundred employees but partners and investors drawn from a cabal of finance professors, central bankers, and the cream of Wall Street, was considered more important than Drexel and simply "too big to fail".

Echoing Pecora's accusation of Wall Street's "heads I win, tails you lose" ethics in the 1920s, Representative Bruce F. Vento, a Democrat of Minnesota, accused Greenspan of having "two rules, a double standard: one for Main Street and another one for Wall Street." The Fed's involvement in the bailout of LTCM resembled the type of "crony capitalism" which the United States was continually decrying in Asian countries. Thus, at a crucial moment in the global financial crisis, the moral authority of the U.S. government and its ability to dictate economic policies to other nations were undermined.

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Completely Disconnected

In a few hours we again head north to another remote campground in the Sierra Nevada Mountains. At almost 8000 feet, with few neighbors and a new moon, it should be a quiet, enjoyable weekend. Completely disconnected from the world - no internet, no television, no cell phone - we will find out what has changed in the world when we return on Monday.

This has been a harrowing week for many - the news from the Gulf Coast seems to get worse with each passing hour. We hope that the situation is brought under control in New Orleans and that rescue workers can safely get to those in need of assistance. A Red Cross link has been added to the right, if you are so inclined.

It has been an unproductive week here, but we'll attempt to correct that starting next Tuesday.

We leave you with two items. The first is a cartoon by Tom Toles at the Washington Post, which we've taken the liberty of reprinting here in the hope that it will help us get back into the swing of things next week:


Mr.Toles has many other fine cartoons available in his archive, here's one on the housing bubble.

The second is a repeat of a post which most readers have probably not seen - this first appeared almost five months ago when only a few people stopped by. When wondering what might have gone on yesterday as George W. Bush, Alan Greenspan, and the White House economic team met, then searching for one of our favorite Economist articles, we stumbled across this post, read it, and found that the vim and vigor that have been so lacking this week were there, just waiting to be called upon again when needed in a pinch such as this.

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Past, Present, and Future
April 11, 2005

They were all in the news in the last few days - Paul Volcker, Alan Greenspan, and Ben Bernanke - the past, present, and likely future Chairmen of the banking cartel more commonly known as the Federal Reserve. Volcker was screaming at the top of his lungs "Somebody do something - Now! Before this thing explodes!". Greenspan was pondering his legacy, while at the same time trying to distance himself from the GSEs. And, young Ben was just giddy - with the prospect of hanging out with Dubya and Dick and the rest of the Bush economic dream team, until it's time for him to take the con at the FRB and show us what he really meant when he said "helicopter money". Let's recap.

Paul Volcker (Fed Chairman from 1979 to1987)

So , what did Mr. Volcker have to say this week? Let's see ... last year he said "unless America changes course, there is a '75 percent' chance of an economic crisis in the next five years". This due to various global imbalances - international trade, savings rates, currency ... you know the story. Has his view changed at all in recent months? Well, I guess yesterday's Washington Post article An Economy On Thin Ice answers that question:

"Yet, under the placid surface, there are disturbing trends: huge imbalances, disequilibria, risks -- call them what you will.Altogether the circumstances seem to me as dangerous and intractable as any I can remember, and I can remember quite a lot. What really concerns me is that there seems to be so little willingness or capacity to do much about it."

Uh ... Paul, this is the second paragraph, and you're like, all gloom and doom already - come on, flip on CNBC or one of those swell Fox business shows, and get with the program. Baby boomers not saving, spending like there's no tomorrow, home ownership as a vehicle for borrowing ... la la la la la la la - I'm not listening.

Now, about half way through, Paul seems to come to his senses a bit:

"Some, such as China, depend heavily on our expanding domestic markets. And for the most part, the central banks of the emerging world have been willing to hold more and more dollars, which are, after all, the closest thing the world has to a truly international currency."

Yes, that's right - we are the hegemon, they need us, they would be nobodies without us - Japan, China, South Korea, and the rest of them. And, this will go on for as long as we say so ... end of story ... you can stop now.

"The difficulty is that this seemingly comfortable pattern can't go on indefinitely ... The clear lesson I draw is that there is a high premium on doing what we can to minimize the risks and to ensure that there is time for orderly adjustment. I'm not suggesting anything unorthodox or arcane. What is required is a willingness to act now -- and next year, and the following year, and to act even when, on the surface, everything seems so placid and favorable. What I am talking about really boils down to the oldest lesson of economic policy: a strong sense of monetary and fiscal discipline."

Well, you've really gone off the deep end now - you should have stopped when you were talking about how great we are compared to those Asian fellas. Not sure where you're going with this - "willingness to act now", "monetary and fiscal discipline"? I've read about this stuff ... just what decade are you from man? Oh, that's right, you're the guy who raised interest rates to about 20% back in the 80's when we had out-of-control oil prices, gas prices, and housing prices, and gold was like $800 an ounce ... uh ... but this is completely different now.

Alan Greenspan (Fed Chairman from 1987 to 2006)

Last week, almost the entire week was devoted to Alan Greenspan (see here, here, and here) - oil, Fannie and Freddie, consumer credit. To summarize: oil - hopefully not a problem, Fannie and Freddie - maybe a problem, and consumer credit - just can't get enough of the stuff. OK, done - now let's dig a little deeper, take a look back, see if we can figure out what Volcker's all bent out of shape about.

What can you really say about the last eighteen years - about the credit and money creation machine that has been built during the Greenspan years? In the mid nineties, we were helping to save the rest of the world from one financial crisis after another. Then in the late nineties, all of Wall Street was getting rich through the miracle of rising asset prices (equities this time) and traders worshipped little Greenspan dolls before the opening bell - Stuart and his boss "lit the candle" which was his new Amertrade account.

Never being able to identify an asset bubble while it was forming, the equities mania of the late nineties, that culminated in the bursting of the Nasdaq bubble in 2000, morphed with relative ease into a bubble in a different asset class (real estate this time). Real estate prices have been rising parabolically in the last few years, much like equities did years before. Although recently there has been an acknowledgement of "signs" of a housing bubble in "some areas", it's clear that in many parts of the country houses are being flipped like dot.com shares and pre-construction sales have taken the place of internet IPOs.

Interest rates at historically low levels, liquidity like Niagra Falls, and nary a sign of inflation (until recently), or trade deficit problems (until recently), or budget deficits problems (until recently). Eighteen years of unprecedented economic expansion, prosperity, wealth creation, and ... money creation.

That's right, none of this would be possible without pushing what was then a surprisingly respectable, pure fiat currency system left by Paul Volcker, to its maximum potential, using ever shrinking reserve requirements, ever lower interest rates, and other stuff like this and this that no one is supposed to know about. With one Asian country after another selling us cheap, high quality consumer goods to keep measured inflation at reasonable levels, it was a no brainer - just keep lowering interest rates for 18 years and see how many friends you can make!

No wonder Paul Volcker sounds a little bitter these days.

Volcker put an unstable pure fiat currency system back onto a path that could be sustained for some period of time - he brought on the pain, only to be upstaged when the Greenspan money creation circus came to town.

For the last deade or so, Greenspan has fooled many of us, but he certainly hasn't fooled these two men - Kurt Richebacher:

"In actual fact, in the past few years, the Greenspan Fed has systematically and deliberately fostered parabolic credit and financial excess with the explicit purpose of inflating asset prices. What manifestly is duping most people is the fact that the bulk of the credit excess poured into asset prices and the soaring trade deficit, rather than into the CPI, as had been usual."

And Hans Sennholz:

"The popular notion that an increase in the stock of money is socially and economically beneficial and desirable is one of the great fallacies of our time. It has lived on throughout the centuries, embraced by kings and presidents, politicians and businessmen. It has shattered numerous currencies, inflicted incalculable harm, and caused social and political upheavals. It springs forth again and again, no matter how often economists may refute it. American statisticians and economists want to make us believe that America is a new-paradigm exception in this respect, being miraculously able to generate unprecedented productivity growth with zero savings and record low fixed business investment. The consensus readily believes it. For us, this is macro economic rubbish"

Many more will write about the Greenspan Fed this year and next - expect to hear more from Paul Volcker as Greenspan's retirement draws nearer.

Ben Bernanke (Fed Chairman from 2006 - ?)

Ben hasn't been talking much lately - this is the quiet period before his public offering to Congress in the form of confirmation hearings for the post of White House Council of Economic Advisers. He is considered the favorite to become the new Federal Reserve Chairman next year, but first he needs to spend some time at the White House, where the economic future of the civilized world is being meticulously planned. The whole idea of borrowing money from the rest of the world to goose the stock market for the next decade (also known as Social Security reform) doesn't seem to be getting the traction that it needs - perhaps Ben can help with that.

But, Ben needs to be careful as he speaks more in public as part of his new duties at the White House - after many years of Greenspan Fedspeak, there is a danger of Ben stumbling out of the gate, saying something that might be misinterpreted, and having a destablilizing effect on markets:

"Bernanke possesses one credential crucial for any Greenspan replacement: The ability to translate econo-speak into plain language. "Bush is going to want to appoint someone who can sit down with him and speak in a language he understands," Beach said."

I'm not sure that's such a good idea - plain language about this economy from top government officials - using an approach of "simple solutions to complex problems" that has worked so well in foreign policy these last few years. Will this work when it comes to today's economy ... instead of nuances and hedges and equivocations that we've all gotten used to in the last eighteen years? Better think about that a bit.

Well, we'll have lots more to say about Mr Bernanke in the coming months, as the retirement party planning gathers pace. Ben will surely try to rid himself of his "helicopter money" label and we'll see just what he has in store for us after he starts work at the White House.

It does seem strange, though, when you look at the state of affairs when Volcker turned things over to Greenspan in 1987, versus what things will probably look like in less than a year, when Greenspan calls it quits - they say timing is everything, and Ben will probably learn that lesson the hard way.

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Katrina: Reaction and Reporting

Still having a hard time getting back to doing what we normally do here, and building up a bit of a backlog on Federal Reserve commentary after last week's "vertical obituary" at Jackson Hole, we find ourselves again today thinking about the aftermath of Hurricane Katrina - how affected people are coping with it, how the rest of us are reacting to it, and how the media is covering it.

The news keeps getting worse - loss of life and grim predictions of more to come from the mayor of New Orleans, lawlessness, reports of uniformed police officers taking part in the looting, suspended evacuation plans for hospitals and the Superdome due to gunshots, gas price shocks, oil rigs missing - it all seems pretty overwhelming.

All this doesn't seem to stop a lot of people, far removed from the Gulf Coast, from treating these events as just more information to be included in another economic analysis or prediction.

Is it just me or shouldn't others be having at least some difficulty going on with their daily routine of commenting on the economy? After Katrina, will the Fed pause? How high will oil go? In particular, it seems that the analysis of the potential impact of Katrina on the general health of the American economy could at least wait until the "Thousands Feared Dead" headline has been removed from the Yahoo! main page. It doesn't seem sufficient to provide a disclaimer, "Our thoughts are with those who have been affected by Hurricane Katrina ...", and then go on to expound on why the 2006 recession will draw nearer as a result.

While Ben Bernanke unconvincingly tried to assure the nation that the wider impact of Katrina will be "modest", the dollar swooned and then rumors swirled of some late day buying in S&P futures pits by buyer 990N. Confidence is key. Later in the day, stories about gasoline prices and gasoline shortages started popping up all over, and government officials quickly attacked the problem by making pronouncements to the contrary.

Parts of the cable and broadcast news media seem to be dumbstruck by the unfolding events.

A number of times now we've heard the on-air discussion, "Have you ever seen anything like this in this country?". Veteran reporters and in-studio hosts seem to be equally shocked that this is happening here. Why is that? Is it so hard to accept that the images from the Gulf Coast are not from some far away place? Are images of Americans as victims in America a reminder that in many ways we are not so different than others in far away places.

At times like this, when quickly changing channels to get the latest news, the difference in the quality of the news reporting becomes painfully clear. Frankly, we are not sure what to make of what we have heard and seen on some of the cable news channels. Not having spent much time watching this sort of news lately, some of it appears very strange - as if you can feel the desperation in the studio. Desperation not about the events they are covering, but about their own inability to make sense of it all while maintaining their composure.

When thinking back about how crises like this were reported in the past, the contrast is also clear. In simpler times when global threats were fewer and with less foreboding about what lies beneath an otherwise calm surface, there were different news personalities to guide us.

We long for the comforting voice of Peter Jennings and wish he was still with us to make sense of this all.

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