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How I helped build the bomb that blew up Wall Street
Michael Osinski, New York Magazine
I have been called the devil by strangers and “the Facilitator” by friends. It’s not uncommon for people, when I tell them what I used to do, to ask if I feel guilty. I do, somewhat, and it nags at me. When I put it out of mind, it inevitably resurfaces, like a shipwreck at low tide. It’s been eight years since I compiled a program, but the last one lived on, becoming the industry standard that seeded itself into every investment bank in the world.
I wrote the software that turned mortgages into bonds.
Because of the news, you probably know more about this than you ever wanted to. The packaging of heterogeneous home mortgages into uniform securities that can be accurately priced and exchanged has been singled out by many critics as one of the root causes of the mess we’re in. I don’t completely disagree. But in my view, and of course I’m inescapably biased, there’s nothing inherently flawed about securitization. Done correctly and conservatively, it increases the efficiency with which banks can loan money and tailor risks to the needs of investors. Once upon a time, this seemed like a very good idea, and it might well again, provided banks don’t resume writing mortgages to people who can’t afford them. Here’s one thing that’s definitely true: The software proved to be more sophisticated than the people who used it, and that has caused the whole world a lot of problems.
(29 March 2009)
America the Tarnished
Paul Krugman, New York Times
Ten years ago the cover of Time magazine featured Robert Rubin, then Treasury secretary, Alan Greenspan, then chairman of the Federal Reserve, and Lawrence Summers, then deputy Treasury secretary. Time dubbed the three “the committee to save the world,” crediting them with leading the global financial system through a crisis that seemed terrifying at the time, although it was a small blip compared with what we’re going through now.
… How times have changed.
Never mind the fact that two members of the committee have since succumbed to the magazine cover curse, the plunge in reputation that so often follows lionization in the media. (Mr. Summers, now the head of the National Economic Council, is still going strong.) Far more important is the extent to which our claims of financial soundness — claims often invoked as we lectured other countries on the need to change their ways — have proved hollow.
Indeed, these days America is looking like the Bernie Madoff of economies: for many years it was held in respect, even awe, but it turns out to have been a fraud all along.
It’s painful now to read a lecture that Mr. Summers gave in early 2000, as the economic crisis of the 1990s was winding down. Discussing the causes of that crisis, Mr. Summers pointed to things that the crisis countries lacked — and that, by implication, the United States had. These things included “well-capitalized and supervised banks” and reliable, transparent corporate accounting. Oh well.
… It’s no wonder, then, that an article in yesterday’s Times about the response President Obama will receive in Europe was titled “English-Speaking Capitalism on Trial.”
Now, in fairness we have to say that the United States was far from being the only nation in which banks ran wild. Many European leaders are still in denial about the continent’s economic and financial troubles, which arguably run as deep as our own — although their nations’ much stronger social safety nets mean that we’re likely to experience far more human suffering. Still, it’s a fact that the crisis has cost America much of its credibility, and with it much of its ability to lead.
And that’s a very bad thing.
Like many other economists, I’ve been revisiting the Great Depression, looking for lessons that might help us avoid a repeat performance. And one thing that stands out from the history of the early 1930s is the extent to which the world’s response to crisis was crippled by the inability of the world’s major economies to cooperate.
The details of our current crisis are very different, but the need for cooperation is no less.
(29 March 2009)
Kunstler: Under a Fluorescent Moon
James Howard Kunstler, blog
… What’s going on now is nature’s way of telling you that America’s standard of living has to be reduced by something between 20 and 50 percent. You can have it in the form of a compressive deflationary depression, including widespread bankruptcies… or you can have by way of inflation, in which money loses its value. But there’s one basic qualification to this: the way down is not symmetrical with the way up. That is, it’s really not just a matter of ratcheting down to a standard of living half of what it was, say, in 2006, because in the event all the various complex systems that support everyday life enter failure mode before our society re-sets at a theoretically lower level of equilibrium.
By this I mean our methods for getting food, for moving about the landscape, for deploying capital, for trading and manufacturing, for schooling, doctoring, and running public services all destabilize and, to some degree or other, fail to deliver their contribution to normal daily life. Banking (capital deployment) is already mortally wounded. It remains to be seen how this will affect the food supply half a year ahead in the harvest system. Capital is as big an “input” for our method of farming as diesel fuel or fertilizers made from methane gas. The failure of banking will combine with city and state insolvency to crush public transit, law enforcement, fire protection, and whatever flimsy local safety nets exist to keep the ultra-poor and helpless from die-off. The lowering of living standards by 20 to 50 percent essentially eliminates all but the must critical commerce, meaning that most of the stores in the malls and strip malls lose their customers and shed employees, while the mall and strip mall owners lose their rents, and the bankers lose performing commercial real estate loans. As all this occurs, tax revenues go way down, schools can’t pay their employees or buy diesel fuel for their yellow bus fleets. More people lose the ability to carry health insurance. Hospital emergency rooms are overwhelmed. Health care descends to Third World levels. Meanwhile, pensions are destroyed, the elderly live on dog food and ketchup. . . .
This is where we’re headed. It could easily be worse than the 1930s, when we still had plenty of family farms, plenty of oil, plenty of factories in good running order, and a highly regimented population of workers unaccustomed to luxury, leisure, and entitlement. We’ve hardly begun to see the potential political repercussions of economic disorder now underway.
(30 March 2009)
China’s Quid Pro Quo
Jeff Vail, blog
China seems happy to support the dollar regime by buying up new US Treasury debt issues, provided they’re allowed to use their dollars to acquire real wealth.
Here’s an outline:
1. The expanded US spending requires someone to give the government dollars now in exchange for a promise by the government to pay them even more dollars in the future.
2. If enough people aren’t willing to buy US Treasuries, then Treasury auctions will fail and the US government will run short of funds. The result could run from the mild (government needs to scale back spending plans a bit, or shift the maturity or return on their debt issues) to the extreme (perception of future inability to raise enough debt to pay off current debt leads to fears of a default, widespread selling of Treasuries, and a collapse in both the Dollar and the ability of the US government to fund even basic expenditures this year).
3. Aside from being the single largest purchaser of US Treasuries, China is also the single largest holder. They’re a bit stuck between a rock and a hard place–stop risking more dollars on US debt and the value of their existing holdings may plummet, but keep buying it and they increase their exposure to dollars that may plummet in value regardless.
4. China also recognizes that it has a huge thirst for natural resources of all types, and that it will need to secure future supplies if it (here, the Chinese Communist Party) is to continue to deliver standard of living improvements to its citizens–the tacit trade-off the Communist Party makes for civil order.
5. One solution: keep supporting the US Treasury issues while spending as large a share of foreign currency reserves as possible on locking up large supplies of natural resources around the world. If the “West” permits this, then China will keep supporting the dollar regime as long as the dollars it already has can be used to buy “real” assets. If the West balks, then let one or two treasury auctions fail and see if their position changes. If not, then all those dollars China has in existing Treasury holdings aren’t worth anything anyway, so there’s no point in throwing good export revenues after bad future promises.
This appears to be exactly what China is doing. While there was stiff resistance to an earlier attempt to acquire UNOCAL (something the Chinese covet for its Burmese resource holdings), China seems to be trying again, first with attempts to acquire a larger share of Rio Tinto and OZ Minerals (the latter has already been blocked by the Australian government).
What will China target next? …
(30 March 2009)
