16 September 2009

One Year After Financial Crisis, Reform Questions Loom


JUDY WOODRUFF: Jeffrey Brown looks now at where things stand one year later.

JEFFREY BROWN: And joining me for that are Nassim Taleb, a statistician, trader and author of several books on probability and risk, including "The Black Swan." He's an adviser to Universa Investments and teaches at New York University.

Donald Marron is chairman and CEO of Lightyear Capital, a private equity firm, and former chief executive of Paine Webber.

And Alan Blinder, professor of economics at Princeton University, he was vice chair of the Federal Reserve from 1994 to 1996.

Donald Marron, you were at the speech today. Was the president right to warn of complacency on Wall Street? Has enough changed in the year since Lehman collapsed?

DONALD MARRON, Lightyear Capital: Yes, I think a lot has changed. He was very straightforward. I think he gave an outstanding speech. He was articulate. He certainly knew the issues.

Basically, he said three things. The first one is, we need an agency to protect individuals against others who create products and against themselves. Secondly, we need more regulation to regulate all these securities firms and banks. And, third, we need legislative power to make sure this never happens again, that somehow it can be stopped before it goes over the edge.

And I think he delivered each of those positively. Obviously, God is in the details on these things. But this is certainly a speech and a set of issues that wouldn't have occurred a year or year-and-a-half ago. It was an important change.

JEFFREY BROWN: Well, Nassim Taleb, you had warned of instability for many years before what came to pass occurred. So where do you think we are now?

NASSIM TALEB, New York University: Still the same situation. We have the same leverage in the system that we had before. The too-big-to-fail effect is right there, no different from what it was before. And banks are taking the same reckless risks they don't understand as they did before with the very same pseudo-scientists managing the risks.

So I don't see what changed. And we have 6 million Americans at home now more than we had before. I don't see what changed. The risks are still there. We need to lower the leverage, make the world more robust, and it's not.

JEFFREY BROWN: All right, a lot of things to pick up there, but let me bring in Alan Blinder. First, a kind of general assessment. The president did talk about growing stability and gave credit to his team for bringing that about. You've talked about that on this program in the past, the need for all of that. What do you think now?

ALAN BLINDER, Princeton University: Well, I think things look enormously better than they were, say, six months ago, I guess the bottom of the stock -- I think President Obama called the bottom of the stock market on March 9th.

I think things his team has done have helped a lot. I think things the Fed have done have helped even more. The Fed's not part of his team, I might point out. It's an independent agency and needs to stay that way.

But between the Treasury and the Fed and the FDIC and a few others, I think they've made an enormous difference doing, by the way, extraordinary things that I'm sure if you asked any of them two years ago would they ever do something like that, they would have said no.

Nassim Taleb
Author, The Black Swan

I think what's happening is both risky and immoral.

The problem of too-big-to-fail
JEFFREY BROWN: Well, let's pick up on some of the issues you've all raised. Mr. Marron, Mr. Taleb was talking about the too-big-to-fail doctrine. Now, in part of the consolidation of the industry of the last year, part of it was to allow a lot of institutions to survive. So have we created larger institutions that are still too big to fail or even bigger than they were before?

DONALD MARRON: Yes, it's a key question. I think what we did, first of all, is we brought a larger percentage of Wall Street under the banking regulators, the Fed. And that was a necessary thing to do. I'm not sure it was the best thing to do, but we had to do it. And that, in turn, has resulted, obviously, in lower leverage in various controls that are going there.

The other thing that we did, obviously, is tell the public and the clients and the world that there's a few institutions that are going to be there no matter what. The result of that is they are getting bigger proportionally to the rest of the system. I'm not sure that's a great thing.

And I think one of the questions you have to ask about too big to fail, are they too big to manage? Part of this whole business that we don't talk about is talent, the talent to manage all these complex products, services that are produced. And this is an industry that can easily spawn other organizations.

So I think what you're going to see going forward, particularly with the limitations on compensation, is a lot of talent moving to smaller organizations, finding a way to build them and to compete in the real world. The question is, will the new regulatory environment encourage that? Or will it discourage it?

This country and Wall Street is built on being entrepreneurial. The trend that we're going to now is basically the reverse.

JEFFREY BROWN: But, Mr. Taleb, you're taking this further.


JEFFREY BROWN: You see the chance for continued major failures looking ahead?

NASSIM TALEB: Well, I think what's happening is both risky and immoral. Why immoral? Number one, we're transforming private debt into public debt. Private debt normally with a system of transforming debt into equity or through bankruptcy would disappear. When you fail, you disappear.

We're transforming that into debt for our children. And, of course, we're going to have to raise bonds with the deficits, and that may cause inflation.

The other problem is that the Obama administration has been rewarding failure, OK? Instead of strengthening people who are countercyclical, just like they gave a deal with the Cash for Clunkers to people who bought the wrong car -- I bought the right car, I'm not eligible for Cash for Clunkers, so I'm subsidizing the one who made the mistake, likewise, you have a raise of taxes, penalizing those who are countercyclical, doing OK in 2009, and giving a tax break to those who got us here, the Wall Streeters.

I have not seen from the Obama administration the right kind of leadership that we should be having. I haven't seen anybody stand up and said, "We need blood, sweat and tears." Let's reduce the debt in the system, and let's not tax our children with all these stimulus programs, have not seen that.

The only people who are talking about are the U.K. Conservative Party. Outside of that, I have not seen anything. The risk in the system is being transferred to our children. That's not acceptable.

Alan Blinder
Princeton University

[W]e're a lot better off today than if we had tried to balance the budget on the backs of a dying -- I don't want to say a dying -- a sick economy at the beginning of this year.

Grading Obama
JEFFREY BROWN: Mr. Blinder, why don't you come back on that? Because you're talking about the role of the government in trying to intervene and at the right time, so respond.

ALAN BLINDER: Yes, let me separate that into two responses, very briefly. First is the fiscal stimulus. The argument for this is as old as Cane's. When there's not enough demand in the system to get people employed or to prevent them from losing their jobs, one thing the government can do is spend more or cut people's taxes and get them to spend more or something else to induce spending, but all of those things raise the deficit transitorily, not forever, but transitorily, and we're still in that position.

And we're a lot better off today than if we had tried to balance the budget on the backs of a dying -- I don't want to say a dying -- a sick economy at the beginning of this year. The rest of it, hopefully, will not be spending. It's in the form of guarantees, asset purchases, loans. Some of it, as President Obama has mentioned, has already come back, turning a modest profit to the U.S. government.

Some of it will probably be lost, but lost for a good reason, lost so as to prevent or at least reduce, to de minimis the risk of what Ben Bernanke called Great Depression 2.0. If we had gone down that path, the amount -- the losses to Americans would be a multiple of the debt that's piling up.

Now, one last point. We do need to address that debt. I don't want to sound like I'm completely relaxed about piles and piles of debt, about $9 trillion in deficits over the next 10 years, or maybe more. I'm not relaxed about it; we do need to do something about it. But the paradoxical answer is not yet. It's not time to withdraw that stimulus.

Donald Marron
Lightyear Capital

[W]hat we know for sure, is all the money that's gone into the system, only some of it will work, and some of it won't.

Unwinding government support
JEFFREY BROWN: Mr. Marron, you want to come in on this subject?

DONALD MARRON: Yes, I do, I think. I think the answer is, one has to be very practical about this. Wall Street for 100 years was in the business of making illiquid assets liquid, first bonds, then stocks, even companies with LBOs.

What happened in the last couple of years is, liquid assets, including mortgages, became illiquid. The whole system started to fail because people in big firms and traders, recognizing they made a mistake, couldn't sell what they had to sell -- that was the first thing -- and values declined, as well as the economics that underlied those values. By throwing all this money into the system, the government has certainly improved that.

The second thing is what we know for sure, is all the money that's gone into the system, only some of it will work, and some of it won't. Will the administration be capable of taking the money that isn't worked and redeploying it? That's the key thing.

And, third, what's going to happen to the flow of money in the system? For example, before this started, money market funds had about a billion -- $1.5 trillion or $2 trillion. It's now up to about $3.7 trillion. Why? In the main, because people are scared. You know, putting money essentially in cash, getting no return.

The way markets work and the way a system works is you have to have people having a fundamental confidence in the system. A key element of that is, if they buy something, they're getting value, and they should be able to sell it whenever they want to. That fear of that situation is one of the reasons that we have this problem.

So the final issue for the government now, I think, when it thinks about what to do in building this confidence, it has to raise the ability to lend to small business. It has to raise the ability for people to buy houses.

And in the broader sense, they have to regain the confidence in the system. One way to do that is transparency. We created too many products that nobody, even the pros, can understand. And the second way is standardization, so you have enough of a single product so you can have a market.

It's a simultaneous equation. If we don't do these things, then the Bear story will happen again. If we do these things, then we'll set the base, as Alan said, for going forward, not now, not yet, hopefully soon.

Nassim Taleb
Author, The Black Swan

[R]egulation can do a good job, but just blind regulation is not the solution. The solution to me is the cancer we have in the system -- too much debt

Pushing for stricter regulation
JEFFREY BROWN: All right, let me let Mr. Taleb back on this, because, I mean, part of this question is about government regulation and what the government might be able to do, while preserving the ability of risk in the system.

NASSIM TALEB: Well, before talking about regulation -- and, again, regulators failed us here -- let's talk about the economic establishment. All these measures I hear, oh, transitory deficit, oh, we'll repay it back, come from people using models that did not predict what's going on. They did not see the elephant in the room -- too much debt -- and all these models are completely unpredictive of anything. So don't predict. Let's try to lower debt so we don't have to predict.

As to the regulators, we have to realize that the regulators got us here by favoring a risk measurement system by banks -- and banks lost $4.3 trillion on failures of risk management systems -- that the regulators (inaudible) the value at risk, and regulators are the ones who help people get into the pseudo-AAA securities, but with these regulations.

So regulations is not a panacea. I agree, regulation can do a good job, but just blind regulation is not the solution. The solution to me is the cancer we have in the system -- too much debt -- and let's stop talking about painkillers. Let's remove the tumor.

It takes, you know, work to remove the tumor. It's painful to remove the tumor. But the sooner we remove it, the better, instead of delaying, saying, "Transitory, transitory, transitory." The debt today is the same debt as we had a year ago. Actually, it's increasing.

JEFFREY BROWN: Mr. Blinder, we just have a minute left. I was thinking of something that Mr. Taleb just said. A year later, nobody comes off looking all that good, do they, the pros on Wall Street, the regulators in government, and the economists in your own profession? I see there's a lot of debate about, what did we know? Were our models all wrong?

ALAN BLINDER: Absolutely. And I wouldn't absolve economists or my own profession from the guilt list. I think the guilt list is very long, not equally weighted, of course, but very, very long, from the government to the private sector and almost anybody you can think of.

The heroes were few and far between. There were a few people that were sounding the alarm. They were not listened to very much.

And, you know, you don't get in to a catastrophe like this with just one or two small errors. It takes a whole lot of very large errors. And that's what we had, unfortunately.

JEFFREY BROWN: All right, we'll leave it there. Alan Blinder, Nassim Taleb, and Donald Marron, thank you all very much.

JUDY WOODRUFF: There's much more about the financial crisis on our Web site, newshour.pbs.org. You can listen to all of President Obama's Wall Street speech, see what experts say about the origins and the impact of the meltdown on Paul Solman's "Business Desk"; and read about lessons learned from the collapse of Lehman Brothers.

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