31 March 2009

Break the oligarchy ~ Brimlow on the takeover

NEW YORK (MarketWatch) -- Out of the mouths of ...? Two very fashionable non-financial magazines have just published powerful analyses of the current financial crisis. The implications are grim.
Although radically different in tone, both articles ( "The Big Takeover," by Matt Taibbi in the April 2 Rolling Stone, and "The Quiet Coup" by Simon Johnson in the May issue of Atlantic) reach remarkably similar conclusions.
As Taibbi puts it in his brilliant but unquotable-in-MarketWatch Gen X style: "People are [expletive deleted] about this financial crisis, and about this bailout, but they're not [expletive deleted] enough. The reality is that the worldwide economic meltdown and the bailout that followed were together a kind of revolution, a coup d'état. They cemented and formalized a political trend that has been snowballing for decades: the gradual takeover of the government by a small class of connected insiders, who used money to control elections, buy influence and systematically weaken financial regulations. The crisis was the coup de grâce: Given virtually free rein over the economy, these same insiders first wrecked the financial world, then cunningly granted themselves nearly unlimited emergency powers to clean up their own mess."
Paranoia? Taibbi supplies devastating detail about the way the subprime mortgage crisis metastasized through American International Group Inc.'s (AIG

) promiscuous use of "credit default swaps," the central role of Goldman
Sachs Group Inc. (GS

) , and the opaque nature of the consequent bailouts.
He quotes an unnamed Congressman: "I think basically if you knew [Bush Treasury Secretary] Hank Paulson, you got the money."
Still antsy? Well, the Atlantic magazine's Johnson is a professor at the Massachusetts Institute of Technology, former chief economist at the International Monetary Fund -- and a British immigrant! How much more respectable can you get?
Yet, comparing the U.S. crisis to previous developing-world crises, Johnson says: "The advice from the IMF on this front would again be simple: Break the oligarchy."
Both Taibbi and Johnson are obviously writing for liberal readers. Yet both make it clear that the catastrophe is bipartisan. What perhaps was the pivotal moment -- Commodity Futures Trading Commission Chair Brooksley Born's attempt to regulate credit default swaps -- was frustrated by Fed-head Alan Greenspan, SEC Chairman Arthur Levitt and Treasury officials Robert Rubin and Lawrence Summers in 1998, during the Clinton administration.
Of recent policy, Johnson writes in his Atlantic:
"But these various policies -- lightweight regulation, cheap money, the unwritten Chinese-American economic alliance, the promotion of homeownership -- had something in common. Even though some are traditionally associated with Democrats and some with Republicans, they all benefited the financial sector."
I'm happy to say this isn't news to MarketWatch readers. Edwin S. Rubenstein and I charted the financial sector's alarming elephantiasis last summer. ( See June 1, 2008, column.) The tacit China-US alliance was noted nearly five years ago. ( See John Brimelow's Nov. 22, 2004, commentary.)
Taibbi and Johnson imply the catastrophe is a failure of regulation.
Taibbi writes: "And all this happened at the end of eight straight years that America devoted to frantically chasing the shadow of a terrorist threat to no avail, eight years spent stopping every citizen at every airport to search every purse, bag, crotch and briefcase for juice boxes and explosive tubes of toothpaste. Yet in the end, our government had no mechanism for searching the balance sheets of companies that held life-or-death power over our society."
Obviously, regulation didn't work. But focusing on regulatory failure just means that government will find it politically safer to block all economic activity -- to make a desert and call it peace, as the historian Tacitus said of the Romans in Germany.
The deeper failure is in the metamarket -- the institutional framework without which markets can't function. For example, where were the auditors when AIG piled up $500 billion worth of CDS exposure?
Maybe derivatives were hard to track. But why didn't the auditors just qualify their opinion?
And how long has the manipulation of markets, which is now explicit policy, being going on? It was blatant in the peculiar decision to rescue Long Term Capital Management in 1998. ( See Sept. 29, 2008, column).
I repeat my call, which seems to have fallen on deaf ears, for a new Pujo Commission, which investigated the Panic of 1907. (And gave us the Federal Reserve, but that's another story.)

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