All The King's Horses

by digby

Michael Hirsh is one of the few MSM columnists whose writing on the economic crisis, and specifically the Obama approach to dealing with it, succinctly and I think accurately synthesizes the debate among liberals. (One of the interesting things about all this is the fact that conservatives have absolutely nothing to say on the matter besides screeching about taxes and mouthing platitudes about free markets.)

Hirsh is not a reflexive Obama critic although he is a skeptic. (He gave the Geithner plan a pretty good review.) But his value is in dewonkifying the details and giving us a look at the big picture,which for most laypeople is about the only way to wrap our minds around what's at stake. Today's piece offers a look at what I consider to be the essence of the economic disagreements between the Obama administration and its critics: fundamental change in the financial sector vs putting a band-aid on the problem and letting reform wait for another day.

Not long ago, a group of skeptical Democratic senators met at the White House with President Obama, his chief economic adviser, Larry Summers, and Treasury Secretary Tim Geithner. The six senators—most of them centrists, joined by one left-leaning independent, Vermont's Bernie Sanders—said that while they supported Obama, they were worried. The financial reform policies the president was pursuing were not going far enough, they told him, and the people Obama was choosing as his regulators were not going to change things fundamentally enough. His appointed officials and nominees were products of the very system that brought us all this economic grief; they would tinker with the system but in the end leave Wall Street, and its practices, mostly intact, the senators suggested politely. In addition to Sanders, the senators at the meeting were Maria Cantwell, Byron Dorgan, Dianne Feinstein, Carl Levin and Jim Webb.

That March 23 gathering, the details of which have gone largely unreported until now, was just a minor flare-up in a larger battle for the future—one that may already be lost. With the financial markets seeming to stabilize in recent weeks, major Wall Street players are digging in against fundamental changes. And while it clearly wants to install serious supervision, the Obama administration—along with other key authorities like the New York Fed—appears willing to stand back while Wall Street resurrects much of the ultracomplex global trading system that helped lead to the worst financial collapse since the Depression.

At issue is whether trading in credit default swaps and other derivatives—and the giant, too-big-to-fail firms that traded them—will be allowed to dominate the financial landscape again once the crisis passes. As things look now, that is likely to happen. And the firms may soon be recapitalized and have a lot more sway in Washington—all of it courtesy of their supporters in the Obama administration. With its Public-Private Investment Program set to bid up and buy toxic assets, the administration is handing these companies another giant federal subsidy. But this time the money will come through the back door, bypassing Congress, mainly via FDIC loans. No one is quite sure how the program will work yet, but it's very likely going to make a lot of the same Wall Street houses much richer at taxpayer expense. Meanwhile, the big banks that still need help will almost certainly get another large infusion once the stress tests are completed by the end of the month.

It is interesting that the Senators who carried that message are not known as pitchfork wielding populists (if there is such a thing in the Senate) but rather are considered middle of the road centrists. One wonders what their motives are -- I expect they sense the rising anger among the populace and worry that unless something pretty radical takes place the unintended consequences could be rather destabilizing, politically at least. But that's just a guess.

I have heard people argue that reforming the financial system, as opposed to propping it up, is not a liberal priority and will eat up too much political capital at the expense of more important priorities like health care. I have also heard that fundamentally reforming the system is a political impossibility if it requires that congress appropriate money for more bailouts. (Considering the likelihood of more bailouts anyway, this strikes me as weak.) many people make the connections, as is mentioned in the piece, that Obama is too close to people who run Wall Street --- or more broadly, that the entire political system is too close to those who run Wall Street --- and therefore, they are failing to see the forest for the trees.

I do not know if those reasons are correct. But it occurs to me as I read about our latest gilded age that they may be making a broader calculation about the economy as a whole. After all, we are no longer the manufacturing giant we once were and globalization is rapidly cutting into the manufacturing capacity we still have. The promise of the highly educated workforce doing the high tech jobs for the future has been shrunk decidedly in the last few years as we've seen powerhouses like India produce educated high tech workers who make far less than Americans.

In fact, it turns out that the financial sector is one of the few growing sectors in the American economy. As Krugman pointed out a few weeks back:

Even during the “go-go years,” the bull market of the 1960s, finance and insurance together accounted for less than 4 percent of G.D.P. The relative unimportance of finance was reflected in the list of stocks making up the Dow Jones Industrial Average, which until 1982 contained not a single financial company.

It all sounds primitive by today’s standards. Yet that boring, primitive financial system serviced an economy that doubled living standards over the course of a generation.

After 1980, of course, a very different financial system emerged. In the deregulation-minded Reagan era, old-fashioned banking was increasingly replaced by wheeling and dealing on a grand scale. The new system was much bigger than the old regime: On the eve of the current crisis, finance and insurance accounted for 8 percent of G.D.P., more than twice their share in the 1960s. By early last year, the Dow contained five financial companies — giants like A.I.G., Citigroup and Bank of America.


So perhaps the Obama folks have been convinced (by the guys with the metaphorical IEDs strapped to their chests) that if they constrain this sector in any way, the American economy will shrink even further --- that the overfed, underregulated financial system is the only real hope for rapid, future growth.

Of course, the flip side is that this booming sector is built on wizardry and gimmicks and so at its best can only provide booms and busts --- and leave all but the wealthy in a perpetual state of insecurity. And that leads to political instability. I'm pretty sure that only benefits the disaster capitalist Money Men, not the politicians (although the way the system works, they're pretty much the same people.)

I can understand the political calculation that says you can't fight on all fronts at once. The administration has the largest set of challenges since Roosevelt's. They are necessarily having to prioritize. But I think what has so many liberal wonks spooked is that this meltdown is so systemic and so huge, they really don't know whether we can rebuild the edifice of trust enough for it to even work on its own fraudulent logic anymore. It strikes me, anyway, as terribly naive to think that Humpty Dumpty can be put back together after this.

If the political calculation is to just get thing rolling again so they can do the things they campaigned on, I think they are taking a huge, huge political risk that far outweighs that of taking on reform. On the suibstance it's just awful. The system as it stood was unjust and the suffering that's come in the wake of its failure should not be seen as a normal price to pay for growth. Certainly, the people who perpetrated these schemes should not be allowed to pick up where they left off or further destruction is inevitable.I am not sanguine.

Hirsh concludes his piece this way:

The White House and Treasury Department did not immediately respond to my requests for comment on these issues or on the March 23 meeting (beyond confirming that it took place). But it's noteworthy that more than a month and a half passed before Obama agreed to the meeting, which was prompted by a letter that Dorgan sent in early February. The senators were invited after one of the group, Sanders, put a hold on the nomination of Gary Gensler, Obama's nominee to be head of the Commodity Futures Trading Commission. In an interview, Sanders said he opposes the nomination because Gensler has spent much of his career in Washington working for Wall Street's interests. Gensler, in testimony, has said he has learned from his past mistakes. "At this moment in our history, we need an independent leader who will help create a new culture in the financial marketplace," Sanders said.

Instead, the old culture is reasserting itself with a vengeance. All of which runs up against the advice now being dispensed by many of the experts who were most prescient about the crash and its causes—the outsiders, in other words, as opposed to the insiders who are still running the show. Among the outsiders is Nassim Nicholas Taleb, the trader and professor who wrote "The Black Swan: The Impact of the Highly Improbable." Taleb wrote in the Financial Times this week that a fundamental new approach is needed. Not only should firms be prevented from growing too big to fail, "complex derivatives need to be banned because nobody understands them and few are rational enough to know it," he said. Yet even as we are still picking up the debris, we seem to be ready to embrace that world once again.

And if they succeed, which is debatable, there will be a few more millionaires made until it all blows up and another round of taxpayer bailouts of outrageous proportions will be required. And then we may find ourselves not laughing at those tea parties anymore because a whole lot more people will be on board. The right hasn't figured out how to ride populism to power yet. But they will.