This is a review of an article in the April issue Atlantic Monthly.
Link to article>>
Historians will write the final chapters on whether the government’s response to the Great Recession was appropriate, and that may not happen for many years yet. After all, John Kenneth Gailbraith’s The Great Crash, 1929 wasn’t published until 1955. Even twenty years hence, it is unlikely that historians will agree. But about one thing everyone will agree is that Timothy Geithner, as President of the NY Fed under Bush and Treasury Secretary under Obama, was a central figure in this drama. Joshua Green writes, “The fact that most of the bailouts driving this anger occurred under George W. Bush has been easy to overlook, in part because Geithner is the most visible constant between the two administrations.” Along with Paulson and Bernanke, Geithner was part of the team that oversaw Lehman Brothers, Bear Stearns, and the bailout of AIG, Citi and Bank of Am.
In Geithner’s own words (from the article), “In the end, what people care about is, what did you do? Did it make things better or not? That’s what you’ll be judged by. Now, will it vindicate the president over time? It should, but I’m not sure it will. I think probably not. The country is dramatically better off today. People say the financial strategy was politically costly for us. And I say to them, relative to what? Would it have been better to have the stock market where it was in March, the economy still falling, and unemployment much higher?” (My italics)
Since the efficacy of every other road not taken is hypothetical, there’s just no way of knowing.
For those interested in context, of gaining insight into how and why choices were made, this article is excellent. While much is written today that simply recasts what we already know or confirms our worse suspicions, reading this article provides new insights, extends knowledge, and for some, will evokes admiration; for, no matter how you feel about it, to have faced the political storm and resisted the public’s calls for retribution, required an uncommon level of confidence and courage. To quote from the article, “It requires abstaining from moral judgments and pumping tax dollars into the same institutions that inflicted the pain, as part of an all-hands-on-deck effort to restore economic confidence.” And that took courage.
No doubt, some people think that moral judgment was, and is, exactly what was called for. But as satisfying as that would have been, for those who understood how close the world came to a worldwide depression that could have lasted a dozen years or more, with tremendous social costs, it is certain that history would have judged a political response with retribution as its goal as irresponsible and callous, when the inevitable disastrous social costs were taken into account.
When it comes to abstract thinking, the American polity does not do well with second and third-order effects.
What I appreciate most is Joshua Green’s elegant presentation of the opposing, yet coupled, philosophical underpinnings of the current crisis. Highly influential was the University of Chicago’s conviction that “regulatory capture” rendered regulation ineffective; that is “…if regulation couldn’t function as a disinterested public good, it should be abolished.” (No talk of how to make it work or the danger inherent in deregulation!) Then, from the liberal side, there was a drive towards “corporate liberalism.”
“Where conservative neoclassical economists and Marxist historians converged was in their desire to “sever the corrupting ties between industry and government,” as Eduardo Canedo, an economic historian at Princeton University, puts it.”
According to Green, a vast cast of characters played a role. Ralph Nader, Jimmy Carter, Ronald Reagan, Bush 41, Clinton, Bush 43 to name a few, perhaps unwittingly, worked to remove safeguards that had served us well since enacting the Glass-Steagall Act in the 30s, hastening the day when we would face another crisis, potentially worse than the Great Depression.
When it comes to history, Americans don’t do well with events occurring more than 25 years ago. Conveniently, they can rationalize abandoning safeguards by assuring itself the fundamentals have changed.
Green writes; “When Bill Clinton was elected, pent-up Democratic desire, gladly facilitated by the new Republican leadership in Congress in 1995, unleashed the wave of deregulation that culminated in 1999 with the repeal of the Glass-Steagall Act, the seminal New Deal banking reform.” Consequently, “The assets of securities brokers and dealers … which represented less than 2 percent of gross domestic product in 1980, grew to 22 percent in 2007.”As Wall Streets grew, so did Wall Street political contributions. But, as Green points out, more than political contributions was a work. “…[The University of Chicago’s] George Stigler’s idea about regulatory capture was widely accepted” so regulations were replaced by repeating the mantra of “… faith in financial markets.” Green sums up the trend as follows: “…The regulatory philosophy of the last three decades—that the government should step aside…” took hold. “This consensus narrowed the parameters of respectable debate to the point that criticizing Wall Street came to be considered unsophisticated.” (My italics) After all, the thinking went, “…‘Where’s the harm in this?’ If banks are making a little more money to keep up with their international competitors, what’s the big deal?”’
Geithner became President of NY Fed in 2003. Green writes, “Once he’d settled in, Geithner chose to focus on derivatives, delivering over the next few years a series of prescient speeches about their risks.” “Geithner was warning of “fat tails,” a term that suggests that catastrophic events at the far end of a bell curve are more likely to occur than statistical models imply.” Quoting Geithner: ‘“I felt like my entire time in New York,” he said, “there was a fear that this was going to end badly.”’ Boy, did he get that right!
As Treasury Secretary, Geithner became the chief architect of the recovery strategy. Green goes onto explain Geithner’s recovery plan as having three “cannons”, address monetary policy, fiscal policy and recapitalize banks, which required a lot of international coordination. What is not well understood is that the plan was designed to minimize the amount of taxpayer money required, by drawing in as much private capital as possible. By and large that was successful, but at a high political cost for the Administration. At the heart of the strategy were “Stress tests” for the big banks. In Greens words, “…investors, uncertain of how bad the crisis could get, assumed the worst”. To attract private capital, it was important to counter this perception. “The basic strategy,” Geithner says, “was to dispel the cloud of uncertainty.” “Geithner’s plan was wildly out of sync with the public desire for swift, retributive justice against the banks.”
Green writes, “Geithner likes to point out that after a year on the job, he’s spent $7 billion recapitalizing financial firms while private investors have put up $140 billion. TARP money is being repaid faster than anyone imagined, and if Obama gets the $90 billion tax on big banks he proposed in January, it could eventually be recouped.”
As for reforming Wall Street, unbelievably, reform is still resisted by Wall Street and viewed as unsophisticated. Was this a missed opportunity? Should the Administration have pushed harder in the midst of the meltdown? Maybe there were just too many balls to keep in the air. Hopefully, memories will not fade.
The Administrations legislative proposal, drafted by Geithner, contains these elements:
1. Enforce leverage limits
2. Require higher capital reserves
3. Promote shareholder control of bank salaries
4. Establish a clearinghouse for derivative trading
5. Create a consumer finance protection agency
6. Require corporate “living wills”
7. Improve oversight of the entire financial system
(In my view, number five, the most controversial reform that runs the greatest risk of being gutted, is the most critical.)
While some believe bank size is a problem, Geithner disagrees. Green reports, ‘“It’s risk, not size, that matters,” Geithner told me.’
Clearly, this is an ongoing story. Whether Secretary Geithner and President Obama made the right decisions – or at least not too many bad ones – will become clear only if the economy fully recovers, including improved employment and lower deficits, both of which could take years. Let’s hope Doctor Geithner’s painful prescriptions prove a lasting cure; economically and politically. It's critical that the President press hard to ensure that the financial reforms pass without being watered down. It's important that Geithner makes this happen.
For a more critical view of Geithner and Wall Street, read Frank Rich's column in the NY Times at:
Frank Rich
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