Banks, Debt, and Other Oddities
from Peter Radford
It’s the end of a long and busy week. I have been less involved in the latest economic news largely because of other commitments. Plus everything seems to have reached an impasse.
For instance, our banks have managed to escape serious punishment for the disaster they foisted on us. Some of you are skeptics and wonder how they got away with it. My response is simple: they didn’t actually break that law. They were simply grossly – monstrously – unethical. That’s the way it is in a deregulated society. It’s what the voters kept asking for. No one seriously described the potential outcome. Had they done so, I doubt the voters would have changed their minds. After all, we are living through a period of intense political divide within which sensible voices are easily crowded out by hysteria and outright lying.
So as deregulation took hold the banks found they had more and more latitude to gamble. The conditions favored them. They went for broke. And went broke.
Unfortunately those who pressed for deregulation gave no coherent thought to the possibility of an unpleasant aftermath. So convinced were they by the market magic mythology that they felt no need to plan for any nastiness. The market could, and would, deal with it all. Policy making became faith based. It was an act of faith, rather than a reasoned approach, that markets would deal with all our problems.
Poppycock some of us said at the time. Neanderthal we were called. Markets fail with such monotonous regularity I wonder how the myth survives. But it does. Worse: it still infest out textbooks on economics. While this lamentable gap between what is taught and what we experience exists we are simply training more generations of policy makers to inflict more pain on future workers.
I have said it so many times: banking is inherently unstable. This is not, as some of you argue, because bankers are all nuts. It is because uncertainty pervades our world. There are things no one can predict. Those things have a particularly aggravated effect on banks whose business is unusually balanced on a knife’s edge at the best of times. I am not apologizing for bankers, I no longer have any attachment to my old world, but sometimes they are simply stupid and not criminal.
A few years back they were monumentally stupid. They deserve to be laughed at. They cannot be taken seriously until they clearly demonstrate they learned. Which they haven’t.
Or, perhaps, they learned too well. They learned, for instance, that the US will not take harsh remedial actions to fix its banking system. It apparently likes being beholden to the big banks. They throw nice parties and give generously at election time. I wish I could be described as being unduly cynical, but I can’t. The fact is that the banks wield an incontestable influence. To rein them in will take time and persistence. And another crisis or two.
One area where such a crisis could erupt is in sovereign debt.
Banks are large holders of sovereign debt, so they are naturally big advocates of austerity programs designed to prop up the value of the bonds they own. It is the potential damage that a default could do to its banks that has impelled Germany to tolerate Greek inaction. I have to say that Greece is the only true basket case of the often mentioned bad economies in Europe. It clearly has a credibility problem. It clearly should not be part of the Euro zone until it has learned to manage its affairs in a modern way. From a distance the Greek population seem to look at their government as a source of favors and side deals. It is analogous to 1600′s France where acquiring rent seeking opportunities were the great attraction of power. In contemporary Greece, cheating the government is applauded and so embedded in the national psyche, that any accounts the government publishes have to be treated with the utmost suspicion.
Why do I mention this? Because the interest rate on Greek debt is rising rapidly. The bluff is being called. Sooner or later the Greeks will default. They might be forced out of the Euro zone. The alternative is unpalatable to German voters: the dreaded fiscal union within the Euro zone and thus constant transfers of capital from Germany to Greece. That would save the German banks who own a lot of Greek debt, but would annoy German voters. Once again voters would be asked to remunerate banks for the risks they took. Only this time the connection is rather vague and German politicians have been relatively quiet about why they persist in bailing out Europe’s periphery.
Perhaps Spain is a better example. Prior to the collapse, Spain ran an exemplary budget. Its crisis was not the result of bad government, it was the result of the inflow of tons of German cash driving up Spanish wages and eroding competitiveness. Had Spain its own currency this would be no problem: it could simply allow its currency to devalue to offset the wage inflation. But it is tethered to the Euro. Which, in turn, reflects German activity. So in order to get back into a competitive position Spain has only one route, vicious deflation and high unemployment. The German voters look at this as Spanish failure. They do not see the complicity of their own banks.
What about our debt crisis? There isn’t one. US bond rates are low and staying there. This is odd given the heated rhetoric spilling about in Washington. It looks very much as if we will not get a sensible budget plan without a crisis simply because the ideological divide is too wide to establish any bridges. The Republicans have it their heads to get rid of our safety net programs. They are driven by an extraordinary combination of libertarian fervor and a near religious faith in market magic. This is despite the recent evidence that markets fail. Complicating this is the clear division within their ranks. Once the Ryan plan was exposed as deeply flawed and nothing but a front for an attack on those safety net programs, some GOP hopefuls started to walk away from it. Were they to be explicit during an election they would surely lose, given the voters love affair with Medicare in particular. So their only way forward is to precipitate a crisis within which they can argue we can no longer afford the price of these things.
The Democrats would like a crisis too. Within the storm they can point out the real Republican purpose and attempt to use to for political advantage. Besides Democrats must surely relish the confusion the Ryan plan has created in GOP ranks.
All of this, of course, presumes that the debt is really an issue. As you know I don’t think it is. Bond markets serve a useful purpose in allowing us to mange our national cash flow. They also serve as a source of safe investments for our retirees. Amidst all the huffing and puffing we should not forget that the majority of US debt is held by US citizens. And most of that is in retirement accounts where it provides a safe source of income. Basically we owe ourselves a lot of money. We could get around this all by simply printing enough money so we don’t nee to borrow anything at all. But that would force all those retirees into riskier investments. So I think the jury is out on that more extreme approach. Meanwhile the notion that there is an imminent bond market revolt is simply not supported by any fact that I know of. The entire debt crisis is a charade created to mask the ideological intent of the right wingers. Let’s call them on it and flush them out so they can be honest about their goal. At least that would be an honest debate.
All this market magic stuff annoys me. There is a whole group of economists who think in terms of equilibrium. They take it seriously. I am not sure they mean it literally, but they appear to believe that there is a tendency in a market towards equilibrium. That is if it is left alone. So the magic is not just the mechanism, but the result: a nirvana where we all glory in the best possible allocation of our resources. Frankly we have never arrived at such a place. So this tendency is either very tenuous, slow moving, or non-existent. To me an economy is a rambunctious, tumultuous, and uncertain place. It is never still. Every single moment is different. With each such moment being a new configuration, or outcome, of ongoing processes and relationships. It will never arrive anywhere let alone at an equilibrium. As David Bohm explained we are in a constant state of becoming, not being.
So why do these economists persist in such silliness?
Because it allows them to examine the properties of nirvana and compare them to where we actually are. Those differences then become the basis for their policy advice. Their argument is simply that if we get rid of the impediments to nirvana we will all be better off.
We could just as easily, and possibly ought to, reverse the comparison.
We ought to assume that economies tend towards utter chaos and failure. Once we comprehend that awful outcome, and the harm it would do to us all, we can then study what institutions, laws, ethics, norms, restraints and regulations are necessary to prevent mayhem. I think that, since the world is awash with such devices, the evidence supports my alternative view. For exhibit A look no further than the recent banking crisis.
So. If you are empirically driven and seek to understand the world around you, the goal should be to examine the ways that markets can be boxed in so they don’t fail. If you are ideologically driven and seek to understand how to establish your preferred vision of economic nirvana here on earth, you assume markets are perfect, and that any interference is an impediment to your vision.
One is fact based. The other faith based.
How odd that the faith based version dominates the textbooks.
Not so odd if you are a banker who wants to profit from gambling.
But that’s where I started …