too big to fail

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pages: 430 words: 109,064

13 Bankers: The Wall Street Takeover and the Next Financial Meltdown by Simon Johnson, James Kwak

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Andrei Shleifer, Asian financial crisis, asset-backed security, bank run, banking crisis, Bernie Madoff, Bonfire of the Vanities, bonus culture, capital controls, Carmen Reinhart, central bank independence, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, Edward Glaeser, Eugene Fama: efficient market hypothesis, financial deregulation, financial innovation, financial intermediation, financial repression, fixed income, George Akerlof, Gordon Gekko, greed is good, Home mortgage interest deduction, Hyman Minsky, income per capita, interest rate derivative, interest rate swap, Kenneth Rogoff, laissez-faire capitalism, late fees, Long Term Capital Management, market bubble, market fundamentalism, Martin Wolf, moral hazard, mortgage tax deduction, Ponzi scheme, price stability, profit maximization, race to the bottom, regulatory arbitrage, rent-seeking, Robert Shiller, Robert Shiller, Ronald Reagan, Saturday Night Live, sovereign wealth fund, The Myth of the Rational Market, too big to fail, transaction costs, value at risk, yield curve

., Pain from Global Gamble,” The New York Times, November 1, 2008, available at http://www.nytimes.com/2008/11/02/business/02global.html; Tavakoli was quoted in the article. 34. Jamie Dimon, “No More ‘Too Big to Fail,’ ” The Washington Post, November 13, 2009, available at http://www.washingtonpost.com/wp-dyn/content/article/2009/11/12/AR2009111209924.html. 35. Gary H. Stern and Ron J. Feldman, Too Big to Fail: The Hazards of Bank Bailouts (Washington: Brookings Institution Press, 2009). 36. Andrew Ross Sorkin, Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System—and Themselves (New York: Viking, 2009), 236. 37. On the race to save Morgan Stanley and Goldman Sachs, see ibid. at 409–83. 38. See, e.g., Paul Krugman, “Too Big to Fail FAIL,” The Conscience of a Liberal Blog, The New York Times, June 18, 2009, available at http://krugman.blogs.nytimes.com/2009/06/18/too-big-to-fail-fail/. 39. See, e.g., Ben Bernanke, “Financial Regulation and Supervision After the Crisis: The Role of the Federal Reserve” (lecture, Federal Reserve Bank of Boston 54th Economic Conference, Chatham, MA, October 23, 2009), available at http://www.federalreserve.gov/newsevents/speech/bernanke20091023a .htm. 40.

A key element of his argument was that regulation would be insufficient to keep banks from taking on excessive risk: “The belief that appropriate regulation can ensure that speculative activities do not result in failures is a delusion.”61 A stronger version of King’s position is Financial Times columnist John Kay’s proposal for “narrow banking,” which limits banks to taking deposits and processing payments and regulates them as utilities.62 Similarly, economics professor Laurence Kotlikoff has argued for “limited purpose banking,” a model in which banks are not allowed to borrow short and lend long, and all risky assets must be held in mutual funds.63 In November, Richard Fisher, president of the Federal Reserve Bank of Dallas, argued for getting rid of banks that are too big to fail: “This means finding ways not to live with ’em and getting on with developing the least disruptive way to have them divest those parts of the ‘franchise,’ such as proprietary trading, that place the deposit and lending function at risk and otherwise present conflicts of interest.”64 But the most surprising break with the conventional wisdom came from Alan Greenspan, who perhaps more than any other person had made the age of the megabanks possible. In an October speech, he said, “The critical problem that we have, which we’ve got to resolve, is the too-big-to-fail issue.” Asked how to solve this problem, he responded, If they’re too big to fail, they’re too big. I—this one has got me. And the reason it’s got me is that we no longer have the capability of having credible government response which says, henceforth no institution will be supported because it is too big to fail.… At a minimum, you’ve got to take care of the competitive advantage they have, because of the implicit subsidy, which makes them competitively capable of beating out their smaller competitors, who don’t get the subsidy.

L. 102–242, Title IV, § 473. CHAPTER 6: TOO BIG TO FAIL 1. Mervyn King (lecture to Scottish business organizations, Edinburgh, Scotland, October 20, 2009), available at http://www.bankofengland.co.uk/publications/speeches/2009/speech406 .pdf. 2. For accounts of the meeting, see Mark Landler and Eric Dash, “Drama Behind a $250 Billion Banking Deal,” The New York Times, October 14, 2008, available at http://www.nytimes.com/2008/10/15/business/economy/15bailout.html; and Andrew Ross Sorkin, Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System from Crisis—and Themselves (New York: Viking, 2009), chapter 20. 3. Quoted in David Wessel, In Fed We Trust: Ben Bernanke’s War on the Great Panic (New York: Crown Business, 2009), 239. 4. Sorkin, Too Big to Fail, supra note 2, at chapter 20. 5.

 

pages: 566 words: 155,428

After the Music Stopped: The Financial Crisis, the Response, and the Work Ahead by Alan S. Blinder

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Affordable Care Act / Obamacare, asset-backed security, bank run, banking crisis, banks create money, Carmen Reinhart, central bank independence, collapse of Lehman Brothers, collateralized debt obligation, conceptual framework, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, Detroit bankruptcy, diversification, double entry bookkeeping, eurozone crisis, facts on the ground, financial innovation, fixed income, friendly fire, full employment, hiring and firing, housing crisis, Hyman Minsky, illegal immigration, inflation targeting, interest rate swap, Isaac Newton, Kenneth Rogoff, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, market bubble, market clearing, market fundamentalism, McMansion, moral hazard, naked short selling, new economy, Nick Leeson, Northern Rock, Occupy movement, offshore financial centre, price mechanism, quantitative easing, Ralph Waldo Emerson, Robert Shiller, Robert Shiller, Ronald Reagan, shareholder value, short selling, South Sea Bubble, statistical model, the payments system, time value of money, too big to fail, working-age population, yield curve, Yogi Berra

The first natural thought is incorrect: that the Bear Stearns rescue was an application of the age-old too big to fail doctrine. The too big to fail idea is that some companies, financial or not, are simply so large that their failure, especially if abrupt, would do so much damage to other companies, to consumers, and to the overall economy that the government has to intervene in some way.* The doctrine is actually misnamed. In some cases, the preferred solution may be to lay the company to rest slowly and peacefully, with minimal disruption to other parties. So the idea should probably be called “too big to fail messily.” But labels, once assigned, have a way of sticking. For better or for worse, this doctrine is called “too big to fail.” But didn’t I just say that Bear Stearns was probably not too big to fail? It was, of course, a very large company, with assets of $395 billion as of November 30, 2007.

Fannie and Freddie were taken over: Sorkin, Too Big to Fail, chapter 11. Paulson refused: Paulson, On the Brink, 190. “what would you need from us?”: Sorkin, Too Big to Fail, 94. “‘I can’t do it again’”: Wessel, In Fed We Trust, 14. “financial crisis was lunacy”: Wessel, In Fed We Trust, 15–16. “statement is way out of line!”: Ibid. “import our cancer”: Sorkin, Too Big to Fail, 350. “take precautionary measures”: Bernanke, “The Economic Outlook,” testimony before the Joint Economic Committee, September 24, 2008. voiced the same opinion: Sorkin, Too Big to Fail, 343. “secure a Federal Reserve loan”: Bernanke, “Federal Reserve Policies in the Financial Crisis,” speech at the Greater Austin Chamber of Commerce. Chapter 6: The Panic of 2008 “most unbelievable week in America ever”: Quoted in Sorkin, Too Big to Fail, 2. 116,000 employees in 130 countries: FCIC Report, 139.

“We can’t keep doing this”: Sorkin, Too Big to Fail, 431. “inadequate capital rather than insufficient liquidity”: Swagel, “The Financial Crisis: An Inside View,” Brookings Papers on Economic Activity, 33. Remember that Bagehot had counseled central bankers to lend only in order to relieve illiquidity, not insolvency. “reasons of democratic legitimacy”: Sorkin, Too Big to Fail, 431. “an economic 9/11”: Sorkin, Too Big to Fail, 417. Stiglitz also urged that alternative: Krugman, “Cash for Trash,” New York Times; Soros, “Paulson Cannot Be Allowed a Blank Cheque,” Financial Times; Stiglitz, “A Better Bailout,” Nation. “I’ll be hung out to dry”: Wessel, In Fed We Trust, 203. “scare the shit out of them”: Sorkin, Too Big to Fail, 445. “heaven help us all”: Sorkin, Too Big to Fail, 446. “members of Congress ashen-faced”: Paulson, On the Brink, 259.

 

pages: 202 words: 66,742

The Payoff by Jeff Connaughton

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algorithmic trading, bank run, banking crisis, Bernie Madoff, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, cuban missile crisis, desegregation, Flash crash, locking in a profit, London Interbank Offered Rate, London Whale, Long Term Capital Management, naked short selling, Plutocrats, plutocrats, Ponzi scheme, risk tolerance, short selling, Silicon Valley, too big to fail, two-sided market, young professional

Every voter who wants to break Wall Street’s hold on Washington should put congressional and presidential candidates to the test with two questions (in addition to shunning lobbyist contributions and bundling): Will you agree not to take campaign contributions from too-big-to-fail banks and non-banks? Don’t stand idly by while too-big-to-fail institutions that will need Congress and the American taxpayer to bail them out when they fail—or else send us into another Great Depression—buy political influence. Politicians should pledge No on too-big-to-fail contributions. Will you support a tiny user fee on Wall Street trades to pay for adequate oversight and enforcement? A per trade fee would be specifically earmarked to construct a consolidated audit trail to allow better monitoring of trades and also strengthen the regulatory and law enforcement systems we need to prevent manipulation and wrongdoing.

But don’t be a bank hedge fund.’” I was happy but skeptical. I knew Ted talked to the vice president, but Ted never told me about the substance of those conversations. Those stayed forever in Ted’s vault. That’s one of the reasons Biden trusted him so much. That speech was the first time Ted used the phrase “too big to fail”—as recently popularized by Andrew Ross Sorkin’s book, which sat on Ted’s desk. In the next six months, he would practically wear it out, urging the Senate repeatedly to deal effectively with too-big-to-fail megabanks before they caused yet another disastrous financial crisis. On a subsequent trip to New York, we met with Bill Dudley, the former chief economist at Goldman Sachs who is president of the New York Fed. Dudley was clear about what he believed needed to be done. In the past, he said, bank regulators had failed to require banks to hold sufficient capital reserves and had let these same investment banks and banks use too much short-term leverage.

I e-mailed one of my fellow Democratic chiefs: “I came into government to help shape change on Wall Street, and now I realize the profession I just left is having more input on the bill than I’m having from inside the Senate.” The chief responded, “That’s really sad.” Ted had had enough. He was determined to go to the Senate floor and start speaking out strongly. I began working on a major speech. We wanted to lay out Ted’s views on the importance of ending too-big-to-fail. He wanted it to be the foundational document (a favorite Biden tactic) for all he would argue during the debate. We went through several drafts. Simon Johnson, the former chief economist for the International Monetary Fund and leading critic of too-big-to-fail megabanks, was standing by to tout the speech in his blog and on Huffington Post, where he served as a senior contributor. It took us longer than I’d planned. At one point, I e-mailed Simon: “This is threatening to become the speech that ate the Senator.” I wanted it to read like a long-form essay, because I knew few people would hear it when Ted delivered it to an empty Senate chamber (unless casting a vote, senators are rarely on the Senate floor, usually leaving any speaker to talk solely to the presiding officer and C-SPAN cameras).

 

pages: 515 words: 132,295

Makers and Takers: The Rise of Finance and the Fall of American Business by Rana Foroohar

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3D printing, accounting loophole / creative accounting, additive manufacturing, Airbnb, algorithmic trading, Asian financial crisis, asset allocation, bank run, Basel III, bonus culture, Bretton Woods, British Empire, call centre, Capital in the Twenty-First Century by Thomas Piketty, Carmen Reinhart, carried interest, centralized clearinghouse, clean water, collateralized debt obligation, corporate governance, corporate social responsibility, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, crowdsourcing, David Graeber, deskilling, Detroit bankruptcy, diversification, Double Irish / Dutch Sandwich, Emanuel Derman, Eugene Fama: efficient market hypothesis, financial deregulation, financial intermediation, Frederick Winslow Taylor, George Akerlof, gig economy, Goldman Sachs: Vampire Squid, Gordon Gekko, greed is good, High speed trading, Home mortgage interest deduction, housing crisis, Howard Rheingold, Hyman Minsky, income inequality, index fund, interest rate derivative, interest rate swap, Internet of things, invisible hand, joint-stock company, joint-stock limited liability company, Kenneth Rogoff, knowledge economy, labor-force participation, labour mobility, London Whale, Long Term Capital Management, manufacturing employment, market design, Martin Wolf, moral hazard, mortgage debt, mortgage tax deduction, new economy, non-tariff barriers, offshore financial centre, oil shock, passive investing, pensions crisis, Ponzi scheme, principal–agent problem, quantitative easing, quantitative trading / quantitative finance, race to the bottom, Ralph Nader, Rana Plaza, RAND corporation, random walk, rent control, Robert Shiller, Robert Shiller, Ronald Reagan, Second Machine Age, shareholder value, sharing economy, Silicon Valley, Silicon Valley startup, Snapchat, sovereign wealth fund, Steve Jobs, technology bubble, The Chicago School, The Spirit Level, The Wealth of Nations by Adam Smith, Tim Cook: Apple, Tobin tax, too big to fail, trickle-down economics, Tyler Cowen: Great Stagnation, Vanguard fund

What’s more, the business model that financial institutions have fought to preserve through billions spent on funding campaigns and lobbying Congress had saddled American depositors and taxpayers with unacceptable risks. “What we should probably do is go and split up investment banking from [commercial] banking,” Weill said. “Have banks be deposit takers. Have banks make commercial loans and real estate loans. Have banks do something that’s not going to risk the taxpayer dollars, that’s not going to be Too Big to Fail.”2 As conversions go, Weill’s was positively biblical. It came four years after a long chain of disastrous decisions by Citigroup and the rest of the Too Big to Fail banks had landed them at the epicenter of the financial crisis, with hundreds of billions of dollars of exploding securities on their books and worried customers on the verge of mass panic that threatened to throw the country into another Great Depression. The crisis ultimately required $1.59 trillion in government bailouts (and another $12 trillion worth of federal guarantees and loans) and even with that, it shaved more off the American economy than any other downturn since the 1930s.3 But that wasn’t all.

And it leaves big banks always on the winning side.”55 It’s worth noting that arguments of this exact type were employed by bankers and public officials who lobbied for the repeal of Glass-Steagall and the creation of the Too Big to Fail banks themselves. Economist Joseph Stiglitz, who was the head of President Clinton’s Council of Economic Advisers in the run-up to the repeal, remembers arguing with Treasury officials on this very point. “People wanted the law overturned to create ‘synergies’ between different divisions of the banks. And I said, ‘what are we going to do about conflicts of interest?’ And they said, ‘don’t worry, we have Chinese walls.’ And I said, ‘well if you’ve really constructed Chinese walls, then where are the synergies?’ ”56 Interestingly, the crisis of 2008, which turned Goldman Sachs and Morgan Stanley into Fed-regulated Too Big to Fail bank holding companies as a condition of getting government bailouts, also legitimized their meddling in the aluminum markets.

If Big Tech decided at any point to dump those bonds, it could become a market-moving event, an issue that is already raising concern among experts at the Office of Financial Research, the Treasury Department body founded after the 2008 financial crisis to monitor stability in financial markets.7 Big Tech isn’t alone in emulating finance. Airlines often make more money from hedging on oil prices than on selling seats—while bad bets can leave them with millions of dollars in losses. GE Capital, a subsidiary of the company launched by America’s original innovator, Thomas Alva Edison, was until quite recently a Too Big to Fail financial institution like AIG (GE has spun it off in part because of the risks it posed). Any number of Fortune 500 firms engage in complicated Whac-A-Mole schemes to keep their cash in a variety of offshore banks to avoid paying taxes not only in the United States but also in many other countries where they operate. But tax avoidance and even “tax inversions” of the sort firms like the drug giant Pfizer have done—maneuvers that allow companies to skirt paying their fair share of the national burden despite taking advantage of all sorts of government supports (federally funded research and technology, intellectual property protection)—are only the tip of the iceberg.

 

pages: 576 words: 105,655

Austerity: The History of a Dangerous Idea by Mark Blyth

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accounting loophole / creative accounting, balance sheet recession, bank run, banking crisis, Black Swan, Bretton Woods, capital controls, Carmen Reinhart, Celtic Tiger, central bank independence, centre right, collateralized debt obligation, correlation does not imply causation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, debt deflation, deindustrialization, disintermediation, diversification, en.wikipedia.org, ending welfare as we know it, Eugene Fama: efficient market hypothesis, eurozone crisis, financial repression, fixed income, floating exchange rates, Fractional reserve banking, full employment, German hyperinflation, Gini coefficient, global reserve currency, Growth in a Time of Debt, Hyman Minsky, income inequality, interest rate swap, invisible hand, Irish property bubble, Joseph Schumpeter, Kenneth Rogoff, liquidationism / Banker’s doctrine / the Treasury view, Long Term Capital Management, market bubble, market clearing, Martin Wolf, moral hazard, mortgage debt, mortgage tax deduction, Occupy movement, offshore financial centre, paradox of thrift, price stability, quantitative easing, rent-seeking, reserve currency, road to serfdom, savings glut, short selling, structural adjustment programs, The Great Moderation, The Myth of the Rational Market, The Wealth of Nations by Adam Smith, Tobin tax, too big to fail, unorthodox policies, value at risk, Washington Consensus

Thatcher reportedly once said, not only is there something called society, we all live in it, rich and poor alike, for better and for worse. The Book in Brief Following this overview, chapter 2, “America: Too Big to Fail: Bankers, Bailouts, and Blaming the State,” explains why the developed world’s debt crisis is not due to profligate state spending, at least in any direct sense. Rather, we piece together how the debt increase was generated by the implosion of the US financial sector and how this impacted sovereigns from the United States to the Eurozone and beyond. To explain this I stress how the interaction of the repo (sale and repurchase) markets, complex instruments, tail risks, and faulty thinking combined to give us the problem of too big to fail. It takes us from the origins of the crisis in the run on the US repo market in September 2008 to the transmission of this US-based crisis to the Eurozone, noting along the way how a banking crisis was deftly, and most politically, turned into a public-sector crisis and how much it all cost.34 Chapter 3, “Europe: Too Big to Bail: The Politics of Permanent Austerity,” analyzes how the private debt generated by the US banking sector was rechristened as the “sovereign debt crisis” of profligate European states.

This is a pattern we see repeatedly in the crisis. Too Big to Fail? A shorthand way of thinking about the decision to bail US banks rather than let them fail is to consider that there are 311 million people in the United States. Of these, 64 percent are aged 16 or over; about 158 million people work. Seventy-two percent of the working population live paycheck to paycheck, have few if any savings, and would have trouble raising $2000 on short notice.45 There are, as far as we can tell, about 70 million handguns in the United States.46 So what would happen if there was no money in the ATMs and no paychecks were being paid out? That was the fear. But what was the reality? Was the US financial system, comprising shadow banks, opaque instruments, bad risk models, and flawed blueprints, actually too big to fail? Giving a definitive answer is impossible because it would involve taking account of all the off-balance-sheet activities of the banks in question as well as their CDS exposures and other derivative positions.

Lehman was running 31 to 1 leverage on an asset base of $503.54 billion, which is equivalent to about 3.5 percent of US GDP.47 If that wasn’t enough to send the US government running to the tool shed to stop the contagion from spreading through the CDS and repo markets, the possibility of adding just over 60 percent of GDP to the bonfire, the collective total of the banks’ asset footprints, would certainly focus the collective mind on the too big to fail problem. So the banks were bailed out, and the costs, as we have seen, have been borne first by the state, and ultimately, by the taxpayer. Was it worth it? This is an even harder counterfactual to reason since “what could have happened” remains speculative. But if the whole system had melted down as was feared, the immediate cost could have been the sum of those bank assets, some 61 percent of GDP, which does not factor in the secondary costs in lost output, unemployment, and the damage that you can do with 70 million handguns. The crisis started in America because this system had become too big to fail. Banking was transformed from its sleepy 3-6-3 origins. Disintermediation, securitization, and the rise of repo markets made funding cheaper and lending more plentiful but riskier.

 

pages: 726 words: 172,988

The Bankers' New Clothes: What's Wrong With Banking and What to Do About It by Anat Admati, Martin Hellwig

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Andrei Shleifer, asset-backed security, bank run, banking crisis, Basel III, Bernie Madoff, Big bang: deregulation of the City of London, Black Swan, bonus culture, Carmen Reinhart, central bank independence, centralized clearinghouse, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, diversified portfolio, en.wikipedia.org, Exxon Valdez, financial deregulation, financial innovation, financial intermediation, George Akerlof, Growth in a Time of Debt, income inequality, invisible hand, Jean Tirole, joint-stock company, joint-stock limited liability company, Kenneth Rogoff, London Interbank Offered Rate, Long Term Capital Management, margin call, Martin Wolf, moral hazard, mortgage debt, mortgage tax deduction, Nick Leeson, Northern Rock, open economy, peer-to-peer lending, regulatory arbitrage, risk tolerance, risk-adjusted returns, risk/return, Robert Shiller, Robert Shiller, shareholder value, sovereign wealth fund, technology bubble, The Market for Lemons, the payments system, too big to fail, Upton Sinclair, Yogi Berra

With the additional borrowing, the incentive to take excessive risks, discussed in Chapter 8, becomes stronger. Government guarantees and subsidies thus reinforce the effects of bankers’ compensation and the focus on ROE, as well as the effects of debt overhang, all of which encourage borrowing and risk. The prospect of becoming systemically important or too big to fail provides banks with incentives to grow and become more complex. The implicit guarantees reduce the funding costs of the too-big-to-fail institutions and give these banks an advantage over other banks and over other companies in the economy. If banks respond to these incentives by growing and becoming more complex, this in turn increases the damage to society should these institutions become distressed or insolvent. It is as if the government subsidized ever larger tankers going ever closer to the coast.

For banks, therefore, the costs of added debt are much lower with guarantees, even if they are already highly indebted. They view equity as expensive; borrowing is always attractive. As discussed in the previous chapter, the focus on ROE in banking reinforces the effect by compensating bank managers in ways that encourage risk taking and borrowing. Perverse Incentives When large banks are treated as too big to fail, this status has strong and perverse effects on the banks’ behavior. The prospect of benefiting from too-big-to-fail status can give banks strong incentives to grow, merge, borrow, and take risks in ways that take the most advantage of the potential or actual guarantees. Banks may also want to draw advantages from taking risks that are similar in that they are all likely to turn out well or to turn out poorly at the same time. If things go wrong, the entire industry may be affected, which will generate strong pressures for government support.

Banks in those countries grew and invested so much that their losses were larger than the countries could bear.27 Spain may be facing a similar experience. Being considered too big to fail is extremely valuable for a bank, because it lowers its borrowing costs. Just as Kate was able to borrow at a lower rate because of Aunt Claire’s guarantees, banks that benefit from implicit guarantees are given higher credit ratings, and thus pay less interest when they borrow. This reduces the banks’ overall funding costs and increases the amount of the total pie available to their investors. There is significant evidence that subsidies associated with being too big to fail can make these banks seem more profitable, when in fact they are not generating more value but simply benefiting from more subsidized funding.28 Banks do not seem to become more efficient when they grow beyond about $100 billion in assets, yet growing can allow them to enjoy the subsidized funding that comes with the implicit guarantees.29 With subsidized funding through guarantees, growth is easy, and building empires can be quite profitable.30 Mergers in banking have also been shown to be partly motivated by a desire to attain too-big-to-fail status, which generally lowers costs and makes for easier borrowing terms.

 

pages: 172 words: 54,066

The End of Loser Liberalism: Making Markets Progressive by Dean Baker

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Asian financial crisis, banking crisis, Bernie Sanders, collateralized debt obligation, collective bargaining, corporate governance, currency manipulation / currency intervention, Doha Development Round, financial innovation, full employment, Home mortgage interest deduction, income inequality, inflation targeting, invisible hand, manufacturing employment, market clearing, market fundamentalism, medical residency, patent troll, pets.com, pirate software, price stability, quantitative easing, regulatory arbitrage, rent-seeking, Robert Shiller, Robert Shiller, Silicon Valley, too big to fail, transaction costs

Yet somehow this massive intervention on behalf of these banks’ executives, shareholders, and bondholders – some of the richest people in the country – is not viewed as interference with the market.[1] While the bank bailouts were big news, there is no shortage of less-visible instances in which conservatives have long been eager for the government step in to support the interests of the wealthy. We’ll quickly discuss seven examples here: continued support for too-big-to-fail banks, patent and copyright protection, restrictions on organized labor, corporate liability limitations, Federal Reserve monetary controls, trade and dollar policy, and housing policy. Too-big-to-fail banks To start with an easy one, how many “free market fundamentalists” have rallied behind efforts to break up “too-big-to-fail” banks? This one should be a no-brainer for any genuine believer in free markets. A too-big-to-fail bank is a bank that everyone expects will be bailed out by the government if it gets in trouble, as happened in 2008. Because investors can assume that the government will back up the bank, they are willing to lend it money at a lower interest rate than if they thought the bank was standing on its own.

Washington, DC: The Center for Economic and Policy Research. http://www.cepr.net/documents/publications/work-sharing-2011-06.pdf Baker, Dean and Rivka Deutsch. 2009. “The State and Local Drag on the Stimulus.” Washington, DC: Center for Economic and Policy Research. http://www.cepr.net/documents/publications/stimulus-2009-05.pdf Baker, Dean and Travis McArthur. 2009. “The Value of the ‘Too Big to Fail’ Big Bank Subsidy.” Washington, DC: Center for Economic and Policy Research. http://www.cepr.net/documents/publications/too-big-to-fail-2009-09.pdf Baker, Dean and Hye Jin Rho. 2009. “Free Trade in Health Care: The Gains from Globalized Medicare and Medicaid.” Washington, DC: Center for Economic and Policy Research. http://www.cepr.net/documents/publications/free-trade-hc-2009-09.pdf Baker, Dean and David Rosnick. 2011. “A Voluntary Default Savings Plan: An Effective Supplement to Social Security.”

Because investors can assume that the government will back up the bank, they are willing to lend it money at a lower interest rate than if they thought the bank was standing on its own. How could any believer in the virtue of free markets support the existence of large financial institutions that borrow at a lower cost than their competitors because of an implicit guarantee from the government? The fact that most of those claiming to be “free marketers” have overwhelmingly been on the side of the too-big-to-fail banks tells the world as clearly as possible that their motivations have nothing to do with a commitment to market fundamentalism and everything to do with a commitment to serving the interests of the rich and powerful. This is disguised as a commitment to the market for the obvious reason that doing things out of a commitment to free market principles sounds better than explicitly claiming to pursue policies that redistribute income from the vast majority of the population to the rich.

 

pages: 300 words: 78,475

Third World America: How Our Politicians Are Abandoning the Middle Class and Betraying the American Dream by Arianna Huffington

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American Society of Civil Engineers: Report Card, Bernie Madoff, Bernie Sanders, call centre, carried interest, citizen journalism, clean water, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, David Brooks, extreme commuting, Exxon Valdez, full employment, greed is good, housing crisis, immigration reform, invisible hand, knowledge economy, laissez-faire capitalism, late fees, market bubble, market fundamentalism, Martin Wolf, medical bankruptcy, microcredit, new economy, New Journalism, offshore financial centre, Ponzi scheme, Report Card for America’s Infrastructure, Richard Florida, Ronald Reagan, Rosa Parks, single-payer health, smart grid, The Wealth of Nations by Adam Smith, too big to fail, transcontinental railway, trickle-down economics, winner-take-all economy, working poor, Works Progress Administration

Think Bigger, Way Bigger,” 13 May 2010, www.huffingtonpost.com. 54 The names of the Wall Streeters: Matthew Vadum, “Goldman Sachs Government,” 16 Oct. 2008, www.spectator.org. 55 The finance industry has 70 former members of Congress: Public Citizen, “Stop Congress’ Revolving Door of Corruption,” www.citizen.org. 56 This includes 33 chiefs of staff, 54 staffers of the House: Arthur Delaney, “Big Bank Takeover: Report Blames Revolving Door for ‘Too Big to Fail,’ ” 11 May 2010, www.huffingtonpost.com. 57 Five of Senate Banking Committee chair Chris Dodd’s: Kevin Connor, “Big Bank Takeover: How Too-Big-to-Fail’s Army of Lobbyists Has Captured Washington,” Institute for America’s Future, 11 May 2010, www.ourfuture.org. 58 Of course, the revolving door spins both ways: Arthur Delaney, “Big Bank Takeover: Report Blames Revolving Door for ‘Too Big to Fail,’ ” 11 May 2010, www.huffingtonpost.com. 59 On the mining front, former Massey chief operating officer: Brad Johnson, “Don Blankenship’s Record of Profits Over Safety: ‘Coal Pays the Bills,’ ” 8 Apr. 2010, www.thinkprogress.org. 60 At the time of the Upper Big Branch accident he was: Ibid. 61 And President Bush named Massey executive Richard Stickler: Ibid. 62 Stickler had such a lousy safety record: Ibid. 63 That’s what happened when Bush put Edwin Foulke: Stephen Labaton, “OSHA Leaves Worker Safety in Hands of Industry,” 25 Apr. 2007, www.nytimes.com. 64 Earlier in his career, while serving as chairman: Ibid. 65 Then there was Bush’s choice of Mary Sheila Gall: “Mary Sheila Gall Named to Chair CPSC,” 20 Apr. 2001, www.consumeraffairs.com. 66 In her ten years on the commission: Lizette Alvarez, “Consumer Product Safety Chief Sets Deadline to Resign,” 9 Aug. 2001, www.nytimes.com. 67 She even adopted a “Let them eat marbles” stance: Hearing on the nomination of Mary Sheila Gall to chair the Consumer Product Safety Commission before the Committee on Commerce, Science, and Transportation, U.S.

If you believe the universe is revolving around the earth—when, in fact, it isn’t—all the good intentions in the world will be for naught. It’s no surprise that people such as Tim Geithner and Larry Summers believe in bank centrism—they’re both creatures of it. And in a bank-centric universe, funneling no-strings-attached money to too-big-to-fail banks is the logical thing to do. The longer this remains the dominant cosmology in the Obama administration—and the longer it takes to switch to a plan that reflects a cosmology in which the American people are the center of the universe and are deemed “too big to fail”—the greater the risk that the economic crisis will be more prolonged than necessary. And the greater the suffering. There is an enormous human cost to this dogma. Writing about the “grand book” that is the universe, Galileo declared that it “cannot be understood unless one first learns to comprehend the language and interpret the characters in which it is written … without these, one is wandering about in a dark labyrinth.”115 That’s where we find ourselves today, wandering about in a dark financial labyrinth—being led by good men blinded by an obsolete view of the world.

But on a nuts-and-bolts level, the three things we absolutely must do are: Regulate all derivatives and other exotic “financial instruments” that played such a big part in the meltdown and have turned Wall Street banks into much shadier versions of a Las Vegas casino (at least in Vegas, you know the odds going in). Create a Glass-Steagall Act for the twenty-first century, restoring the Chinese wall between commercial and investment banking. Follow the path of Teddy Roosevelt and break up the big banks. It’s essential to end “too big to fail” in order to ensure that taxpayers are not on the hook next time. Even Alan Greenspan, the oracle of free markets and a longtime cheerleader for banking deregulation, thinks the megabanks are too big.72 In October 2009, he said, “If they’re too big to fail, they’re too big.… So I mean, radical things—you know, break them up. In 1911, we broke up Standard Oil. So what happened? The individual parts became more valuable than the whole. Maybe that’s what we need.” After the near-collapse of the economy, precipitated by Wall Street, you would have thought that reining in the big banks would have been a no-brainer.

 

pages: 193 words: 11,060

Ethics in Investment Banking by John N. Reynolds, Edmund Newell

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accounting loophole / creative accounting, banking crisis, capital controls, collapse of Lehman Brothers, corporate governance, corporate social responsibility, credit crunch, Credit Default Swap, discounted cash flows, financial independence, index fund, invisible hand, margin call, moral hazard, Nick Leeson, Northern Rock, quantitative easing, shareholder value, short selling, South Sea Bubble, stem cell, the market place, The Wealth of Nations by Adam Smith, too big to fail

The fact that integrating investment banking and commercial banking products can give rise to ethical problems does not in itself make such a practice unethical, in the same way that while owning a shop or market stall and setting products out to be viewed by customers can give rise to the temptation to steal it is not tantamount to theft. Too big to fail The investment banking sector as a whole, and the largest players in the sector individually, are too big for Governments to allow them to fail. This implies that investment banks receive some form of economic free-ride. There are different reasons why a company could be too big to fail: (a) the company itself is so important economically it could not be allowed to cease trading; (b) it provides essential services, and disruption to service supply could be unduly damaging for consumers; (c) its failure would spread to other companies, for example by creating a chain of defaults (such as via the non-payment of trade creditors); and (d) its failure would cause a systemic failure in a vital economic sector.

Legislative change The legislative approaches to banking reform have varied greatly between countries. In the US, the Dodd–Frank Act (Dodd–Frank Wall Street Reform and Consumer Protection Act) has aimed to end the risk of “too big to fail” institutions being rescued by the state and has brought in major reforms aimed at providing financial stability, including a Financial Stability Oversight Council and Orderly Liquidation Authority. The Act stops short of requiring a separation of investment and commercial banking, which has been called for by some politicians. The Dodd–Frank Act specifically aims to end “too big to fail” by a combination of measures, including regulation and supervision, a levy to be paid by major financial institutions to create an Orderly Liquidation Fund and provisions for orderly liquidation. The Act does not, however, set a limit on the size of financial institutions, including investment banks.

The FPC will publish minutes of its deliberations and will be accountable to the Treasury Select Committee. Recent legislative change is aimed at reducing the wider impact of failure of an investment bank or banks. It may also reduce the risk of failure. It will not, however, deal with the other fundamental issue of the competence of management and the behaviour of shareholders of investment and commercial banks. Ethical implications The “too big to fail” argument has a number of ethical implications: • “Too big to fail” can lead to an asymmetric risk–reward profile for investment bankers, encouraging relatively risky behaviour, which may be unethical with regard to both the investment bank’s resources and potential Government liabilities. • Pushing risk onto tax payers and away from shareholders and/or lenders can reduce the level of pay that is ethically acceptable within an investment bank, notably where the investment bank receives direct Government support. • The profitability and stability of investment banking relies in part on Government support, which may impose an ethical duty on investment banks.

 

pages: 348 words: 99,383

The Financial Crisis and the Free Market Cure: Why Pure Capitalism Is the World Economy's Only Hope by John A. Allison

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Affordable Care Act / Obamacare, bank run, banking crisis, Bernie Madoff, clean water, collateralized debt obligation, correlation does not imply causation, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, disintermediation, fiat currency, financial innovation, Fractional reserve banking, full employment, high net worth, housing crisis, invisible hand, life extension, low skilled workers, market bubble, market clearing, minimum wage unemployment, moral hazard, obamacare, price mechanism, price stability, profit maximization, quantitative easing, race to the bottom, reserve currency, risk/return, Robert Shiller, Robert Shiller, The Bell Curve by Richard Herrnstein and Charles Murray, too big to fail, transaction costs, yield curve

This is a very destructive message. Also, a government-sponsored oligopoly has been created in the financial services industry. This oligopoly has been created not by market forces, but by the arbitrary action of government regulators during a government-created crisis. There are at least six financial institutions that have clearly been defined as “too big to fail” (Citi, Bank of America, Wells Fargo, Goldman Sachs, JPMorgan Chase, and Morgan Stanley). The Dodd-Frank bill does not deal with the “too-big-to-fail” issue effectively, despite the comments of its proponents. In fact, the rating agencies have indicated that the credit ratings of these giant financial institutions are several grades higher than they would be without the implied government guarantee post-Dodd-Frank. This situation creates a major competitive advantage for these giant firms in the long term.

The legislation will be more detrimental to the healthy banks than to those financial institutions that should have failed. The well-run companies will be permanently damaged by the irrationality of their competitors and the related socialist/statist government reaction. I am opposed to the antitrust laws. Also, I do not believe that these oligopoly banks are too big to fail. However, if the government regulators do believe that these companies are too big to fail (and the government regulators and the rating agencies do believe it), they should be broken up. Unfortunately, the antitrust policy of the Federal Reserve is completely arbitrary to the point of being irrational. A short time before the financial crisis started, BB&T acquired a small bank in the Tennessee/North Carolina mountains. We were forced to divest a $25 million branch office because of antitrust rules.

However, the four major deficiencies of Dodd-Frank are 1. The consumer compliance segment of the law is not about consumer compliance, it is about credit allocation. This is a fundamental move toward statism. If the government wants to control the economic system, the most effective way to do so is to control the allocation of credit and capital. 2. The legislation does not deal with “too big to fail.” Instead, it identifies companies that are “too big to fail” and ensures that they will be protected by the government. 3. The Durbin amendment on debit card fees is price fixing. It will reduce the availability of banking services to low-income consumers and increase costs for middle-income consumers. This is a government-mandated redistribution of wealth from bank shareholders and consumers to large retailers, such as Walgreens. 4.

 

pages: 183 words: 17,571

Broken Markets: A User's Guide to the Post-Finance Economy by Kevin Mellyn

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banking crisis, banks create money, Basel III, Bernie Madoff, Big bang: deregulation of the City of London, Bonfire of the Vanities, bonus culture, Bretton Woods, BRICs, British Empire, call centre, Carmen Reinhart, central bank independence, centre right, cloud computing, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, credit crunch, crony capitalism, currency manipulation / currency intervention, disintermediation, eurozone crisis, fiat currency, financial innovation, financial repression, floating exchange rates, Fractional reserve banking, global reserve currency, global supply chain, Home mortgage interest deduction, index fund, joint-stock company, Joseph Schumpeter, labor-force participation, labour market flexibility, liquidity trap, London Interbank Offered Rate, lump of labour, market bubble, market clearing, Martin Wolf, means of production, mobile money, moral hazard, mortgage debt, mortgage tax deduction, Ponzi scheme, profit motive, quantitative easing, Real Time Gross Settlement, regulatory arbitrage, reserve currency, rising living standards, Ronald Coase, seigniorage, shareholder value, Silicon Valley, statistical model, Steve Jobs, The Great Moderation, the payments system, Tobin tax, too big to fail, transaction costs, underbanked, Works Progress Administration, yield curve, Yogi Berra

Scene Five If it looks like banks are going to fall over like dominos, central banks and treasuries will resort to making asset purchases and even direct capital injections into the banks. Shotgun weddings putting weak or walking-dead banks together into larger players are encouraged or compelled. Once this could be done with private capital, as when J. P. Morgan singlehandedly stopped the Panic of 1907. Now the banking sector is so large and interwoven that many individual banks are “too big to fail,” which in practice means the government (i.e., the taxpayers) has to save them from collapse. Although so-called bailouts are politically toxic, not doing them risks total economic collapse. Thus, sooner or later, they get into the story line. Scene Six More subtly, the authorities try to restore banks to profitability so they can go back to lending to businesses and households. The easiest way to do this is by providing essentially free money to the banks so they can “earn” a spread on government bonds, or even by hoarding money at the central bank.

The ability to offset depressed US and European growth with emerging market dynamism will likely prove a delusion. 9 10 Chapter 1 |  The Rise and Fall of the Finance-Driven Economy Final Scene and Fade to Credits Global financial markets will not long remain broken and dormant, as human ingenuity and the desire to make money will always find new ways to connect borrowers and investors. The entrenched, too-big-to-fail institutions left standing by the second leg of the crisis, as well as the most heavily regulated financial centers, will increasingly be bypassed as capital, talent, and customers go elsewhere. Money, like water, always finds a way around efforts to dam it. Innovation trumps regulation over time. In the final scene, global finance reinvents itself in unregulated spaces in developed countries and the dynamic markets of East Asia and beyond.

Then the only answer is to move quickly to put them out of their misery quickly and with as little harm to others as possible.The FDIC is very good at doing this with small banks, and even middling ones. However, in the 1990s the US banking industry became very concentrated in the top ten or so banks for reasons noted above. The investment banks went from partnerships to public companies and also got very, very large.The global financial markets became so intertwined that these institutions were exposed to every other bank of every size and vice versa. This situation is often called “too big to fail” because all these complex interconnections between market players are impossible to understand in detail but clearly have the potential to bring down everybody if a really big institution suddenly ceased paying what they owed the other banks. The problem during the crisis was that it was not at all obvious who could be allowed to go to the wall and who had to be saved at all costs. There was no clear set of principles or policies to be applied.

 

pages: 257 words: 71,686

Swimming With Sharks: My Journey into the World of the Bankers by Joris Luyendijk

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bank run, barriers to entry, Bonfire of the Vanities, bonus culture, collapse of Lehman Brothers, collective bargaining, credit crunch, Credit Default Swap, Emanuel Derman, financial deregulation, financial independence, Flash crash, glass ceiling, Gordon Gekko, high net worth, hiring and firing, inventory management, job-hopping, London Whale, Nick Leeson, offshore financial centre, regulatory arbitrage, shareholder value, sovereign wealth fund, the payments system, too big to fail

From the mid-eighties these partnerships began to list on the stock exchange, or were taken over by publicly listed commercial banks who wanted to take advantage of deregulation and move into investment banking. Those commercial banks took over dozens of other banks and financial institutions across the globe and consequently became ‘too big to fail’. In a relatively short time the ownership structure of investment banks has radically changed. They are now publicly listed themselves so the risk lies with shareholders rather than partners, while bankers are paid partly in shares and options. The higher the share price, the more their shares and options are worth, and a really good way to raise that share price is by taking more risk. And as we’ve seen, what ‘too big to fail’ really means is that the taxpayer will bear much of that risk. There is an expression in the City for this new state of affairs: ‘It’s only OPM’ – Other People’s Money. A front-office veteran whose bank was a partnership when he started his career was very clear about how this difference in ownership structure affects the way bankers operate.

The partners that they worked for in the past had every reason in the world to fear a disastrous loss. That meant power. In today’s system, the risk and compliance department only serves to reassure the shareholders, regulators and taxpayers: those who shoulder the real risks. Now I began to understand why the interviewees who worked in hedge funds, private equity and venture capital scoffed at the publicly listed ‘too big to fail’ banks claiming to be part of the free market. Capitalism without the possibility of failure is like Catholicism without a hell, they’d say. Or: ‘Heads you lose, tails I win.’ And: ‘Banking today is like playing Russian roulette with someone else’s head.’ I was still mulling this over when an intriguing message popped into my inbox: ‘I’d be happy to discuss a part of banking that’s not really seen.’ 5 When the Call Comes ‘It’s amazing how fast the news spreads.

Obviously, I was concerned about the reliability and representativeness of the sort of people who risk their job for an interview – ‘selection bias’ in social science-speak. Whether interviewees were who they said they were was quite easy to check on social media such as LinkedIn. Verifying their stories was a different matter, frustratingly, because I was not allowed to observe anyone working in the banks. However, the most important things in their stories could be substantiated: the existence of caveat emptor, zero job security, the dangerous logic of ‘too big to fail’ and the implications and pressures of a listing on the stock exchange. It was clear that these conflicts of interest and perverse incentives are real, even if it came to light that each and every interviewee I spoke to was a delusional fantasist. A year into my research the blog was beginning to feel like an organisational detective. First I had been looking into the who-dunnit and the why-dunnit but anybody who reads too many police procedurals will tell you that an investigator looks beyond motives.

 

pages: 257 words: 64,763

The Great American Stickup: How Reagan Republicans and Clinton Democrats Enriched Wall Street While Mugging Main Street by Robert Scheer

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banking crisis, Bernie Madoff, Bernie Sanders, collateralized debt obligation, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, facts on the ground, financial deregulation, housing crisis, invisible hand, Long Term Capital Management, mortgage debt, new economy, Ponzi scheme, profit motive, Ralph Nader, Ronald Reagan, too big to fail, trickle-down economics

A win-win system too good to be true turned out to be a cruel hoax in which most suffered terribly—and not just that majority of the world’s population that suffers from the whims of the market, but even some who designed and sold the new financial gimmicks. Left to their own devices, freed of rational regulatory restraint by an army of lobbyists and the politicians who serve them, one after another of the very top financial conglomerates imploded from the weight of their uncontrolled greed. Or would have imploded, as in the examples of Citigroup and AIG, if the government had not used taxpayer dollars to bail out those “too big to fail” conglomerates. Along the way, these companies—including the privatized quasi-governmental Fannie Mae and Freddie Mac monstrosities—were exposed as poorly run juggernauts, with top executives having embarrassingly little grasp of the chicanery and risk taking that was bolstering their bottom lines. Worst of all, damage from this economic chain reaction didn’t, of course, stop at the bank accounts of Saudi investors or American CEOS but led to soaring unemployment and federal debt, the acceleration of the home foreclosure epidemic, massive unemployment, and the wholesale destruction of pension plans and state education budgets.

Ten years after the New York Times editorial celebrating the deregulation that Dorgan opposed, a financial columnist for the paper would write in a terrific understatement, “Today, a few years earlier than he predicted, Dorgan looks prescient.” The near-collapse of Citigroup came nine years and six months after the Times editorial confidently assured America that “Citigroup threatens no one because it would not dominate banking, securities, insurance or any other financial market.” The federal government, later concluding that the merger celebrated by the Times had produced a true monster “too big to fail,” prevented its total collapse by pumping $50 billion directly into it, while also guaranteeing $300 billion of Citigroup’s “toxic assets.” Clearly, the merger of Citigroup had ended up a considerable threat to U.S. taxpayers and, indeed, to the entire world economy. Clinton was dispossessed of the wisdom to foresee this disastrous outcome of the bills he signed into law, or else he simply fell under the thrall of Wall Street hucksters—or both.

Among the few to sound the alarm, he raised his voice alongside that of Nader, pointing out that a major positive consequence of the New Deal regulations was that commercial banks had been prevented from gambling with depositors’ savings, which were insured by the Federal Deposit Insurance Corporation, created by Glass-Steagall. “No private enterprise should be allowed to think of itself as ‘too big to fail,’” wrote Safire in a foreshadowing of exactly what would ensue. Having the support of the FDIC—the federal government guaranteeing your accounts—had to come with restrictions, or it would be exploited, he argued. “Federal deposit insurance, protecting a bank’s depositors, should not become a subsidy protecting the risks taken by non-banking affiliates. If a huge ‘group’ runs into trouble, it should take the bank down with it; no taxpayer bailouts should allow executives or stockholders to relax.”

 

pages: 363 words: 107,817

Modernising Money: Why Our Monetary System Is Broken and How It Can Be Fixed by Andrew Jackson (economist), Ben Dyson (economist)

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bank run, banking crisis, banks create money, Basel III, Bretton Woods, call centre, capital controls, cashless society, central bank independence, credit crunch, David Graeber, debt deflation, double entry bookkeeping, eurozone crisis, financial innovation, Financial Instability Hypothesis, financial intermediation, floating exchange rates, Fractional reserve banking, full employment, Hyman Minsky, inflation targeting, informal economy, land reform, London Interbank Offered Rate, market bubble, market clearing, Martin Wolf, means of production, money: store of value / unit of account / medium of exchange, moral hazard, mortgage debt, Northern Rock, price stability, profit motive, quantitative easing, Real Time Gross Settlement, regulatory arbitrage, risk-adjusted returns, seigniorage, shareholder value, short selling, South Sea Bubble, The Great Moderation, the payments system, The Wealth of Nations by Adam Smith, too big to fail, total factor productivity, unorthodox policies

Whether this change in bank behaviour will actually happen is not guaranteed, but regardless, banks that become insolvent will be allowed to fail, rather than being rescued by the taxpayer. The ‘too big to fail’ subsidy is removed Since it is possible to allow banks to fail under the reformed system, the banking sector will lose its ‘too big to fail’ subsidy. This subsidy was partly a consequence of the implicit guarantee that the government would rescue any banks that failed, due to the fact that within the current system it is more expensive for the government to allow a bank to fail than to rescue it. The ‘too big to fail’ subsidy also arose as a direct result of deposit insurance. Deposit insurance effectively makes lending to a bank risk-free, lowering the interest rates that banks need to pay to depositors and on their other borrowings.

Table of Contents Acknowledgements A note for readers outside the UK Foreword Summary of Key Points INTRODUCTION The structure of this book A SHORT HISTORY OF MONEY 1.1 The origins of money A textbook history The historical reality 1.2 The emergence of banking THE CURRENT MONETARY SYSTEM 2.1 Commercial (high-street) banks The Bank of England 2.2 The business model of banking Understanding balance sheets Staying in business 2.3 Money creation Creating money by making loans to customers 2.4 Other functions of banking Making electronic payments between customers 2.5 Money destruction 2.6 Liquidity and central bank reserves How central bank reserves are created How commercial banks acquire central bank reserves 2.7 Money creation across the whole banking system The money multiplier model Endogenous money theory WHAT DETERMINES THE MONEY SUPPLY? 3.1 The demand for credit Borrowing due to insufficient wealth Borrowing for speculative reasons Borrowing due to legal incentives 3.2 The demand for money Conclusion: the demand for money & credit 3.3 Factors affecting banks’ lending decisions The drive to maximise profit Government guarantees & ‘too big to fail’ Externalities and competition 3.4 Factors limiting the creation of money Capital requirements (the Basel Accords) Reserve ratios & limiting the supply of central bank reserves Controlling money creation through interest rates Unused regulations 3.5 So what determines the money supply? Credit rationing So how much money has been created by banks? ECONOMIC CONSEQUENCES OF THE CURRENT SYSTEM 4.1 Economic effects of credit creation Werner’s Quantity Theory of Credit How asset price inflation fuels consumer price inflation 4.2 Financial instability and ‘boom & bust’ Minsky’s Financial Instability Hypothesis The bursting of the bubble 4.3 Evidence Financial crises Normal recessions 4.4 Other economic distortions due to the current banking system Problems with deposit insurance & underwriting banks Subsidising banks Distortions caused by the Basel Capital Accords SOCIAL AND ENVIRONMENTAL IMPACTS OF THE CURRENT MONETARY SYSTEM 5.1 Inequality 5.2 Private debt 5.3 Public debt, higher taxes & fewer public services 5.4 Environmental impacts Government responses to the boom bust cycle Funding businesses Forced growth 5.5 The monetary system and democracy Use of ‘our’ money The misconceptions around banking The power to shape the economy Dependency Confusing the benefits and costs of banking PREVENTING BANKS FROM CREATING MONEY 6.1 An overview 6.2 Current/Transaction Accounts and the payments system 6.3 Investment Accounts 6.4 Accounts at the Bank of England The relationship between Transaction Accounts and a bank’s Customer Funds Account 6.5 Post Reform Balance Sheets for Banks and the Bank of England Commercial banks Central bank Measuring the money supply 6.6 Making payments 1.

7.3 Accounting for money creation 7.4 The mechanics of creating new money 7.5 Spending new money into circulation Weighing up the options 7.6 Lending money into circulation to ensure adequate credit for businesses 7.7 Reducing the money supply MAKING THE TRANSITION An overview of the process 8.1 The overnight ‘switchover’ to the new system Step 1: Updating the Bank of England’s balance sheet Step 2: Converting the liabilities of banks into electronic state-issued money Step 3: The creation of the ‘Conversion Liability’ from banks to the Bank of England 8.2 Ensuring banks will be able to provide adequate credit immediately after the switchover Funds from customers Lending the money created through quantitative easing Providing funds to the banks via auctions 8.3 The longer-term transition Repayment of the Conversion Liability Allowing deleveraging by reducing household debt Forcing a deleveraging of the household sector UNDERSTANDING THE IMPACTS OF THE REFORMS 9.1 Differences between the current & reformed monetary systems 9.2 Effects of newly created money on inflation and output 9.3 Effects of lending pre-existing money via Investment Accounts Lending pre-existing money for productive purposes Lending pre-existing money for house purchases and unproductive purposes Lending pre-existing money for consumer spending 9.4 Limitations in predicting the effects on inflation and output 9.5 Possible financial instability in a reformed system A reduced possibility of asset price bubbles Central bank intervention in asset bubbles When an asset bubble bursts 9.6 Debt 9.7 Inequality 9.8 Environment 9.9 Democracy IMPACTS ON THE BANKING SECTOR 10.1 Impacts on commercial banks Banks will need to acquire funds before lending The impact on the availability of lending Banks will be allowed to fail The ‘too big to fail’ subsidy is removed The need for debt is reduced, shrinking the banking sector’s balance sheet Basel Capital Adequacy Ratios could be simplified Easier for banks to manage cashflow and liquidity Reducing the ‘liquidity gap’ 10.2 Impacts on the central bank Direct control of money supply No need to manipulate interest rates A slimmed down operation at the Bank of England 10.3 Impacts on the UK in an international context The UK as a safe haven for money Pound sterling would hold its value better than other currencies No implications for international currency exchange Would speculators attack the currency before the changeover?

 

pages: 424 words: 121,425

How the Other Half Banks: Exclusion, Exploitation, and the Threat to Democracy by Mehrsa Baradaran

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access to a mobile phone, affirmative action, asset-backed security, bank run, banking crisis, banks create money, barriers to entry, British Empire, call centre, Capital in the Twenty-First Century by Thomas Piketty, cashless society, credit crunch, David Graeber, disintermediation, diversification, failed state, fiat currency, financial innovation, financial intermediation, Goldman Sachs: Vampire Squid, housing crisis, income inequality, Internet Archive, invisible hand, Kickstarter, M-Pesa, McMansion, microcredit, mobile money, moral hazard, mortgage debt, new economy, Own Your Own Home, payday loans, peer-to-peer lending, price discrimination, profit maximization, profit motive, quantitative easing, race to the bottom, rent-seeking, Ronald Reagan, Ronald Reagan: Tear down this wall, savings glut, the built environment, the payments system, too big to fail, trade route, transaction costs, unbanked and underbanked, underbanked, union organizing, white flight, working poor

When most people discuss this trend of mergers and consolidations in the banking industry, they focus on the resulting Too-Big-to-Fail banks that have come to dominate the industry. But these banks were built using an already existing checkerboard of community banks across the country. Each bank that Bank of America purchased originally started as a small community bank before being turned into a megabank branch or closed in the name of efficiency and replaced by an ATM machine. Market forces have always applied to banks, but the tight-margin, high-stakes nationwide banking market is new. The full range of intensely competitive market forces have applied to banks to a much greater degree during the last thirty years—with the clear exception of the largest banks, which are too big to fail. Community banks’ struggles to stay profitable, however, emanate not only from market principles, but also, more recently, from regulatory pressure.

Robert Solomon, an advocate for the community banking model, summarized the story of ShoreBank’s rescue as such: “If the lesson is that we will use taxpayer funds as a last resort for necessary interventions for those banks whose failure places an untenable risk on the financial system, i.e. those too big to fail, then we are privileging those institutions at the expense of smaller banks. Once we accept that, we can take for granted that small banks are inefficient, have no special purpose, and will inevitably be absorbed into larger, more efficient banks.”24 Perhaps ShoreBank failed because of toxic politics and the federal government’s decision to favor Too-Big-to-Fail over “Too Good to Fail,” but the bank also failed because of unavoidable financial realities: its loans were concentrated in a struggling geographic area, which probably exposed it to more significant risk during the economic downturn.25 REVIVAL OF BANKS WITH A SOUL?

Under normal circumstances, I would have followed this course. But these are not normal circumstances.” And when it comes to these large banks, they rarely are “normal circumstances.”17 The truth is that even while the banking industry was rejecting any public duties, they were being supported by public funds. When commentators discuss this era of bank transformation, or deregulation, they tend to focus on the creation of Too-Big-to-Fail financial giants and their size, power, and riskiness. No less consequential, however, was the loss of banking services for average people. For much of U.S. history, the answer to banking for the poor—whether the rural farmer or the working-class city dweller—has been through local and community-controlled credit. Local banking institutions were supported by the government and enlisted to meet a clear-cut mission.

 

Global Financial Crisis by Noah Berlatsky

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accounting loophole / creative accounting, asset-backed security, banking crisis, Bretton Woods, capital controls, Celtic Tiger, centre right, collapse of Lehman Brothers, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, deindustrialization, Doha Development Round, energy security, eurozone crisis, financial innovation, Food sovereignty, George Akerlof, Gordon Gekko, housing crisis, illegal immigration, income inequality, market bubble, market fundamentalism, moral hazard, new economy, Northern Rock, purchasing power parity, quantitative easing, race to the bottom, regulatory arbitrage, reserve currency, Robert Shiller, Robert Shiller, Ronald Reagan, shareholder value, South China Sea, structural adjustment programs, too big to fail, trade liberalization, transfer pricing, working poor

In the past few weeks we have seen leading executives at Barclays awarding themselves millions while the bank ultimately remains dependent on government guarantees, despite its precarious independence. It is not surprising that executives of the seminationalised banks want to follow suit. What has brought the issue to a head is the judgement that the major UK-based banks are “too big to fail” and have to be rescued in a financial emergency. This concept is an economic and democratic outrage. Either they must be subject to tight state control or they should be broken up so that they are not “too big to fail”. The point has been grasped, improbably, by ministers in banker-friendly countries such as Switzerland, and by our own central bank’s governor. Yet ministers today seem no less terrified of confronting the banks than when Brown initially fled the battlefield a decade ago. 46 Causes of the Global Financial Crisis Change in UK Regulations Contributed to the Crisis In 1997 Mr.

“Boom Thinking” Caused the Crisis Robert J. Shiller 32 Boom thinking is a kind of social contagion; once a commodity starts rising in price, people convince themselves and then each other that the price will keep going up. This happened in the United States with home prices, which rose to unsustainable levels. 4. The Weakness of Banking Regulations Caused the Crisis Vince Cable Some British banks have grown too big to fail, and perhaps too big for regulators to handle. Yet they want freedom from regulation and freedom to persue high risk investments. But the British taxpayer should not be responsible for financial risks taken outside the nation’s borders. 42 5. Low Interest Rates Caused the Crisis Tito Boeri and Luigi Guiso 53 The housing crisis was fueled by the actions of the chairman of the Federal Reserve, Alan Greenspan, who kept interest rates low.

This text has been suppressed due to author restrictions. 37 The Global Financial Crisis This text has been suppressed due to author restrictions. 38 Causes of the Global Financial Crisis This text has been suppressed due to author restrictions. 39 The Global Financial Crisis This text has been suppressed due to author restrictions. 40 Causes of the Global Financial Crisis This text has been suppressed due to author restrictions. 41 4 Viewpoint The Weakness of Banking Regulations Caused the Crisis Vince Cable Vince Cable, economic spokesman for the Liberal Democrats, is the author of The Storm: The World Economic Crisis and What It Means. In the following viewpoint, Cable discusses various options that are available for fixing the banking industry in the United Kingdom (UK). Certain UK banks are considered “too big to fail” and they want to retain their investment banking wings, but these pose a great financial risk to the taxpayer; therefore, the author favors either tighter government regulation of them or less government protection for them. Cable suggests that lack of regulation as well as the inability of regulators to monitor financial activity effectively were failures of the banking system revealed by the financial crisis.

 

pages: 459 words: 103,153

Adapt: Why Success Always Starts With Failure by Tim Harford

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Andrew Wiles, banking crisis, Basel III, Berlin Wall, Bernie Madoff, Black Swan, car-free, carbon footprint, Cass Sunstein, charter city, Clayton Christensen, clean water, cloud computing, cognitive dissonance, complexity theory, corporate governance, correlation does not imply causation, credit crunch, Credit Default Swap, crowdsourcing, cuban missile crisis, Daniel Kahneman / Amos Tversky, Dava Sobel, Deep Water Horizon, Deng Xiaoping, double entry bookkeeping, Edmond Halley, en.wikipedia.org, Erik Brynjolfsson, experimental subject, Fall of the Berlin Wall, Fermat's Last Theorem, Firefox, food miles, Gerolamo Cardano, global supply chain, Isaac Newton, Jane Jacobs, Jarndyce and Jarndyce, Jarndyce and Jarndyce, John Harrison: Longitude, knowledge worker, loose coupling, Martin Wolf, Menlo Park, Mikhail Gorbachev, mutually assured destruction, Netflix Prize, New Urbanism, Nick Leeson, PageRank, Piper Alpha, profit motive, Richard Florida, Richard Thaler, rolodex, Shenzhen was a fishing village, Silicon Valley, Silicon Valley startup, South China Sea, special economic zone, spectrum auction, Steve Jobs, supply-chain management, the market place, The Wisdom of Crowds, too big to fail, trade route, Tyler Cowen: Great Stagnation, web application, X Prize

After those fateful few days in 2008 when the US government let Lehman Brothers fail and then propped up AIG, many people drew one of two contradictory conclusions: either AIG should have been treated like Lehman, or Lehman should have been treated like AIG. But the real lesson is that it should have been possible to let both Lehman and AIG collapse without systemic damage. Preventing banks from being ‘too big to fail’ is the right kind of sentiment but the wrong way of phrasing it, as the domino analogy shows: it would be absurd to describe a single domino as being too big to fail. What we need are safety gates in the system that ensure any falling domino cannot topple too many others. Above all, when we look at how future financial crises could be prevented, we need to bear in mind the two ingredients of a system that make inevitable failures more likely to be cataclysmic: complexity and tight coupling.

Kemeny, ‘President’s Commission: the need for change: the legacy of TMI’, October 1979, Overview, http://www.threemileisland.org/resource/item_detail.php?item_id=00000138 192 ‘When you look at the way the accident happened’: author interview with Philippe Jamet, 24 March 2010. 194 Turned back to concentrate on the Lehman Brothers problem: Andrew Ross Sorkin,Too Big to Fail (London: Allen Lane, 2009), pp. 235–7. 194 ‘Hold on, hold on’: Sorkin, Too Big to Fail, p. 372. 195 ‘We’re a million miles away from that at the moment’: Squam Lake Working Group on Financial Regulation, ‘A new information infrastructure for financial markets’, February 2009, http://www.cfr.org/publication/18568/new_information_infrastructure_for_financial_markets.html; and Andrew Haldane, ‘Rethinking the financial network’, speech given on 28 April 2009 to the Financial Student Association in Amsterdam, http://www.bankofengland.co.uk/publications/speeches/2009/speech386.pdf, and author interview with Andrew Haldane, August 2010. 196 And that man was Tony Lomas: for the account of Lehman’s bankruptcy in Europe, I have relied on the superb account by Jennifer Hughes, ‘Winding up Lehman Brothers’, FT Magazine,8 November 2008, http://www.ft.com/cms/s/2/e4223c20-aad1-11dd-897c-000077b07658.html 198 It had one million derivatives contracts open: Andrew Haldane, ‘The $100 billion question’, speech given at Institute of Regulation & Risk, Hong Kong, 30 March 2010, http://www.bankofengland.co.uk/publications/speeches/2010/speech433.pdf 199 The courts refused: Jane Croft, ‘Definition on Lehman client money sought’, Financial Times, 10 November 2009; and Anousha Sakoui & Jennifer Hughes, ‘Lehman creditors face long delays’, Financial Times, 14 September 2009. 199 It is quite possible that Lehman’s financial indicators: Henny Sender & Jeremy Lemer, ‘“epo 105” accounting in focus’, Financial Times, 12 March 2010, http://www.ft.com/cms/s/0/1be0aca2-2d79-11df-a262-00144feabdc0.html 199 About three years after the bankruptcy process began: Sakoui & Hughes, ‘Lehman creditors’. 200 Dominoes, unlike banks, are supposed to fall over: Andrew Haldane, ‘The $100 billion question’. 201 The job the poor bird had started: BBC News, ‘Sparrow death mars record attempt’, 19 November 2005, http://news.bbc.co.uk/1/hi/world/europe/4450958.stm; and embedded video at http://news.bbc.co.uk/player/nol/newsid_4450000/newsid_4452600/4452646.stm?

q=node/3264; Robert Hall & Susan Woodward, ‘The right way to create a good bank and a bad bank’, VoxEU, 24 February 2009; Tim Harford, ‘A capital idea to get the banks to start lending again’, FT Magazine, 4er, 09, http://timharford.com/2009/04/a-capital-idea-to-get-the-banks-to-start-lending-again/ 207 John Kay points out that in some ways it is less meddlesome: John Kay, ‘The reform of banking regulation’, 15 September 2009, http://www.johnkay.com/2009/09/15/narrow-banking/; and author interview, September 2010. 208 ‘We cannot contemplate keeping aircraft’: John Kay, ‘Why too big to fail is too much for us to take’, Financial Times, 27 May 2009, http://www.johnkay.com/2009/05/27/why-%E2%80%98too-big-to-fail%E2%80%99-is-too-much-for-us-to-take/ 208 This one cost £200 million: Leo Lewis, ‘Exchange chief resigns over “fat finger” error’, The Times, 21 December 2005, http://business.timesonline.co.uk/tol/business/markets/japan/article775136.ece 210 Includes all the famous scandals such as WorldCom: Alexander Dyck, Adair Morse & Luigi Zingales, ‘Who blows the whistle on corporate fraud?’

 

pages: 701 words: 199,010

The Crisis of Crowding: Quant Copycats, Ugly Models, and the New Crash Normal by Ludwig B. Chincarini

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affirmative action, asset-backed security, automated trading system, bank run, banking crisis, Basel III, Bernie Madoff, Black-Scholes formula, buttonwood tree, Carmen Reinhart, central bank independence, collapse of Lehman Brothers, collateralized debt obligation, collective bargaining, corporate governance, correlation coefficient, Credit Default Swap, credit default swaps / collateralized debt obligations, delta neutral, discounted cash flows, diversification, diversified portfolio, family office, financial innovation, financial intermediation, fixed income, Flash crash, full employment, Gini coefficient, high net worth, hindsight bias, housing crisis, implied volatility, income inequality, interest rate derivative, interest rate swap, labour mobility, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, low skilled workers, margin call, market design, market fundamentalism, merger arbitrage, Mexican peso crisis / tequila crisis, moral hazard, mortgage debt, Northern Rock, Occupy movement, oil shock, price stability, quantitative easing, quantitative hedge fund, quantitative trading / quantitative finance, Ralph Waldo Emerson, regulatory arbitrage, Renaissance Technologies, risk tolerance, risk-adjusted returns, Robert Shiller, Robert Shiller, Ronald Reagan, Sharpe ratio, short selling, sovereign wealth fund, speech recognition, statistical arbitrage, statistical model, systematic trading, The Great Moderation, too big to fail, transaction costs, value at risk, yield curve, zero-coupon bond

If that is the case, societies will ultimately have to make a choice on what is their desired tradeoff.3 In the 2008 crisis, the system's massive leverage was applied to a rather unproductive, conventional asset: housing. Housing was also immensely overvalued. When the bubble burst, it left no real growth behind and destroyed the illusion of progress. Systemic Risk and Too Big to Fail The issue of companies that are “too big to fail” has been brought up many times throughout history, including during the LTCM crisis. Larger firms might be harder to manage, less transparent, and treated differently than smaller firms on the assumption that they will be bailed out in case of trouble. If they fail, large firms cause equally large reverberations, because so many other market participants are connected to it.4 Firms can be too big to fail for many different reasons, including the amount of leverage they have, the interconnectedness of their space, and the web of financial system connections they provide.

Morgan and legal opinion on bankruptcy of leverage liquidity pool liquidity stress test results losses of market imbalances and moving business strategy profits of real estate exposure Repo repo imbalance and Reserve Primary Fund and run on Russian default and size of stock price storage business strategy swap imbalance and Lehman Brothers Bank Lenders: of last resort marking to market by mortgage, and housing bubble Lessons from financial crisis: arbitrage conflicts of interest counterparty interaction derivatives hedge funds interconnectedness and crowds leverage overview of policy lessons risk management systemic risk and “too big to fail,” Lessons from LTCM failure: compensation contingency capital counterparties and clearinghouses counterparty due diligence Fed as coordinator of last resort interconnected crowds leverage overview of quantitative theory regulation size of firms and “too big to fail,” spread the love VaR Leverage: capital ratio and dangers of of investment banks lessons from financial crisis at LTCM Leveraged bank loans Levitt, Arthur Lewis, Joe Lewis, Ken LIBOR (London Interbank Offer Rate) Liebowitz, Martin Liew, John Lim, Steven Liquidity, price of during crisis Liquidity risk Liquid securities London Interbank Offer Rate (LIBOR) Long swap spread trade Long-Term Capital Management (LTCM).

Mortgage Securities Hedged The Box Spread in Japan The Italian Swap Spread Fixed-Income Volatility Trades The On-the-Run and Off-the-Run Trade Short Longer-Term Equity Index Volatility Risk Arbitrage Trades Equity Relative-Value Trades Emerging Market Trades Other Trades The Portfolio of Trades Chapter 5: The Collapse The Collapse Early Summer 1998 The Salomon Shutdown The Russian Default The Phone Calls The Meriwether Letter Buffett’s Hostile Alaskan Offer The Consortium Bailout Too Big To Fail Why Did It Happen? Appendix 5.1 The John Meriwether Letter Appendix 5.2 The Warren Buffett Letter Chapter 6: The Fate of LTCM Investors The Fate of LTCM Investors Chapter 7: General Lessons from the Collapse Interconnected Crowds VaR Leverage Clearinghouses Compensation What’s Size Got to Do with It? Contingency Capital The Fed Is a Coordinator of Last Resort Counterparty Due Diligence Spread the Love Quantitative Theory Did Not Cause the LTCM Collapse Déjà Vu Part II: The Financial Crisis of 2008 Chapter 8: The Quant Crisis The Subprime Mortgage Market Collapse What Was the Quant Crisis?

 

pages: 320 words: 87,853

The Black Box Society: The Secret Algorithms That Control Money and Information by Frank Pasquale

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Affordable Care Act / Obamacare, algorithmic trading, Amazon Mechanical Turk, asset-backed security, Atul Gawande, bank run, barriers to entry, Berlin Wall, Bernie Madoff, Black Swan, bonus culture, Brian Krebs, call centre, Capital in the Twenty-First Century by Thomas Piketty, Chelsea Manning, cloud computing, collateralized debt obligation, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, crowdsourcing, cryptocurrency, Debian, don't be evil, Edward Snowden, en.wikipedia.org, Fall of the Berlin Wall, Filter Bubble, financial innovation, Flash crash, full employment, Goldman Sachs: Vampire Squid, Google Earth, Hernando de Soto, High speed trading, hiring and firing, housing crisis, informal economy, information retrieval, interest rate swap, Internet of things, invisible hand, Jaron Lanier, Jeff Bezos, job automation, Julian Assange, Kevin Kelly, knowledge worker, Kodak vs Instagram, kremlinology, late fees, London Interbank Offered Rate, London Whale, Mark Zuckerberg, mobile money, moral hazard, new economy, Nicholas Carr, offshore financial centre, PageRank, pattern recognition, precariat, profit maximization, profit motive, quantitative easing, race to the bottom, recommendation engine, regulatory arbitrage, risk-adjusted returns, search engine result page, shareholder value, Silicon Valley, Snapchat, Spread Networks laid a new fibre optics cable between New York and Chicago, statistical arbitrage, statistical model, Steven Levy, the scientific method, too big to fail, transaction costs, two-sided market, universal basic income, Upton Sinclair, value at risk, WikiLeaks

Experts at the commanding heights of business and government are in harmony, sharing a common vision. But, as Peter Boone and Simon Johnson have shown, the interconnections between the two can also erode confidence. Boone and Johnson foresee a “doom loop”: as financial institutions are increasingly treated as too big to fail, they are empowered to take greater and greater risks, which will inevitably lead to greater stresses on the governments that effectively sponsor them.146 These obligations foment worries about governments’ ability to support both too-big-to-fail banks and the tens of millions who depend on health and welfare benefits. Meanwhile, as interest rates on sovereign debt are suppressed to spark a recovery, investors feel compelled to flee to the finance sector to gain more than nominal returns. Finance’s black box is all the more appealing as ten-year Treasury bills flirt with rock bottom yields.147 The end result is a crippled state succoring a reckless finance sector prone to “martingale” strategies—the gambling term for a bettor who doubles down after each loss.

Google is also reported to have entered into deals with the NSA, but an effort by the Electronic Privacy Information Center (EPIC) to find out whether that was indeed the case was quashed by a federal 50 THE BLACK BOX SOCIETY judge.184 The NSA neither confirms nor denies working with Google to develop its intelligence operations, even after the spectacular revelations of Edward Snowden in 2013. Armies and spies have always relied on stealth; after all, loose lips sink ships. But secrecy also breeds conflicts of interest. Why should Google worry about potential antitrust violations if it’s monitoring Internet access side by side with the DHS and the NSA?185 Like the “too big to fail” banks, it may be “too important to surveillance” for the government to alienate the firm. In 2013, in fact, leaked documents showed that the NSA (or a British partner) targeted the official who was in charge of investigating Google’s alleged violations of EU competition law.186 As a growing literature suggests, privatization can be more than a transaction between government and business. It can be a marriage—a secret marriage—with a hidden economy of favors exchanged.187 Revolving-door issues loom especially large; government officials looking out for their futures may channel work to a company or industry they have their eyes on.188 Many security officials go on to lucrative private-sector employment soon after leaving public service.189 The manipulation of threat perception by the “homeland security-industrial complex” feeds corporate profits as well as government budgets.

They need a stronger voice in a regulatory process too often dominated by the few who profit from opacity. To be sure, there are many conscientious souls working on Wall Street. But their voices and values matter little if they can be summarily overruled by their bosses. The aftermath of the housing crisis has exposed a critical mass of unethical and hugely costly deals. It has created a presumption of suspicion for large firms—particularly those that now enjoy “too big to fail” status. Black box finance ranges from the crude to the cunning, the criminal to the merely complex. Countless narratives and analyses of the crisis have tried to pin down whether bankers, mortgage brokers, regulators, and insurers knew or should have known that the mortgage industrial complex was building a house of cards. Was the crash a result of fraud or mere incompetence? Regardless of how that debate plays out, all sides should agree on a deeper truth.

 

pages: 584 words: 187,436

More Money Than God: Hedge Funds and the Making of a New Elite by Sebastian Mallaby

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Andrei Shleifer, Asian financial crisis, asset-backed security, automated trading system, bank run, barriers to entry, Benoit Mandelbrot, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Bonfire of the Vanities, Bretton Woods, capital controls, Carmen Reinhart, collapse of Lehman Brothers, collateralized debt obligation, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, currency manipulation / currency intervention, currency peg, Elliott wave, Eugene Fama: efficient market hypothesis, failed state, Fall of the Berlin Wall, financial deregulation, financial innovation, financial intermediation, fixed income, full employment, German hyperinflation, High speed trading, index fund, Kenneth Rogoff, Long Term Capital Management, margin call, market bubble, market clearing, market fundamentalism, merger arbitrage, moral hazard, natural language processing, Network effects, new economy, Nikolai Kondratiev, pattern recognition, pre–internet, quantitative hedge fund, quantitative trading / quantitative finance, random walk, Renaissance Technologies, Richard Thaler, risk-adjusted returns, risk/return, rolodex, Sharpe ratio, short selling, Silicon Valley, South Sea Bubble, sovereign wealth fund, statistical arbitrage, statistical model, technology bubble, The Great Moderation, The Myth of the Rational Market, too big to fail, transaction costs

The Fed allowed this binge of borrowing because it was focused resolutely on consumer-price inflation, and because it believed it could ignore bubbles safely. The carnage of 2007–2009 demonstrated how wrong that was. Presented with an opportunity to borrow at near zero cost, people borrowed unsustainably. The crisis has also shown that financial firms are riddled with dysfunctional incentives. The clearest problem is “too big to fail”—Wall Street behemoths load up on risk because they expect taxpayers to bail them out, and other market players are happy to abet this recklessness because they also believe in the government backstop. But this too-big-to-fail problem exists primarily at institutions that the government has actually rescued: commercial banks such as Citigroup; former investment banks such as Goldman Sachs and Morgan Stanley; insurers such as AIG; the money-market funds that received an emergency government guarantee at the height of the crisis.

According to the International Monetary Fund, the cash infusions, debt guarantees, and other assistance provided to too-big-to-fail institutions in the big advanced economies came to a staggering $10 trillion, or $13,000 per citizen of those countries.3 The sums spent on rescuing well-heeled financiers damaged the legitimacy of the capitalist system. In December 2009, President Barack Obama said plaintively that he “did not run for office to be helping out a bunch of fat cat bankers.”4 But help them out is what he did, and populist anger at his openhanded policies is hardly surprising. Even more worryingly, neither Obama nor any other leader knows how to prevent too-big-to-fail institutions from fleecing the public all over again. The worst thing about the crisis is that it is likely to be repeated.

Put simply, government actions have decreased the cost of risk for too-big-to-fail players; the result will be more risk taking. The vicious cycle will go on until governments are bankrupt. There are two standard responses to this scary prospect. The first is to argue that governments should not bail out insurers, investment banks, money-market funds, and all the rest: If financiers were made to pay for their own risks, they would behave more prudently. For example, if investors had been forced to absorb the cost of the Bear Stearns bankruptcy in early 2008, rather than having the blow softened by a Fed-subsidized rescue, they might have prepared themselves better to absorb the costs of Lehman’s failure some months later. But this purported solution to the too-big-to-fail problem denies its existence: Precisely because some institutions are indeed too big to fail, they cannot be left to go under.

 

pages: 504 words: 143,303

Why We Can't Afford the Rich by Andrew Sayer

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accounting loophole / creative accounting, Albert Einstein, asset-backed security, banking crisis, banks create money, Bretton Woods, British Empire, call centre, capital controls, carbon footprint, collective bargaining, corporate social responsibility, credit crunch, Credit Default Swap, crony capitalism, David Graeber, David Ricardo: comparative advantage, debt deflation, decarbonisation, declining real wages, deglobalization, deindustrialization, delayed gratification, demand response, don't be evil, Double Irish / Dutch Sandwich, en.wikipedia.org, Etonian, financial innovation, financial intermediation, Fractional reserve banking, full employment, Goldman Sachs: Vampire Squid, high net worth, income inequality, investor state dispute settlement, Isaac Newton, James Dyson, job automation, Julian Assange, labour market flexibility, laissez-faire capitalism, low skilled workers, Mark Zuckerberg, market fundamentalism, Martin Wolf, means of production, moral hazard, mortgage debt, neoliberal agenda, new economy, New Urbanism, Northern Rock, Occupy movement, offshore financial centre, oil shale / tar sands, patent troll, payday loans, Plutocrats, plutocrats, predatory finance, price stability, pushing on a string, quantitative easing, race to the bottom, rent-seeking, Ronald Reagan, shareholder value, short selling, sovereign wealth fund, Steve Jobs, The Nature of the Firm, The Spirit Level, The Wealth of Nations by Adam Smith, Thorstein Veblen, too big to fail, transfer pricing, trickle-down economics, universal basic income, unpaid internship, upwardly mobile, Washington Consensus, Winter of Discontent, working poor, Yom Kippur War

Sixth, there’s a more technical point that’s become important in financialised economies: if the lender can sell on the debt as a security – a financial asset that promises to yield the buyer a flow of unearned income – to some other organisation, then the asymmetry in the distribution of risk is all the greater. Offloading the risk allows the lender to issue more credit and escape capital controls on the ratio of loans to cash reserves. Apologists call this managing or distributing risk, but all too often it has just encouraged more risky lending. More on this when we come to the financial crisis. Worst of all, when banks are deemed ‘too big to fail’, they have less reason to manage risk prudently, for they know that if they get into trouble they will be bailed out by taxpayers. The very fact that one group of people’s debts can be treated by another group as assets – as a reliable source of income – should give us pause. Finally, the risk defence tries to treat charging interest at rates related to risk purely as a matter of prudence.

As long as the value of financial assets was inflating, this was extraordinarily lucrative, particularly for those whose pay was tied to the profit made through bonuses or fixed shares of profits (‘the comp ratio’); no wonder they imagined they were masters of the universe. But, as leverage rose to over 1:30 in some banks, even a small percentage of failures in their ‘investments’ could land them in deep trouble. And it did, only they could rely on ‘socialism for bankers’ to rescue them: governments, recognising that the banks were too big to fail, or too interconnected to the rest of the economy, had guaranteed retail deposits.46 This of course means that taxpayers pick up the bill for protecting their own deposits and rescuing failing banks. So leverage was key to how the banks privatised the gains from using other people’s money to take risks and managed to socialise the losses, leaving ordinary taxpayers to pick up the bill. And it was the financial sector that ran up the biggest debts.

Actually though, as Ewald Engelen and associates show, contrary to the stories of risk dispersal, risk on derivatives was highly concentrated. In 2010, the notional value of derivatives held by commercial banks in the US was $212.8 trillion. ‘Of the 1,030 US commercial banks that submitted information on their derivatives exposure, the top five claimed 97% of this notional value.’51 In this situation, the risk ended up being held by taxpayers, because banks of this size were too big to fail and had to be bailed out. For all the hubris and macho talk about ‘risk management’ to be found on the websites of the financial sector and in the textbooks teaching its practices, prudence and long-term perspectives were dumped in favour of quick gains and offloaded risk. Deregulation allowed the buyers of the securities to use them as collateral for borrowing, so streams of interest payments on loans supposedly backed by collateral in the shape of houses were themselves used as collateral by holders of these asset-backed securities for borrowing.

 

pages: 455 words: 138,716

The Divide: American Injustice in the Age of the Wealth Gap by Matt Taibbi

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banking crisis, Bernie Madoff, butterfly effect, collapse of Lehman Brothers, collateralized debt obligation, Credit Default Swap, credit default swaps / collateralized debt obligations, Edward Snowden, ending welfare as we know it, forensic accounting, Gordon Gekko, greed is good, illegal immigration, information retrieval, London Interbank Offered Rate, London Whale, naked short selling, offshore financial centre, Ponzi scheme, profit motive, regulatory arbitrage, short selling, telemarketer, too big to fail, War on Poverty

Senate and trotted out Collateral Consequences formally, adding that the sheer size of the companies in this postcrisis, too-big-to-fail environment essentially tied his hands. Grassley told Holder he couldn’t recall any high-profile prosecutions that led to “any high-profile financial criminal convictions in either companies or individuals,” and he asked Holder to explain. Notably, Holder pulled out Collateral Consequences as an answer to this question about not just companies but individuals. “I am concerned that the size of some of these institutions becomes so large,” he said, “that it does become difficult for us to prosecute them.” Holder during this Senate hearing did not mention that he had come up with this idea fourteen years earlier, long before too-big-to-fail was even imaginable. He went on. The problem comes, he said, “when we are hit with indications that if you do prosecute, if you do bring a criminal charge, it will have a negative impact on the national economy, perhaps even the world economy.”

The second group is their employers, and they do have a lobby, but there’s a compromise in the works for them (more on that later). Everyone else—the politicians, the company itself, the towns that see new jobs for white folks—they all win. And someone else wins, too: Wall Street. Some of the biggest investors in private prison companies are, you guessed it, the too-big-to-fail banks. Wells Fargo, for instance, has nearly $100 million invested in the GEO Group, plus about $6 million in CCA. Bank of America, General Electric, Fidelity, and Vanguard are all major investors in at least one of the three big prison companies. And why not? Like too-big-to-fail banking itself, private prisons are an industry that depends not on the unpredictable economy but upon political connections. It’s the perfect kind of business in the oligarchical capitalism age, with guaranteed profits to provide a low-cost public insurance against the vagaries of the market.

After all, these companies had all been involved in countless scandals since the financial crisis of ’08, a disaster caused by an epidemic of criminal fraud that wiped out some 40 percent of the world’s wealth in less than a year, affecting nearly everyone in the industrialized world. If ever there was a wave of white-collar crime that cried out for a criminal trial, it was this period of fraud from the mid-2000s. And it would make sense that the defendants should come from one of these companies. In the years since the crash, all of them, and a half-dozen more too-big-to-fail megafirms just like them, had already paid hundreds of millions of dollars in civil settlements for virtually every kind of fraud and manipulation known to man. Moreover, District Attorney Vance had once seemingly had all these Wall Street firms in his sights. He’d sent subpoenas out to Goldman and other companies the previous year. So surely one of these banks in those big skyscrapers a few blocks south of here must be the one on trial.

 

pages: 358 words: 106,729

Fault Lines: How Hidden Fractures Still Threaten the World Economy by Raghuram Rajan

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accounting loophole / creative accounting, Andrei Shleifer, Asian financial crisis, asset-backed security, bank run, barriers to entry, Bernie Madoff, Bretton Woods, business climate, Clayton Christensen, clean water, collapse of Lehman Brothers, collateralized debt obligation, colonial rule, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, currency manipulation / currency intervention, diversification, Edward Glaeser, financial innovation, floating exchange rates, full employment, global supply chain, Goldman Sachs: Vampire Squid, illegal immigration, implied volatility, income inequality, index fund, interest rate swap, Joseph Schumpeter, Kenneth Rogoff, knowledge worker, labor-force participation, Long Term Capital Management, market bubble, Martin Wolf, medical malpractice, microcredit, moral hazard, new economy, Northern Rock, offshore financial centre, open economy, price stability, profit motive, Real Time Gross Settlement, Richard Florida, Richard Thaler, risk tolerance, Robert Shiller, Robert Shiller, Ronald Reagan, school vouchers, short selling, sovereign wealth fund, The Great Moderation, the payments system, The Wealth of Nations by Adam Smith, too big to fail, upwardly mobile, Vanguard fund, women in the workforce, World Values Survey

Rajan, “Why Bank Credit Policies Fluctuate: A Theory and Some Evidence,” Quarterly Journal of Economics 109, no. 2 (May 1994): 399–441. 14 Andrew Ross Sorkin, Too Big to Fail (New York: Viking, 2009), 145. 15 Michiyo Nakamoto and David Wighton, “Citigroup Chief Stays Bullish on Buyouts,” Financial Times, July 9, 2007. 16 Gillian Tett, Fool’s Gold (New York: Free Press, 2009), 144–45. 17 Ibid., 112–13. 18 I. Cheng, H. Hong, and J. Scheinkman, “Yesterday’s Heroes: Compensation and Creative Risk Taking,” working paper, Princeton University, 2009. 19 Steve Fishman, “Burning Down His House: Is Lehman CEO Dick Fuld the True Villain in the Wall Street Collapse?” New York magazine, November 30, 2008, nymag.com/news/business/52603/index3.html#ixzz0XFCXEyhZ. 20 Sorkin, Too Big to Fail, 273. 21 Andrea Beltratti and Rene Stulz, “Why Did Some Banks Perform Better during the Credit Crisis?

Finally, governments tend to be willing to go the extra mile to preserve existing jobs. A recent example of the differences may be useful.11 In early 2009, as a result of the financial panic and the associated difficulty in securing financing, car demand plummeted around the world. In both North America and Europe, politicians approved billions of dollars of aid to car manufacturers because they felt the millions of jobs tied to the industry made it too big to fail. In the United States, General Motors and Chrysler secured government funding on condition that they take drastic action to restructure their firms, close unviable plants, and sell unprofitable brands. After an initial restructuring plan was rejected by government overseers as too timid, the firms did indeed take drastic action, emerging from bankruptcy significantly shrunken. By contrast, in France, Peugeot and Renault received substantial amounts of government funds on condition that they close no plants and fire no workers over the term of the government loan!

Even as conspiracy theorists have a field day, painting everyone remotely associated with the financial system into a web of corruption, the damage to the public’s faith in the system of private enterprise is enormous: it senses two sets of rules, one for the systemically important and another for the rest of us. And the conspiracy theorists do have a point: the leeway afforded to the authorities in choosing who is too systemic to fail allows tremendous scope for discretion, and hence corruption. I have avoided referring to institutions as too big to fail. This is because there are entities that are very large but have transparent, simple structures that allow them to be closed down easily—for example, a firm running a family of regulated mutual funds. By contrast, some relatively small entities—examples include the monoline bond insurers who guaranteed municipal bonds, and Bear Stearns—caused substantial stress to build up through the system.

 

pages: 324 words: 92,805

The Impulse Society: America in the Age of Instant Gratification by Paul Roberts

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2013 Report for America's Infrastructure - American Society of Civil Engineers - 19 March 2013, 3D printing, accounting loophole / creative accounting, Affordable Care Act / Obamacare, American Society of Civil Engineers: Report Card, asset allocation, business process, Cass Sunstein, centre right, choice architecture, collateralized debt obligation, collective bargaining, corporate governance, corporate social responsibility, crony capitalism, David Brooks, delayed gratification, double helix, factory automation, financial deregulation, financial innovation, full employment, game design, greed is good, If something cannot go on forever, it will stop, impulse control, income inequality, inflation targeting, invisible hand, job automation, Joseph Schumpeter, knowledge worker, late fees, Long Term Capital Management, loss aversion, low skilled workers, new economy, Nicholas Carr, obamacare, Occupy movement, oil shale / tar sands, performance metric, postindustrial economy, profit maximization, Report Card for America’s Infrastructure, reshoring, Richard Thaler, rising living standards, Robert Shiller, Robert Shiller, Rodney Brooks, Ronald Reagan, shareholder value, Silicon Valley, speech recognition, Steve Jobs, technoutopianism, the built environment, The Predators' Ball, the scientific method, The Wealth of Nations by Adam Smith, Thorstein Veblen, too big to fail, total factor productivity, Tyler Cowen: Great Stagnation, Walter Mischel, winner-take-all economy

Consider: just twelve banks, including JPMorgan, Citicorp, and Goldman Sachs, control 69 percent of the entire U.S. banking industry15—a share so large that, no matter how egregious or reckless the banks’ behavior, the government can’t let them fail lest they take the rest of the economy down with them. Indeed, megabanks are not only too big to fail or regulate, but also too big for government even to prosecute for blatantly criminal activities. As U.S. attorney general Eric Holder admitted in congressional testimony in 2013, U.S. megabanks are so large that “if you do bring a criminal charge, it will have a negative impact on the national economy, perhaps even the world economy.”16 As the saying goes, megabanks are not only “too big to fail,” but “too big to jail.” For this reason, financial policy experts have long argued that the risks of a financialized economy won’t truly be curbed until so-called TBTF (“too big to fail”) banks have been broken up into smaller, more regulatable entities. And while such an extreme mea­sure may seem wildly improbable in the current partisan climate, the case can be made that this would be not only a politically feasible initiative, but precisely the sort of initiative that could clear a path through the political paralysis of Impulse politics.

Peter Beinart, “The Republicans’ Reagan Amnesia,” The Daily Beast, Feb. 1, 2010, http://www.thedailybeast.com/articles/2010/02/01/the-republicans-reagan-amnesia.html. 15. Richard W. Fisher, “Ending ‘Too Big to Fail.” 16. Evan Pérez, “First on CNN: Regulator Warned against JPMorgan Charges,” CNN, Jan. 9, 2014, http://www.cnn.com/2014/01/07/politics/jpmorgan-chase-regulators-prosecutors/. 17. Fisher, “Ending ‘Too Big to Fail.’ ” 18. George F. Will, “Time to Break Up the Big Banks,” Washington Post, Feb. 9, 2013, http://www.washingtonpost.com/opinions/george-will-break-up-the-big-banks/2013/02/08/2379498a-714e-11e2-8b8d-e0b59a1b8e2a_story.html. 19. Fisher, “Ending ‘Too Big to Fail.’ ” 20. Communication with author. 21. Liz Benjamin, “What Would Cuomo Do to Get Public Financing” Capital New York, Jan. 20, 2014, http://www.capitalnewyork.com/article/albany/2014/01/8539039/what-would-cuomo-do-get-public-financing. 22.

It was Bill Clinton’s treasury secretary, Robert Rubin, a former Goldman Sachs boss, who led the campaign to repeal the 1933 Glass-Steagall Act, which had prevented commercial banks from also playing the financial markets. Rubin also helped defeat efforts to regulate credit swaps and other financial derivatives. Both these deregulatory initiatives would open up huge new streams of revenues and profits for Wall Street—and a huge new source of campaign finance for Democrats. But both actions were also pivotal in the meltdown in 2007, when “too-big-to-fail” banks playing the markets lost hundreds of billions of dollars in unregulated derivatives and nearly destroyed the global financial system. But, if anything, the alliance between Democrats and Wall Street has remained strong. Although Barack Obama has pursued an unabashedly progressive agenda in many arenas, notably health care, his stance on finance has been largely old-school. After heavily criticizing Wall Street in the 2008 campaign, the new president was quick to establish ties to the financial sector by, among other things, appointing Rubin protégé Timothy Geithner as his own treasury secretary.

 

pages: 221 words: 55,901

The Globalization of Inequality by François Bourguignon

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Berlin Wall, Branko Milanovic, Capital in the Twenty-First Century by Thomas Piketty, collective bargaining, Credit Default Swap, deglobalization, deindustrialization, Doha Development Round, Edward Glaeser, European colonialism, Fall of the Berlin Wall, financial deregulation, financial intermediation, gender pay gap, Gini coefficient, income inequality, income per capita, labor-force participation, minimum wage unemployment, offshore financial centre, open economy, purchasing power parity, race to the bottom, Robert Gordon, Simon Kuznets, structural adjustment programs, The Spirit Level, too big to fail, very high income, Washington Consensus

From this perspective, it seems quite likely that the excessive remunerations offered by certain financial institutions are the result of the situational rents that they enjoy. In particular, returning to a strict separation between managing savings and offering loans to individuals or companies, and investing in financial markets,15 would allow us to cease being held hostage to these giant banks whose risky investments threaten individual savings as well as the financing of the economy. It is in part this idea that some banks are “too big to fail” that has allowed them to extract the rents that make possible the astronomical remuneration they offer a portion of their employees. More generI.e., re-­establishing some form of the Glass-­Steagall Act in the United States, which was abolished in 1999. 15  Policies for a Fairer Globalization 175 ally, any regulation that would lower the probability of systemic risk and by extension decrease the pressure that the large financial institutions are able to exert on elected officials would have the same effect.

Index 9/11 attacks, 139 Abacha, 151 Abu Dhabi, 127 Africa: Economic Partnership Agreements (EPAs) and, 156; evolution of inequality and, 46t, 54–55; fairer globalization and, 147, 151, 154–56, 179, 183; global inequality and, 16, 21, 23, 30–31, 34, 36; globalization and, 122–23, 126–27; population growth and, 183; rise in inequality and, 90, 109, 111–12, 185 African Growth Opportunity Act (AGOA), 155 agriculture, 12, 82, 84, 122–23, 127–28, 155 AIDS, 156 Alesina, Alberto, 134 Anand, Sudhir, 13n4 Argentina, 46t, 110, 172 artists, 86–87 Asian dragons, 34, 82 Bangladesh, 30, 46t, 54 Belgium, 46t, 53, 101–2, 169 Berlin Wall, 91 Big Bang, 95 Bolivia, 16, 24 Bolsa Familia, 166 bonuses, 87, 174 Bottom Billion, The (Collier), 23 Brazil, 110, 186; evolution of inequality and, 46t, 55, 59, 70; fairer globalization and, 150, 154, 166–68, 173; Gini coeffi- cient of, 22; global inequality and, 21–23; globalization and, 127, 133 Buffett, Warren, 5–6, 159–60 Cameroon, 46t, 54 Canada, 46t, 51f capital: developed/developing countries and, 5; evolution of inequality and, 55–58, 60, 73; fairer globalization and, 158–62, 167, 171, 175, 182; GDP measurement and, 13–15, 20–21, 23, 26, 27f, 29–30, 39, 41–45, 56–57, 94, 123, 127, 165–66, 176; globalization and, 117, 125–26, 132, 137; human, 74, 167, 175; labor and, 3–4, 55– 58, 60, 158, 161n7, 185; liberalization and, 96; mobility of, 3, 73–74, 93, 98–99, 115, 160, 162, 182, 185; rise in inequality and, 74, 76–80, 84–85, 89, 93, 95–99, 103, 109, 114–15; taxes and, 187, 189 (see also taxes) Card, David, 105–6 Caruso, Enrico, 86 Checchi, Daniele, 107 China: evolution of inequality and, 47, 53, 57–60; fairer globalization and, 150, 154, 165–66, 172, 178; geographical disequilibria and, 83; global inequality and, 16; globalization and, 120– 22, 128; Huajian and, 155; Human Development Report and, 25; international trade and, 75; Kuznets hypothesis and, 192 China (cont.) 113; protectionism and, 178; Revolution of, 26; rise in inequality and, 2, 11n2, 17, 25, 30, 36, 38, 46t, 75, 82–83, 112–13; standard of living and, 16, 120– 22; taxes and, 165 Cold War, 149, 153 Collier, Paul, 23 Colombia, 133 commodity prices, 147, 182 competition: Asian dragons and, 34, 82; deindustrialization and, 75–82; effect of new players and, 75–76; emerging economies and, 178, 187–88; fairer globalization and, 155, 169, 173, 176–79, 182; globalization and, 117–18, 130; markets and, 76– 77, 79–82, 84, 86, 94–98, 102, 104, 115–18, 130, 155, 169, 173, 176–79, 182, 186–88; offshoring and, 81–82; rents and, 102; rise in inequality and, 76– 77, 79–82, 84, 86, 94–96, 98, 102, 104, 115–16; Southern perspective on, 82–85; United Kingdom and, 78–79; United States and, 78–79; wage ladder effects and, 78–79 conditional cash transfers, 165–66 consumers: fairer globalization and, 177–78; spending of, 10, 12–13, 61; subsidies and, 109–10 consumption: evolution of inequality and, 42t, 44t; expenditure per capita and, 13, 15, 42t, 44t; fairer globalization and, 159, 177; globalization and, 137–39; growth and, 13–15, 42t, 44t, 80, 137–39, 159, 177; protection- Index ism and, 7, 147, 154, 157, 176– 79; rise in inequality and, 80 convergence: evolution of inequality and, 65, 69; fairer globalization and, 146–47, 157; globalization and, 120–22, 125; growth and, 16; income and, 16; poverty reduction and, 147–48; standard of living and, 7, 147–48 credit: default swaps and, 139; evolution of inequality and, 61; fairer globalization and, 164–65, 172, 180; globalization and, 131–32, 137–40; rise in inequality and, 96; taxes and, 164 credit cards, 165 criminal activity, 133–34, 152 crises: evolution of inequality and, 48, 50, 54, 57, 73–74; fairer globalization and, 163, 176; Glass-­ Steagall Act and, 174n15; global inequality and, 20, 38–41; globalization and, 119–22, 125, 135–39, 142; recent, 48, 110, 135, 142, 163, 188; rise in inequality and, 92, 94, 96, 99, 109–11; “too big to fail” concept and, 174–75 Current Population Survey, 21 debit cards, 165 deindustrialization, 1, 102, 188; effects on developed countries, 75–82; exports and, 76, 82; globalization and, 120; international trade and, 75–76, 78–79; manufacturing and, 75–82, 84, 123; North vs. South and, 77; offshoring and, 81–82; single market and, 76; wage ladder effects and, 78–79 Index193 Dell, Michael, 70–71 Democratic Republic of Congo, 127 democratic societies, 135–36 Denmark, 46t, 51f, 108 deregulation: disinflation and, 95, 102, 110; efficiency and, 94, 96, 105, 108; fairer globalization and, 173; globalization of finance and, 95–99; institutions and, 91–112; Kuznets hypothesis and, 113; labor market and, 99–109; liberalization and, 96– 99, 108–10, 112; privatization and, 94–112; Reagan and, 91; rise in inequality and, 76, 83, 91, 94–116; Thatcher and, 91; United Kingdom and, 91, 94, 97n14; United States and, 91, 94–95, 97–98, 102–8 developed countries: deindustrialization and, 75–82; evolution of inequality and, 47, 52–53, 56, 59–64, 66; fairer globalization and, 150, 154–57, 160, 162, 164, 168–72, 176, 178–79, 181; global inequality and, 10–11, 21, 34–39; globalization effects on, 75–82, 117, 119, 121, 127n4, 128, 133, 143; rise in inequality and, 7, 75–86, 92–93, 96, 99–100, 102, 105, 107–9, 113, 115, 186, 188–89 developing countries: aid to, 148– 53, 157; effect of new players, 75–76; evolution of inequality and, 47, 53–55, 57, 63, 68; fairer globalization and, 154, 166; global inequality and, 10–11, 13, 21, 32, 34–39; globalization and, 121, 127n4, 128, 132, 143; Millennium Development Goals and, 149–50, 185; rise in inequality and, 76, 79, 82–85, 90, 186; Southern perspective on, 82–85.

See also emerging economies development aid, 148–53, 157 development gap, 34–35, 83 Di Bao program, 166 discrimination: ghettos and, 66– 67; immigrants and, 64, 66, 127; labor and, 64–66, 69, 132, 142, 180–81; non-­material inequalites and, 64–66, 69; racial, 65; women and, 64–65, 103 disinflation, 95, 102, 110 distribution, 10n1, 186; capital-­ labor split and, 55–58, 60; efficiency and, 142–45; evolution of inequality and, 41, 42t, 44t, 45, 46t, 48–59, 64, 71–72; fairer globalization and, 148, 153, 156–73, 175, 178; geographical disequilibria and, 83; Gini coefficient and, 18 (see also Gini coefficient); global, 18–19, 25, 29, 39, 41, 46t, 121, 124–38, 141– 45, 156; growth and, 49–50, 188; international, 17–18, 30, 148; median of, 31; OECD countries and, 10–11, 12n3; policy and, 26, 72, 135, 188; range of, 16; real earnings loss and, 78; redistribution and, 4, 7, 37 (see also redistribution); rise in inequality and, 74, 77–79, 82, 85, 90–92, 94–96, 99, 103–4, 106–7, 112, 114–15; Southern perspective on, 82–85; standard of living and, 16, 18 (see also standard of living); taxes and, 37, 92–94 (see also taxes); Theil coefficient and, 18–19, 37–38, 194 distribution (cont.) 52; transfers and, 4, 14, 48, 105, 110, 130, 135–36, 142, 148, 153, 158–67, 170, 175, 181, 183, 187; wage, 3, 78–79, 107 Divided We Stand report, 52 Doha negotiations, 154 drugs, 66, 133 Dubai, 127 Economic Partnership Agreements (EPAs), 156 education, 34, 187; college, 132; evolution of inequality and, 61, 65–68; fairer globalization and, 149, 152, 167–73, 180–81; globalization and, 132, 140, 143; labor and, 168, 180; Millennium Development Goals and, 149– 50; national inequality and, 167–73; poverty and, 24; preschool, 169–70; redistribution and, 149, 152, 167–73; rise in inequality and, 111; taxes and, 167–73; tuition and, 170 efficiency: data transfer technology and, 78; deregulation and, 94, 96, 105, 108; economic, 1, 4, 6, 111, 116, 119, 129–33, 135, 140–45, 158, 164, 167, 171, 181; emerging economies and, 78; equality and, 116, 129–31; fairness and, 8, 129– 31; globalization and, 1, 4, 6, 8, 36, 78, 94, 96, 105, 108, 111, 116, 118–19, 129–35, 140–45, 157–58, 164, 167, 170–71, 175, 180–81, 188; human capital and, 175; import substitution and, 34, 180; inefficiency and, 105, 129–30, 132–33, 135, 140, 170–71, 180, 188; labor Index and, 175; loss of, 142, 164; opportunity and, 142–45; Pareto, 130n5; privatization and, 94, 96, 105, 108; redistribution and, 142–45; rents and, 180; social tensions and, 188; spontaneous redistribution and, 133; taxes and, 170; technology and, 78; weak institutions and, 36; wealth of nations and, 1 elitism, 182; fairer globalization and, 151, 165; globalization and, 127n4, 136, 138; rise in inequality and, 4, 6–7 emerging economies: Africa and, 122–23 (see also Africa); competition and, 178, 187–88; conditional cash transfers and, 165– 66; credit cards and, 165; domestic markets and, 120, 125; efficient data transfer and, 78; evolution of inequality and, 57; fairer globalization and, 147, 154, 158, 165–66, 177–78, 182; global inequality and, 40, 77– 80, 82, 109, 113, 115, 188–89; globalization and, 117, 119–22, 125–27; institutions and, 109– 12; Kuznets curve and, 113; labor and, 77; natural resources and, 127; profits and, 117; rise in inequality and, 109–12; structural adjustment and, 109– 12; taxes and, 165; trends in, 57; Washington consensus and, 109–10, 153 entrepreneurs, 83, 92, 96, 131–32, 135, 143, 170–71, 188 equality: efficiency and, 116, 129– 31; policy for, 184–89; relative gap and, 18, 28, 30, 31–32, 36 Ethiopia, 21–22, 46t, 155 Index195 European Union (EU), 24, 156, 174, 177 Everything But Arms (EBA) initiative, 155 evolution of inequality: Africa and, 46t, 54–55; Brazil and, 46t, 55, 59, 70; capital and, 55–58, 60, 73; China and, 47, 53, 57–60; consumption and, 42t, 44t; convergence and, 65, 69; credit and, 61; crises and, 48, 50, 54, 57, 73–74; developed countries and, 47, 52–53, 56, 59–64, 66; developing countries and, 47, 53–55, 57, 63, 68; distribution and, 41, 42t, 44t, 45, 46t, 48–59, 64, 71– 72; education and, 61, 65–68; elitism and, 4, 6–7, 46t; emerging economies and, 57; exceptions and, 52–53; France and, 46t, 51f, 52–53, 55, 58, 59n8, 62–63, 66, 70–71; ghettos and, 66–67; Gini coefficient and, 39, 42t, 44t, 48, 50, 51f, 53, 58–59; Great Depression and, 48; growth and, 33, 49–50, 54; India and, 54, 57, 59–60; institutions and, 55, 69; investment and, 56; labor and, 55–58, 60; markets and, 48–50, 53–54, 64, 69; national income inequality and, 48–52; non-­monetary inequalities and, 49, 60–70; normalization and, 41, 43–44; opportunity and, 61–62, 68, 70–71; perceptions of inequality and, 69–73; policy and, 55, 72; primary income and, 48–50, 58; production and, 57; productivity and, 63; profit and, 56; reform and, 54, 72; rise in inequality in, 48–52, 73, 77–80, 91–95, 97–98, 102–8; risk and, 63, 66; standard of living and, 41, 43– 45, 46t, 53–55, 58, 60–62, 67, 69, 73; surveys and, 42t, 43–45, 56, 68n17, 69–71; taxes and, 12–14, 37, 48, 50, 56n5; Theil coefficient and, 42; United Kingdom and, 46t, 50, 51f, 59, 67, 68n17; United States and, 2, 4–6, 9, 11, 21, 33, 46t, 47–50, 51f, 58, 59n9, 66–70, 73; wealth and, 58–60 executives, 73, 88–89, 97, 174 expenditure per capita, 13, 15, 42t, 44t exports: deindustrialization and, 76, 82; fairer globalization and, 147, 154–55, 176, 178; globalization and, 124, 128; rise in inequality and, 76, 82–84 fairer globalization: Africa and, 147, 151, 154–56, 179, 183; African Growth Opportunity Act (AGOA) and, 155; Bolsa Familia and, 166; Brazil and, 150, 154, 166–68, 173; capital and, 158–62, 167, 171, 175, 182; China and, 150, 154, 165–66, 172, 178; competition and, 155, 169, 173, 176–79, 182; consumers and, 177–78; consumption and, 159, 177; convergence and, 146–47, 157; correcting national inequalities and, 158–80; credit and, 164–65, 172, 180; crises and, 163, 176; deregulation and, 173; developed countries and, 150, 154–57, 160, 162, 164, 168–72, 176, 178–79, 181; developing countries and, 154, 166; development aid and, 196 fairer globalization (cont.) 148–53, 157; Di Bao program and, 166; distribution and, 148, 153, 156–73, 175, 178; Economic Partnership Agreements (EPAs) and, 156; education and, 149, 152, 167–73; 180–81; elitism and, 151, 165; emerging economies and, 147, 154, 158, 165–66, 177–78, 182; Everything But Arms (EBA) initiative and, 155; exports and, 147, 154–55, 176, 178; France and, 147, 159–61, 164, 169, 175, 177; Gini coefficient and, 156, 166; goods and services sector and, 180; growth and, 147–52, 155, 162, 167–68, 171, 177, 180, 183; health issues and, 152, 166; imports and, 154, 177–78, 180; India and, 150, 154, 165– 66, 172; inheritance and, 170– 73; institutions and, 151, 168, 174–75; international trade and, 176–77; investment and, 150, 155, 157, 160, 170, 174, 179; liberalization and, 156, 179; markets and, 147–48, 154–58, 168, 173–75, 178–81; Millennium Development Goals and, 149–50; national inequality and, 147, 158; opportunity and, 155, 167, 170, 172; policy and, 147–53, 157, 167–73, 175, 177, 179–83; poverty and, 147–52, 164, 166, 175; prices and, 147– 48, 176, 178, 182; primary income and, 158, 163n10, 167, 173; production and, 155–57, 167, 176, 178–79; productivity and, 155, 177–78; profit and, 173, 176; Progresa program and, Index 166; protectionism and, 7, 147, 154, 157, 176–79; redistribution and, 148, 153, 156–73, 175, 178; reform and, 151, 161, 163, 168–69; regulation and, 152, 173–76, 181–82; risk and, 148, 154, 156, 159, 164, 171, 174–75, 178; standard of living and, 146–48, 154, 156–58, 160, 165, 168–69; surveys and, 169; taxes and, 148, 158–73, 175, 181–83; technology and, 156, 173; TRIPS and, 156; United Kingdom and, 163, 169; United States and, 155, 159–61, 163– 64, 169, 174–75, 182; wealth and, 162, 164, 167, 170–73 Fitoussi, Jean-­Paul, 14 France: evolution of inequality and, 46t, 51f, 52–53, 55, 58, 59n8, 62–63, 66, 70–71; fairer globalization and, 147, 159–61, 164, 169, 175, 177; Gini coefficient of, 20; global inequality and, 2, 9, 11, 20–21; offshoring and, 81; rise in inequality and, 80, 88, 92–93, 95, 97, 99, 103; soccer and, 87; wage deductions and, 159 G7 countries, 56 G20 countries, 182 Garcia-­Panalosa, Cecilia, 107 Gates, Bill, 5–6, 70, 150 Germany, 2, 21, 46t, 50, 51f, 80, 88, 92 Ghana, 46t, 54 ghettos, 66–67 Giertz, Seth, 160–61 Gini coefficient: Brazil and, 22; Current Population Survey and, 21; evolution of inequality and, Index197 39, 42t, 44t, 48, 50, 51f, 53, 58– 59; fairer globalization and, 156, 166; France and, 20; historical perspective on, 27–28; meaning of, 18–19; purchasing power parity and, 28; rise in inequality and, 110; United States and, 21; wealth inequality and, 58–60 Glass-­Steagall Act, 174n15 global distribution, 18–19, 25, 29, 39, 41, 46t, 121, 156 global inequality: Africa and, 16, 21, 23, 30–31, 34, 36; between countries, 2–3, 5, 7, 9, 16–19, 23, 33, 36, 38–39, 42–45, 47, 53, 58, 68, 90–91, 107, 117–19, 123, 128, 153; Brazil and, 21– 23; crises and, 20, 38–41; cross-­ country heterogeneity and, 13; definition of, 3–4, 9–10, 25–26, 30–32, 39; developed countries and, 10–11, 21, 34–39; developing countries and, 10–11, 13, 21, 32, 34–39; effects of, 38–40; emerging economies and, 40, 77–80, 82, 109, 113, 115, 188– 89; at the end of the 2000s, 20– 25; evolution of inequality and, 41 (see also evolution of inequality); expenditure per capita and, 13, 15, 42t, 44t; France and, 2, 9, 11, 20–21; globalization and, 117–18, 121–23, 128; great gap and, 33–36; historic turning point for, 25–32; Human Development Report and, 25; institutions and, 36; measuring, 10– 20; Millennium Development Goals and, 149–50, 185; normalization and, 13, 15, 22–23, 26, 29; OECD Database on Household Income Distribution and Poverty and, 11–12; policy and, 185–89; Povcal database and, 10, 12, 42t, 43, 44t; prices and, 27–28, 74, 80, 84, 91–92, 94, 97, 110; profit and, 13; reduction of, 2, 185–86; relative gap and, 18, 28, 30–32, 36; rise of, 2–4, 7; risk and, 20; standard of living and, 10–26, 29, 31–33, 36, 39; surveys on, 10, 12–15, 20n10, 21–22, 29, 42t, 43–45; technology and, 3–4, 34–35; trend reversal in, 37–38; within countries, 2, 5–7, 9, 16, 30, 33, 35–45, 47, 113–14, 118, 124– 29, 184–85, 189 globalization: Africa and, 122–23, 126–27; Asian dragons and, 34, 82; Brazil and, 127, 133; capital and, 117, 125–26, 132, 137; China and, 120–22, 128; competition and, 117–18, 130, 186 (see also competition); as complex historical phenomenon, 1–2; consumption and, 137–39; convergence and, 120–22, 125; credit and, 131–32, 137–40; crises and, 119–22, 125, 135–39, 142; debate over, 1; deindustrialization in developed countries and, 75–82; democratic societies and, 135–36; deregulation and, 95–99; developed countries and, 117, 119, 121, 127n4, 128, 133, 143; developing countries and, 121, 127n4, 128, 132, 143; education and, 132, 140, 143; efficiency and, 1, 4, 6, 8, 36, 78, 94, 96, 105, 108, 111, 116, 118–19, 129–35, 140–45, 157–58, 164, 167, 170–71, 175, 180–81, 188; elitism and, 127n4, 136, 138; 198 globalization (cont.) emerging economies and, 117, 119–22, 125–27; exports and, 124, 128; fairer, 146–83 (see also fairer globalization); future of inequality between countries and, 119–22; global inequality and, 117–18, 121–23, 128; goods and services sector and, 127, 130; growth and, 118–29, 134–39; health issues and, 140– 41, 144; Heckscher-­Ohlin model and, 76; imports and, 119, 124; inequality within countries and, 124–29; inheritance and, 144–45; institutions and, 124; as instrument for modernization, 1; international trade and, 3, 75–76, 78–79, 83, 112, 114, 176–77; investment and, 119, 130, 134–35, 143; laissez-­faire approach and, 118, 129; markets and, 118, 120–21, 124–37, 140, 143–44; as moral threat, 1; national inequality and, 119; negative consequences of inequality and, 131–42; opportunity and, 133–34, 139, 142–44; as panacea, 1; policy and, 118–19, 124, 126, 128–31, 139, 143–44; poverty and, 117, 123, 126–27, 134, 144; prices and, 118, 122, 126, 136–38; primary income and, 135, 143–44; production and, 119, 124, 126, 129, 131, 133, 137; productivity and, 120, 125, 127, 144; profit and, 117; redistribution and, 121, 124–38, 141–45; reform and, 124, 126–27, 138; regulation and, 136; rise in inequality and, 117–18; risk and, 127–28, Index 137–39, 144; shocks and, 38, 55, 91–92, 175; Southern perspective on, 82–85; standard of living and, 120–23, 126, 138, 143; surveys and, 127n4, 141n15; taxes and, 74, 89n10, 91–94, 104, 114–15, 129–30, 135–36, 142–45; technology and, 86–91, 118–20, 125; trends and, 118; United States and, 135–39; wealth and, 74, 95, 98, 125, 127, 129, 131–32, 139, 143–45 Great Depression, 48 Greece, 46t, 135 gross domestic product (GDP) measurement: Current Population Survey and, 21; evolution of inequality and, 41–45, 56–57; fairer globalization and, 123, 127, 165–66, 176; global inequality and, 13–15, 20–21, 23, 26, 27f, 29–30, 39; normalization and, 29, 41, 43–45; rise in inequality and, 94; Sen-­Stiglitz-­ Fitoussi report and, 14 Gross National Income (GNI), 148–49 Growing Unequal report, 52 growth, 4; African Growth Opportunity Act (AGOA) and, 155; constraints and, 35; consumption and, 13–15, 42t, 44t, 80, 137–39, 159, 177; convergence and, 16; determinants of, 34; distribution and, 49–50, 188; emerging economies and, 125 (see also emerging economies); evolution of inequality and, 33, 49–50, 54; fairer globalization and, 147–52, 155, 162, 167–68, 171, 177, 180, 183; GDP mea- Index199 surement of, 30, 39 (see also gross domestic product (GDP) measurement); globalization and, 118–29, 134–39; great gap in, 33–36; import substitution and, 34, 180; inflation and, 50, 95, 102, 110; negative, 31; political reversals and, 36; poverty and, 28–29; production and, 3, 34–35, 57, 74, 76–81, 84–86, 119, 124, 126, 129, 131, 133, 137, 155–57, 167, 176, 178–79; rate of, 15, 29–35, 79, 125, 185; recession and, 6, 31, 99, 120; relative gap and, 18, 20, 30–32, 36; rise in inequality and, 75, 79, 82, 84, 109–12; trends in, 40, 121 health issues, 24, 187; fairer globalization and, 152, 166; globalization and, 140–41, 144; public healthcare and, 37, 111, 140 Heckscher-­Ohlin model, 76 Hong Kong, 34, 82, 174 housing, 12, 61, 137 human capital, 74, 167, 175 Human Development Report, 25 Ibrahimovich, Zlata, 87 IKEA, 172 immigrants, 64, 66, 127 imports: fairer globalization and, 154, 177–78, 180; globalization and, 119, 124; import substitution and, 34, 180; rise in inequality and, 80 income: average, 9, 18, 21, 29–30, 43, 72; bonuses and, 87, 174; convergence and, 16; currency conversion and, 11; definition of, 45; deindustrialization and, 75–82; developed/developing countries and, 5, 36; disposable, 20, 22, 24, 48, 50, 51f, 74, 91, 163; distribution of, 3 (see also distribution); executives and, 73, 88–89, 97, 174; family, 10; financial operators and, 87–88, 90–91; gap in, 3, 5–6, 27f, 33– 36, 42t, 44t, 149; GDP measurement and, 13–15, 20–21, 23, 26, 27f, 29–30, 39, 41–45, 56–57, 94, 123, 127, 165–66, 176; high, 50, 52, 56, 85–93, 97–99, 140, 143, 158–62, 164, 189; household, 10–12, 43, 45, 50, 58, 105, 107, 137, 163, 177; inequality in, 2, 4, 41, 48–50, 56–64, 68, 70, 72–73, 83, 98, 102–3, 107–8, 114, 125, 132– 34, 137, 140–41, 143–44, 163; inflation and, 50, 95, 102, 110; international scale for, 17–18, 23, 30; lawyers and, 89–90; mean, 17, 20n10, 27f, 42t, 44t; median, 6, 49, 71, 102–3, 106; minimum wage and, 52–53, 100, 102–8, 175, 177; national, 7, 16–19, 30, 43, 48–52, 60, 73, 84n6, 125, 149, 153, 172; OECD Database on Household Income Distribution and Poverty and, 11; opportunity and, 5; payroll and, 53, 93, 100, 104, 107, 175; pension systems and, 167; per capita, 20, 25, 29–30, 42t, 45, 48, 55–56, 120; portfolios and, 88; poverty and, 1, 11, 15n6, 19–20, 22–25, 28–29, 32, 44t, 109, 117, 123, 126–27, 134, 144, 147–52, 164, 166, 175; primary, 48–50, 58, 135, 143–44, 158, 163n10, 167, 173; 200 income (cont.) purchasing power and, 11, 13, 19–24, 27f, 28, 50, 80, 144, 158, 178; real earnings loss and, 78; relative gap and, 18, 28, 30, 31– 32, 36; superstars and, 85–87, 89–90; taxes and, 37, 89n10, 92–93, 145, 159, 161–65, 170 (see also taxes); technology and, 34, 180; virtual, 12; wage inequality and, 51–53, 79, 101–3, 106, 108; wage ladder effects and, 78–79; wealth inequality and, 58–60; women and, 64– 65, 103 India: evolution of inequality and, 54, 57, 59–60; fairer globalization and, 150, 154, 165– 66, 172; household consumption and, 15; international trade and, 75; Kuznets hypothesis and, 113; rise in inequality and, 2, 15–16, 19, 30, 34, 46t, 75, 83, 90, 112–13; taxes and, 165 Indonesia, 30, 46t, 54, 111, 127 industrialization: deindustrialization and, 1, 75–82, 102, 120, 188; labor and, 1, 26, 29, 33, 35, 54, 82, 84, 102, 113, 120, 127, 179, 188 Industrial Revolution, 26, 29, 33, 35 inequality: between countries, 2–3, 5, 7, 9, 16–19, 23, 33, 36, 38– 39, 42–45, 47, 53, 58, 68, 90– 91, 107, 117–19, 123, 128, 153; efficiency and, 1, 4, 6, 8, 36, 78, 94, 96, 105, 108, 111, 116, 118– 19, 129–35, 140–45, 157–58, 164, 167, 170–71, 175, 180–81, 188; Gini coefficient and, 18 (see Index also Gini coefficient); income, 2, 4, 41, 48–50, 56–64, 68, 70, 72–73, 83, 98, 102–3, 107–8, 114, 125, 132–34, 137, 140–41, 143–44, 163; international, 17; inverted U curve and, 54, 113; measurement of, 18; negative consequences of, 131–42; non-­ monetary, 49, 60–70; perceptions of, 69–73; social tensions and, 188; standard of living and, 18 (see also standard of living); Theil coefficient and, 18–19, 37–38, 42; wealth, 58–60; within countries, 2, 5–7, 9, 16, 30, 33, 37–45, 47, 113–14, 118, 124–29, 184–85, 189 infant mortality, 150 inflation, 50, 95, 102, 110 inheritance: fairer globalization and, 170–73; globalization and, 144–45; rise in inequality and, 93 institutions: deregulation and, 91– 112 (see also deregulation); disinflation and, 95, 102, 110; emerging economies and, 109– 12; evolution of inequality and, 55, 69; fairer globalization and, 151, 168, 174–75; global inequality and, 36; globalization and, 124; markets and, 91–92; privatization and, 94–109; reform and, 91–112; rise in inequality and, 91–112, 114; structural adjustment and, 109– 12; taxes and, 92–94; “too big to fail” concept and, 174–75; Washington consensus and, 109–10, 153 International Development Association, 149 Index201 international income scale, 17–18, 23, 30 International Labor Organization, 51 International Monetary Fund (IMF), 54, 57, 84, 90, 109–10 international trade: capital mobility and, 74; China and, 75; de­ industrialization and, 75–76, 78–79; effect of new players, 75–76; Heckscher-­Ohlin model and, 76; India and, 75; offshoring and, 81–82; rise in inequality and, 75–76, 78–79, 83, 112, 114; Soviet Union and, 75; theory of, 76; wage ladder effects and, 78–79 inverted U curve, 54, 113 investment: direct, 76, 79; evolution of inequality and, 56; fairer globalization and, 150, 155, 157, 160, 170, 174, 179; foreign, 83, 85, 112, 155, 157, 160, 179; globalization and, 119, 130, 134– 35, 143; production and, 119; public services and, 143; re-­ investment and, 56; rise in inequality and, 76, 79, 82–83, 85, 92, 97–98, 112; taxes and, 92 Ivory Coast, 54 Japan, 34, 46t, 51f, 103 job training, 34, 181, 187 Kenya, 46t, 54 kidnapping, 133 Kuznets, Simon, 113, 126 labor: agriculture and, 12, 82, 84, 122–23, 127–28, 132, 155; artists and, 86–87; bonuses and, 87, 174; capital and, 3–4, 55– 58, 60, 158, 161n7, 185; capital mobility and, 3; cheap, 77, 117; costs of, 81, 100, 104–5, 117, 176, 187; decline in share of national income and, 73; deindustrialization and, 75–82; demand for, 168; deregulation and, 99– 109; discrimination and, 64–66, 69, 132, 142, 180–81; distribution of income and, 175 (see also distribution); education and, 168, 180; efficiency and, 96–97, 175; emerging economies and, 77; entrepreneurs and, 83, 92, 96, 131–32, 135, 143, 170–71, 188; evolution of inequality and, 55–58, 60; excess, 81, 83; executives and, 73, 88–89, 97, 174; goods and services sector and, 13, 73, 80, 85, 91, 102, 127, 130, 180; growth and, 154, 179; immigrant, 64, 66, 127; increased mobility and, 90–91; industrialization and, 1, 26, 29, 33, 35, 54, 80, 82, 84, 102, 113, 120, 127, 179, 188; inflation and, 50, 95, 102, 110; International Labor Organization and, 51; job training and, 34, 181, 187; manufacturing and, 57, 80–82, 84, 123, 154–55, 157; median wage and, 49, 71, 102– 3, 106; minimum wage and, 52– 53, 100, 102–8, 175, 177; mobility of, 185; offshoring and, 81–82; payroll and, 53, 93, 100, 104, 107, 175; pension systems and, 167; portfolios and, 88; poverty and, 1, 11, 15n6, 19– 20, 22–25, 28–29, 32, 44t, 109, 117, 123, 126–27, 134, 144, 147–52, 164, 166, 175; 202 labor (cont.) privatization and, 99–109; productivity and, 63, 79, 81–82, 89, 100, 102, 104, 114, 120, 125, 127, 144, 155, 177–78; protectionism and, 7, 147, 154, 157, 176–79; real earnings loss and, 78; reserve, 84; security and, 133; skilled, 76–78, 82–83, 86, 90, 114, 117, 126, 176; standard of living and, 69 (see also standard of living); superstars and, 85, 87, 89–90; supply of, 130– 31, 164; taxes and, 159–60, 171; technology and, 85–91 (see also technology); unemployment and, 37, 39, 53, 62–63, 66, 69, 77, 94, 100–108, 164, 175–76; unions and, 100–106, 108, 156, 179; unskilled, 3, 76–77, 79, 83, 105, 117, 154; wage inequality and, 51–53, 79, 101–3, 106, 108; wage ladder effects and, 78–79; women and, 64–65, 103, 114; writers and, 86–87 Lady Gaga, 5–6 laissez-­faire approach, 118, 129 Latin America, 9, 34, 36, 54–55, 58, 109–11, 155, 165–66, 168, 180 lawyers, 89–90 liberalization: capital and, 96; customs, 156; deregulation and, 96–99, 108–9, 112 (see also deregulation); fairer globalization and, 156, 179; mobility of capital and, 115; policy effects of, 97–99; Reagan administration and, 91; recession and, 6, 31, 99, 120; rise in inequality and, 76, 91, 93, 96–99, 108–9, 112, 115; tax rates and, 93 Luxembourg, 16, 19 Index Madonna, 71 Malaysia, 127 manufacturing: deindustrialization and, 75–82, 84, 123; emerging economies and, 57, 84; fairer globalization and, 154–55, 157; France and, 81; offshoring and, 81–82; United Kingdom and, 80; United States and, 80 markets: competition and, 76–77, 79–82, 84, 86, 94–98, 102, 104, 115–18, 130, 155, 169, 173, 176–79, 182, 186–88; credit, 131; deindustrialization and, 1, 75–82, 102, 120, 188; deregulation and, 91–92, 99–109 (see also deregulation); development gap and, 34–35, 83; Economic Partnership Agreements (EPAs) and, 156; effect of new players, 75–76; emerging economies and, 120 (see also emerging economies); entrepreneurs and, 83, 92, 96, 131–32, 135, 143, 170–71, 188; evolution of inequality and, 48–50, 53–54, 64, 69; exports and, 76, 82–84, 124, 128, 147, 154–55, 176, 178; fairer globalization and, 147–48, 154–58, 168, 173–75, 178–81; GDP measurement and, 13–15, 20–21, 23, 26, 27f, 29–30, 39, 41–45, 56–57, 94, 123, 127, 165–66, 176; globalization and, 35, 118, 120–21, 124–37, 140, 143–44; Heckscher-­Ohlin model and, 76; housing, 12, 61, 137; imports and, 1, 34, 80, 119, 124, 154, 177–78, 180; institutions and, 91–112; international trade and, 3, 75–76, 78–79, 83, 112, 114, 176–77; labor and, Index203 144 (see also labor); liberalization and, 112 (see also liberalization); monopolies and, 94, 111, 127, 136; offshoring and, 81– 82; protectionism and, 7, 147, 154, 157, 176–79; purchasing power and, 11, 13, 19–24, 27f, 28, 50, 80, 144, 158, 178; reform and, 54 (see also reform); regulation and, 74 (see also regulation); rise in inequality and, 74, 76– 79, 83, 86, 90–112, 114; shocks and, 38, 55, 91–92, 175; single market and, 76; South-­South exchange and, 35; TRIPS and, 156 median wage, 49, 71, 102–3, 106 Mexico, 46t, 57, 59, 109–10, 133, 166, 172 middle class, 51, 71, 93, 109, 133– 34, 136, 140 Milanovic, Branko, 4–5, 17n8, 29n16 Millennium Development Goals, 149–50, 185 minerals, 84, 127 minimum wage, 52–53, 100, 102– 8, 175, 177 monopolies, 94, 111, 127, 136 Morocco, 173 Morrisson, Christian, 28 movies, 87 Murtin, Fabrice, 28 national inequality, 2–4; correcting, 158–80; education and, 167–73; fairer globalization and, 147, 158; Gini coefficient and, 27 (see also Gini coefficient); globalization and, 119; market regulation and, 173–75; protectionism and, 147, 157, 176–79; redistribution and, 158–73, 175, 178; rise in, 6, 48– 52, 115, 204; taxes and, 158–73, 175, 181–83 natural resources, 84–85, 92, 122, 126–28, 127, 151 Netherlands, 46t, 50, 66, 70, 102 Nigeria, 9, 46t, 54, 127, 151 non-­monetary inequalities: access and, 61, 67–68; capability and, 61; differences in environment and, 66–68; discrimination and, 64–66, 69; employment precariousness and, 63–64; evolution of inequality and, 49, 60–70; intergenerational mobility and, 68; opportunities and, 49, 60– 70; social justice and, 60, 70; unemployment and, 62–63 normalization: evolution of inequality and, 41, 43–44; GDP measurement and, 29, 41, 43– 45; global inequality and, 13, 15, 22–23, 26, 29 Occupy Wall Street movement, 6, 135 OECD countries, 27t; evolution of inequality and, 42t, 43, 44t, 50– 52, 64, 65n13; fairer globalization and, 149, 159, 162, 164– 65; Gini coefficient and, 51; income distribution and, 51; relaxation of regulation and, 99; restrictive, 64; rise in inequality and, 50–51, 94, 99, 102, 106n18, 107; social programs and, 94; standard of living and, 11–12, 43, 50–52, 64, 94, 99, 102, 107, 120, 149, 159, 162, 164–65; U-­shaped curve on income and, 50 OECD Database on Household 204 Income Distribution and Poverty, 11–12 offshoring, 81–82 oil, 92, 127 opportunity, 5; African Growth Opportunity Act (AGOA) and, 155; as capability, 61; efficiency and, 142–45; evolution of inequality and, 61–62, 68, 70–71; fairer globalization and, 155, 167, 170, 172; globalization and, 133–34, 139, 142–44; redistribution and, 142–45; rise in inequality and, 102 Pakistan, 46t, 111 Pareto efficiency, 130n5 Pavarotti, Luciano, 86–87 payroll, 53, 93, 100, 104, 107, 175 Pearson Commission, 149 pension systems, 167 Perotti, Roberto, 134 Philippines, 46t, 111 Pickett, Kate, 140 Piketty, Thomas, 4, 48, 59n8, 60, 89n10, 125, 160n4 PISA survey, 169–70 policy, 4; adjustment, 109, 153; Cold War and, 149, 153; convergence and, 147–48; development aid and, 148–53; distributive, 26, 72, 135, 188; educational, 149, 152, 167–73; evolution of inequality and, 55, 72; fairer globalization and, 147–53, 157–58, 167–73, 175–83; Glass-­Steagall Act and, 174n15; global inequality and, 185–89; globalization and, 118–19, 124, 126, 128–31, 139, 143–44; globalizing equality and, 184–89; import substi- Index tution and, 34; Millennium Development Goals and, 149– 50, 185; poverty reduction and, 147–48; protectionist, 7, 99– 100, 107–8, 147, 154, 157, 176–79; reform and, 74 (see also reform); rise in inequality and, 34, 74–75, 85, 94, 97, 99– 100, 104, 106–11, 114–16; social, 7; standard of living and, 147–48 population growth, 28–29, 110, 183 portfolios, 88 Povcal database, 10, 12, 42t, 43, 44t poverty, 1, 44t, 109; Collier on, 23; convergence and, 147–48; criminal activity and, 133–34; definition of, 24; development aid and, 147–52; fairer globalization and, 147–52, 164, 166, 175; ghettos and, 66–67; global inequality and, 11, 15n6, 19–20, 22–25, 28–29, 32; globalization and, 117, 123, 126–27, 134, 144; growth and, 28–29; measurement of, 23–24; Millennium Development Goals and, 149– 50, 185; OECD Database on Household Income Distribution and Poverty and, 11–12; reduction policies for, 147–48; traps of, 144, 150, 164 prices: commodity, 84, 182; exports and, 178; factor, 74, 126; fairer globalization and, 147–48, 176, 178, 182; global inequality and, 27–28, 74, 80, 84, 91–92, 94, 97, 110; globalization and, 118, 122, 126, 136–38; imports and, 80; international compari- Index205 sons of, 11; lower, 94, 137; oil, 92; rise in inequality and, 74, 80, 84, 91–92, 94, 97, 110; rising, 110, 122, 178; shocks and, 38, 55, 91–92, 175; statistics on, 11, 27; subsidies and, 109–10, 175 primary income: evolution of inequality and, 48–50, 58; fairer globalization and, 158, 163n10, 167, 173; globalization and, 135, 143–44 privatization: deregulation and, 94–112; efficiency and, 94, 96, 105, 108; globalization of finance and, 95–99; institutions and, 94–109; labor market and, 99–109; reform and, 94–109; telecommunications and, 111 production: deindustrialization and, 75–82; evolution of inequality and, 57; fairer globalization and, 155–57, 167, 176, 178–79; globalization and, 119, 124, 126, 129, 131, 133, 137; growth and, 3, 34–35, 57, 74, 76–81, 84–86, 119, 124, 126, 129, 131, 133, 137, 155–57, 167, 176, 178–79; material investment and, 119; North vs.

 

pages: 413 words: 117,782

What Happened to Goldman Sachs: An Insider's Story of Organizational Drift and Its Unintended Consequences by Steven G. Mandis

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algorithmic trading, Berlin Wall, bonus culture, BRICs, business process, collapse of Lehman Brothers, collateralized debt obligation, complexity theory, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, disintermediation, diversification, Emanuel Derman, financial innovation, fixed income, friendly fire, Goldman Sachs: Vampire Squid, high net worth, housing crisis, London Whale, Long Term Capital Management, merger arbitrage, new economy, passive investing, performance metric, risk tolerance, Ronald Reagan, Saturday Night Live, shareholder value, short selling, sovereign wealth fund, The Nature of the Firm, too big to fail, value at risk

Ellis (The Partnership—The Making of Goldman Sachs [New York: Penguin, 2008], 667) wrote that all could be lost—in fact, that all “would be lost if the firm squandered its reputation or failed to anticipate, understand, and manage the potential conflicts or failed to excel in its important agency business.” 19. A. R. Sorkin, Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System from Crisis—and Themselves (New York: Viking, 2009). 20. Ibid. 21. The business standards committee investigation and report are discussed in detail in chapter 8 as one of the outcomes of Goldman’s experience during the credit crisis. 22. See, for example, Sorkin (Too Big to Fail) and W. D. Cohan, “Goldman’s Double Game,” Businessweek, March 14, 2012, http://www.businessweek.com/articles/2012-03-14/goldmans-double-game. 23. Ellis, The Partnership, 668–669. 24. A. D. Frank, “Goldman Boss Lloyd Blankfein’s Testimony Bolsters Case Against Rajat Gupta,” Daily Beast, June 5, 2012, http://www.thedailybeast.com/articles/2012/06/05/goldman-boss-lloyd-blankfein-s-testimony-bolsters-case-against-rajat-gupta.html. 25.

This was highly valued by clients and a key distinguishing factor in hiring Goldman. In addition, Goldman focused more on coinvesting with clients. A coinvestment relationship was seen to have many advantages, including establishment of a closer relationship than did a merely advisory one. The industry consolidation brought about in part by the changes to Glass–Steagall resulted in fewer but much larger banks—banks that many would later argue were “too big to fail,” so large that their failure was deemed a risk to the stability of the entire banking system. Another result was that the pace at which these companies now had to grow in order to stay competitive challenged their organizational cultures. Companies growing via acquisition have significant cultural and integration challenges. Pressures Intensify Following consolidation, the financial services industry became intensely competitive, and Goldman now faced competition for scarce resources not only from other banks but also from insurance companies, investment advisers, mutual funds, hedge funds, and private equity firms.46 To gain market share, commercial banks aggressively offered highly competitive pricing for services, resulting in additional pressures for Goldman.

Thornton co-founds Goldman’s European M & A business in London (O). 1984: Continental Illinois National Bank and Trust becomes the largest-ever bank failure in US history. Continental was at one time the seventh-largest bank in the United States as measured by deposits, with approximately $40 billion in assets. Because of the size of Continental Illinois, regulators are not willing to let it fail (R). The term “too big to fail” becomes popularized. 1985: Bear Stearns goes public (C). Whitehead leaves Goldman after thirty-eight years and later becomes deputy secretary of state to George Schultz, serving until 1989 (O). Steve Friedman, a former M&A banker, and Bob Rubin, a former equities proprietary trader, co-head Goldman’s fixed income division (O). 1986: Goldman’s capital has grown to $1 billion, almost entirely through retained earnings.

 

Investment: A History by Norton Reamer, Jesse Downing

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Albert Einstein, algorithmic trading, asset allocation, backtesting, banking crisis, Berlin Wall, Bernie Madoff, Brownian motion, buttonwood tree, California gold rush, capital asset pricing model, Carmen Reinhart, carried interest, colonial rule, credit crunch, Credit Default Swap, Daniel Kahneman / Amos Tversky, debt deflation, discounted cash flows, diversified portfolio, equity premium, estate planning, Eugene Fama: efficient market hypothesis, Fall of the Berlin Wall, family office, Fellow of the Royal Society, financial innovation, fixed income, Gordon Gekko, Henri Poincaré, high net worth, index fund, interest rate swap, invention of the telegraph, James Hargreaves, James Watt: steam engine, joint-stock company, Kenneth Rogoff, labor-force participation, land tenure, London Interbank Offered Rate, Long Term Capital Management, loss aversion, Louis Bachelier, margin call, means of production, Menlo Park, merger arbitrage, moral hazard, mortgage debt, Network effects, new economy, Nick Leeson, Own Your Own Home, pension reform, Ponzi scheme, price mechanism, principal–agent problem, profit maximization, quantitative easing, RAND corporation, random walk, Renaissance Technologies, Richard Thaler, risk tolerance, risk-adjusted returns, risk/return, Robert Shiller, Robert Shiller, Sand Hill Road, Sharpe ratio, short selling, Silicon Valley, South Sea Bubble, sovereign wealth fund, spinning jenny, statistical arbitrage, technology bubble, The Wealth of Nations by Adam Smith, time value of money, too big to fail, transaction costs, underbanked, Vanguard fund, working poor, yield curve

In the end, though, it was quite different than the fiscal experience during the Great Depression because the issue was not the inadequacy of the development of fiscal tools but, rather, the lack of will of the political apparatus to stimulate more to facilitate faster growth (and reduced unemployment). the regulatory response The regulatory experience in the wake of the Great Recession has been rather different than that following the Great Depression. The ultimate effect of the bank bailouts during the Great Recession has been to introduce an essential and oft-discussed question: have banks become too big to fail? The concept of too big to fail is problematic for two reasons. The first is that if true, moral hazard may arise whereby exceptionally large institutions take on more risk than is prudent, thinking there will be a bailout in case the risk taking results in outsized losses. In particular, has the offering of bank bailouts to exceptionally large institutions altered their behavior in a way that has created moral hazard?

This issue has been discussed by some officials, including the former head of the FDIC, Sheila Bair, who stated, “‘Too big to fail’ has become worse. It’s become explicit when it was implicit before. It creates competitive disparities between large and small institutions, because everybody knows small institutions can fail. So it’s more expensive for them to raise capital and secure funding.”43 Indeed, by studying the effect of government guarantees on the cost of borrowing of large banks by looking at the credit default swap market before and during the Great Recession, academics at Oxford’s Saïd Business School have found some evidence for the reduction in borrowing costs.44 The concept of too big to fail has been correctly understood to be a destructive force by many. There has been some progress toward mitigating the issue with the Wall Street Reform and Consumer Protection Act, more commonly referred to as Dodd-Frank.

No. 111-203, 124 Stat. 1376–2223, “Title I: Financial Stability,” http:// www.law.cornell.edu/wex/dodd-frank; US Department of the Treasury, “Financial Stability Oversight Council: Who Is on the Council?,” accessed January 2015, http://www.treasury.gov/initiatives/fsoc/about /council/Pages/default.aspx. Board of Governors of the Federal Reserve System, “Press Release,” October 23, 2014, http://www.federalreserve.gov/newsevents/press /bcreg/20141023a.htm. Simon Johnson, “Sadly, Too Big to Fail Is Not Over,” Economix (blog), New York Times, August 1, 2013, http://economix.blogs.nytimes .com/2013/08/01/sadly-too-big-to-fail-is-not-over. James B. Stewart, “Volcker Rule, Once Simple, Now Boggles,” New York Times, October 21, 2011, http://www.nytimes.com/2011/10/22 /business/volcker-rule-grows-from-simple-to-complex.html. Ibid.; Dan Kedmey, “2 Years and 900 Pages Later, the Volcker Rule Gets the Green Light,” TIME.com, December 11, 2013, http://business.time .com/2013/12/11/2-years-and-900-pages-later-the-volcker-rule-gets -the-green-light.

 

pages: 350 words: 103,270

The Devil's Derivatives: The Untold Story of the Slick Traders and Hapless Regulators Who Almost Blew Up Wall Street . . . And Are Ready to Do It Again by Nicholas Dunbar

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asset-backed security, bank run, banking crisis, Basel III, Black Swan, Black-Scholes formula, bonus culture, capital asset pricing model, Carmen Reinhart, Cass Sunstein, collateralized debt obligation, Credit Default Swap, credit default swaps / collateralized debt obligations, delayed gratification, diversification, Edmond Halley, facts on the ground, financial innovation, fixed income, George Akerlof, implied volatility, index fund, interest rate derivative, interest rate swap, Isaac Newton, Kenneth Rogoff, Long Term Capital Management, margin call, market bubble, Nick Leeson, Northern Rock, offshore financial centre, price mechanism, regulatory arbitrage, rent-seeking, Richard Thaler, risk tolerance, risk/return, Ronald Reagan, shareholder value, short selling, statistical model, The Chicago School, time value of money, too big to fail, transaction costs, value at risk, Vanguard fund, yield curve

Morgan and other big commercial banks had also been in the dark about trading derivatives, but they got over those qualms and poured money into this new market. In March 1994, rumors were circulating that Corrigan’s nightmare was about to become reality. Bankers Trust had supposedly been wiped out by the rise in federal funds rates, and its stock would be suspended. In a phrase that Corrigan had recently invented, Bankers Trust was “too big to fail”—the Fed would have to bail it out. Peter Fisher, one of the few New York Fed staffers who knew about the new derivatives markets, called up Steve Thieke, a former New York Fed colleague who now worked at J.P. Morgan. Hearing the worry in his voice, Thieke let Fisher in on the secret. He and a handful of executives at Bankers Trust and Citibank had decided to look at the problem scientifically.

Treasury and New York Fed were desperate to avoid having AIG be forced to sell its distressed mortgage bonds at a loss, so they pumped in another $50 billion of government bailout money. By this time, even Goldman was looking for shelter from this raging storm. Toward the end of the month, Goldman Sachs and Morgan Stanley got new equity investments and became bank holding companies. Making the Fed the primary regulator and taking the SEC out of the picture, the switch formalized their status as banks that were, in the cruelly paradoxical phrase of that season, “too big to fail.” A month later, the New York Fed created a pair of financial androids. Maiden Lane II would buy the distressed mortgage bonds from AIG’s securities lending program. Maiden Lane III would do what Goldman’s Dan Sparks had suggested nine months earlier: buy the underlying CDOs behind the AIGFP deals and tear up the default swap contracts with the two dozen or so counterparty banks. Leading negotiations on the New York Fed’s behalf was the same bank examiner whose deference toward Wall Street had been noted by fellow regulators a few years earlier, Sarah Dahlgren.

Sigma, the last independent “shadow bank,” went bankrupt on October 2, killed by a J.P. Morgan margin call.31 On October 3, Congress passed a revised TARP bill that made $700 billion of taxpayer funds available to prop up the system and permitted the government to directly invest in troubled banks. The contagion had spread worldwide. On October 6, Wells Fargo scooped up troubled Wachovia while Germany, Belgium, and Holland announced bailouts for some of the “too big to fail” banks (including the pioneering CDO investor LB Kiel, by now part of a larger institution called HSH Nordbank). On October 8, the Federal Reserve and international central banks imposed coordinated emergency interest rate cuts, hoping to restart the frozen interbank lending markets. The next day, Iceland’s biggest banks collapsed and were nationalized. October 12 saw Britain’s Lloyds Banking Group (which had just taken over the insolvent Halifax Bank of Scotland) and Royal Bank of Scotland receiving an emergency bailout from the U.K. government, and RBS CEO Sir Fred Goodwin was fired.

 

pages: 309 words: 95,495

Foolproof: Why Safety Can Be Dangerous and How Danger Makes Us Safe by Greg Ip

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Affordable Care Act / Obamacare, Air France Flight 447, air freight, airport security, Asian financial crisis, asset-backed security, bank run, banking crisis, Bretton Woods, capital controls, central bank independence, cloud computing, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, Daniel Kahneman / Amos Tversky, diversified portfolio, double helix, endowment effect, Exxon Valdez, financial deregulation, financial innovation, Financial Instability Hypothesis, floating exchange rates, full employment, global supply chain, hindsight bias, Hyman Minsky, Joseph Schumpeter, Kenneth Rogoff, London Whale, Long Term Capital Management, market bubble, moral hazard, Network effects, new economy, offshore financial centre, paradox of thrift, pets.com, Ponzi scheme, quantitative easing, Ralph Nader, Richard Thaler, risk tolerance, Ronald Reagan, savings glut, technology bubble, The Great Moderation, too big to fail, transaction costs, union organizing, Unsafe at Any Speed, value at risk

Letting Lehman go bankrupt would be a “mess on every level, but fixes the moral hazard problem.” Bernanke and Hank Paulson, the Treasury secretary who would have had to sign off on a bailout, felt similarly. Certainly, the “too big to fail” label should never have been allowed to take root; it was an implicit taxpayer subsidy to big firms and their executives that put smaller firms at a disadvantage. But once the status had been accorded, its abrupt withdrawal triggered panic. The failure of Lehman shattered assumptions about the safety of all the major financial institutions. If Lehman wasn’t too big to fail, nobody was: not Goldman Sachs, Morgan Stanley, Citigroup, or any other institution. The second assumption that had been allowed to take root was that money market funds were basically the same as bank deposits.

Two years after the Deauville Declaration, the European Central Bank sought to undo its damage when its president, Mario Draghi, promised to do “whatever it takes” to save the euro. This meant that if a private saver wouldn’t buy Italy’s or Spain’s bonds, the ECB would. Much as the Federal Reserve responded to its Lehman moment by treating the big banks as too big to fail, the ECB responded to its own by declaring sovereign governments too big to fail. This proved remarkably successful: at the time of this writing, in early 2015, the ECB has yet to invoke this emergency authority to buy a single bond, and interest rates on southern governments’ bonds have fallen substantially, although not to northern levels. Savers’ precious sense of safety has—for now, at least—been restored. But the damage has been done.

So Volcker did more than just lend to Continental; he urged the Federal Deposit Insurance Corporation to protect deposits beyond the $100,000 cap. When other banks could not be persuaded to take over the slowly capsizing bank, the FDIC did, becoming its largest shareholder—an unfamiliar role for an agency whose main job was to regulate and when necessary close banks, not run them. The rescue of Continental prompted a congressman to observe that a new class of banks now existed: “too big to fail.” The crises didn’t end with Volcker. In 1987, a few months after his successor, Alan Greenspan, took office, the stock market crashed. Greenspan slashed interest rates while his colleagues persuaded banks to keep lending to crippled Wall Street dealers. A total meltdown in the markets was narrowly averted; the economy never skipped a beat. The mini-crash of 1989 was also a nonevent, perhaps thanks to the Fed’s assurance of assistance.

 

pages: 339 words: 99,674

Pay Any Price: Greed, Power, and Endless War by James Risen

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air freight, airport security, banking crisis, clean water, Edward Snowden, greed is good, illegal immigration, income inequality, large denomination, Occupy movement, pattern recognition, pre–internet, RAND corporation, Silicon Valley, Stuxnet, too big to fail, WikiLeaks

His New York lawyer, Kelly Moore, also declined repeated requests to respond to questions. 6 Too Big to Fail Far more than any other conflict in American history, the global war on terror has been waged along free-market principles. In Iraq and Afghanistan, American soldiers actually on the payroll of the U.S. Army were outnumbered by independent contractors working for private companies hired to provide services from meals to base security. From Pakistan to Yemen to Somalia, American counterterror operations have relied heavily on outside contractors to provide intelligence and logistics. As a result, the tenets of twenty-first-century American capitalism have become the bywords of twenty-first-century American combat. That includes the most infamous catch phrase of the global financial crisis—“too big to fail.” When applied to banks, “too big to fail” referred to financial institutions that were so large and critical to the economy that they had to be bailed out by the government, no matter how execrable their past behavior or how badly they had been mismanaged.

When applied to banks, “too big to fail” referred to financial institutions that were so large and critical to the economy that they had to be bailed out by the government, no matter how execrable their past behavior or how badly they had been mismanaged. Letting them fail, refusing to bail them out, would only sink the American economy. In the global war on terror as well, Washington has treated some of its biggest military and intelligence contractors as if they are too big to fail. The American enterprise in the Middle East has been so heavily outsourced, and the Pentagon, CIA, and other agencies have become so dependent on a handful of large corporations, that the government has been reluctant to ever hold those firms accountable for their actions. And if any one contractor has attained the status of “too big to fail” in the war on terror, it is KBR. KBR, a Houston-based firm that has been the military’s largest single contractor for war-zone services, has helped to define the post-9/11 age. KBR and Blackwater became the two iconic corporate names of the war in Iraq.

Table of Contents Title Page Table of Contents Copyright Dedication Epigraph A Note on Sources Prologue GREED Pallets of Cash The Emperor of the War on Terror The New Oligarchs POWER Rosetta Alarbus Too Big to Fail ENDLESS WAR The War on Decency The War on Normalcy The War on Truth Afterword Index About the Author Footnotes Copyright © 2014 by James Risen All rights reserved For information about permission to reproduce selections from this book, write to Permissions, Houghton Mifflin Harcourt Publishing Company, 215 Park Avenue South, New York, New York 10003. www.hmhco.com The Library of Congress has cataloged the print edition as follows: Risen, James. Pay any price : greed, power, and endless war / James Risen. pages cm ISBN 978-0-544-34141-8 (hardback) 1.

 

pages: 478 words: 126,416

Other People's Money: Masters of the Universe or Servants of the People? by John Kay

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Affordable Care Act / Obamacare, asset-backed security, bank run, banking crisis, Basel III, Bernie Madoff, Big bang: deregulation of the City of London, bitcoin, Black Swan, Bonfire of the Vanities, bonus culture, Bretton Woods, call centre, capital asset pricing model, Capital in the Twenty-First Century by Thomas Piketty, cognitive dissonance, corporate governance, Credit Default Swap, cross-subsidies, dematerialisation, diversification, diversified portfolio, Edward Lloyd's coffeehouse, Elon Musk, Eugene Fama: efficient market hypothesis, eurozone crisis, financial innovation, financial intermediation, fixed income, Flash crash, forward guidance, Fractional reserve banking, full employment, George Akerlof, German hyperinflation, Goldman Sachs: Vampire Squid, Growth in a Time of Debt, income inequality, index fund, inflation targeting, interest rate derivative, interest rate swap, invention of the wheel, Irish property bubble, Isaac Newton, London Whale, Long Term Capital Management, loose coupling, low cost carrier, M-Pesa, market design, millennium bug, mittelstand, moral hazard, mortgage debt, new economy, Nick Leeson, Northern Rock, obamacare, Occupy movement, offshore financial centre, oil shock, passive investing, peer-to-peer lending, performance metric, Peter Thiel, Piper Alpha, Ponzi scheme, price mechanism, purchasing power parity, quantitative easing, quantitative trading / quantitative finance, railway mania, Ralph Waldo Emerson, random walk, regulatory arbitrage, Renaissance Technologies, rent control, Richard Feynman, risk tolerance, road to serfdom, Robert Shiller, Robert Shiller, Ronald Reagan, Schrödinger's Cat, shareholder value, Silicon Valley, Simon Kuznets, South Sea Bubble, sovereign wealth fund, Spread Networks laid a new fibre optics cable between New York and Chicago, Steve Jobs, Steve Wozniak, The Great Moderation, The Market for Lemons, the market place, The Myth of the Rational Market, the payments system, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, Tobin tax, too big to fail, transaction costs, tulip mania, Upton Sinclair, Vanguard fund, Washington Consensus, We are the 99%, Yom Kippur War

The claims of Alan Greenspan, Timothy Geithner and others, that the innovative use of new instruments made the financial system more robust, were false. Interdependencies between financial institutions have increased to a point at which the system as a whole displays fragility born of complexity. The phrase ‘too big to fail’ came into wide use in the global financial crisis to describe the dilemma that policymakers faced in resolving the affairs of systemically important financial institutions.4 The phrase provoked the justified rejoinder that ‘too big to fail is too big’. But ‘too big to fail’ misses the key point. Financialisation has led to increases in the size of financial institutions, but the central problem is not size but complexity. Size in banking can enhance stability, at least up to a point. Britain avoided significant bank failures in the twentieth century precisely because its banks were big, in contrast to the collapse of the fragmented US banking industry in 1933.

The geographer John Adams has coined the metaphor of the ‘risk thermostat’: we have a certain tolerance for risk and adjust our behaviour accordingly.31 Fewer children are killed in road accidents today than eighty years ago: although traffic has increased very substantially, precautions taken by children and their parents have fully offset this. The issue of moral hazard takes on particular importance in the financial sector in the context of ‘too big to fail’ banks. Critics of bail-outs complain that public indemnity of the liabilities of risktaking financial institutions encourages these institutions to take more risk. This is a complex issue. It is unlikely that the chief executives of failed banks thought, ‘I needn’t worry about running my institution into the ground because the government will see the creditors right.’ Still, the sense that Central Banks and Treasuries act as backstop has influence on the behaviour of a firm: Dick Fuld of Lehman was delusional both about the risks in his business and in his belief that Lehman both should and would receive support if it ran into financial difficulties.

If potential creditors know that they will be made whole, then they have little incentive to undertake careful credit assessment. In the sub-prime mortgage fiasco such moral hazard arose at every level. Fannie Mae and Freddie Mac, the failed US mortgage agencies, could not conceivably have built their enormous, and severely under-capitalised, balance sheets had their lenders not believed (correctly, as it turned out) that their liabilities were guaranteed by the US government. ‘Too big to fail’ takes responsibility for the supervision of credit risks away from market participants and places it more or less exclusively in the hands of regulators: a duty that in this instance (and many others) they were not capable of discharging. The term ‘moral hazard’ is perhaps unfortunate, because moral hazard is about incentives, not about ethics: about deterrence rather than punishment. Timothy Geithner appeared to have missed this point – his memoir makes frequent reference to moral hazard, almost invariably accompanied by a disparaging reference to ‘Old Testament fundamentalists’.32 Presumably this is with the intention of contrasting the retributive ethos of the Old Testament with the forgiveness found in the New.

 

pages: 322 words: 77,341

I.O.U.: Why Everyone Owes Everyone and No One Can Pay by John Lanchester

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asset-backed security, bank run, banking crisis, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Black-Scholes formula, Celtic Tiger, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Daniel Kahneman / Amos Tversky, diversified portfolio, double entry bookkeeping, Exxon Valdez, Fall of the Berlin Wall, financial deregulation, financial innovation, fixed income, George Akerlof, greed is good, hindsight bias, housing crisis, Hyman Minsky, interest rate swap, invisible hand, Jane Jacobs, John Maynard Keynes: Economic Possibilities for our Grandchildren, laissez-faire capitalism, liquidity trap, Long Term Capital Management, loss aversion, Martin Wolf, mortgage debt, mortgage tax deduction, mutually assured destruction, new economy, Nick Leeson, Northern Rock, Own Your Own Home, Ponzi scheme, quantitative easing, reserve currency, risk-adjusted returns, Robert Shiller, Robert Shiller, Ronald Reagan, shareholder value, South Sea Bubble, statistical model, The Great Moderation, the payments system, too big to fail, tulip mania, value at risk

As for the risks, well, as Lawrence Summers said when he was deputy secretary of the Treasury, “the parties to these kinds of contract are largely sophisticated financial institutions that would appear to be eminently capable of protecting themselves from fraud and counterparty insolvencies.”5 That turned out to be total rubbish. It was the taxpayer who ended up picking up the bill for counterparty insolvencies, and the sums involved were and are huge. As chance would have it, it was insurance against those very counterparty insolvencies which was to destroy AIG. This is a gigantic insurance company, worth $200 billion at its peak and definitely “too big to fail.” It was AIG which was, in effect, the Joneses. It was the company which underwrote all the insurance: it was the single biggest player in the CDS market. Entertainingly for fans of financial acronyms, AIG was done in by CDSs on CDOs. That’s to say, it took part in credit default swaps on collateralized debt obligations, the pools of subprime mortgages whose dramatic collapse in value in 2008 was the proximate cause of the financial crisis.

In terms of the above example, the Joneses suddenly looked like a less safe risk, so the neighbors asked them to post more than the $10,000 of collateral against the loans—they wanted, and were contractually allowed to insist, that the Joneses now put up $20,000 for each $100,000 of risk they were covering. If the Joneses don’t have that kind of money immediately at hand, they will have to borrow it. If they can’t borrow it, they’re toast. And that’s exactly what happened to AIG. When it had to increase its collateral cover, it couldn’t, because the credit markets had tightened up. For the Joneses, that would be end of story: they’d be bankrupt. But because AIG was “too big to fail,” the U.S. government stepped in with a bailout on September 16 worth $85 billion, in return for 79.9 percent of the company. (This bailout—they come in different varieties—was in the form of a twenty-four-month credit facility. To adopt an analogy to personal finances, that meant AIG could draw on the government’s bank account.) On October 9, AIG was given another $37.8 billion in credit. Enough, already?

Finally enough, already already? Not necessarily. According to the U.S. Treasury statement accompanying the fourth bailout, “Given the systemic risk AIG continues to pose and the fragility of markets today, the potential cost to the economy and the taxpayer of government inaction would be extremely high.” To stabilize AIG would “take time and possibly further government support.” That’s what “too big to fail” means. You could put it like this: AIG + CDS + CDO + TBTF= $173,000,000,000. In Britain, we had our entertaining but essentially distracting row over Sir Fred “Knighted for Services to Banking” Goodwin’s pension; it’s the similar outcry over bonuses paid to senior AIG executives after the bailouts. The bonuses totaled $165 million, and it doesn’t take a PR professional to see that March 2009, after the fourth AIG bailout, wasn’t the ideal time to have announced them.

 

pages: 248 words: 57,419

The New Depression: The Breakdown of the Paper Money Economy by Richard Duncan

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asset-backed security, bank run, banking crisis, banks create money, Ben Bernanke: helicopter money, Bretton Woods, currency manipulation / currency intervention, debt deflation, deindustrialization, diversification, diversified portfolio, fiat currency, financial innovation, Flash crash, Fractional reserve banking, income inequality, inflation targeting, Joseph Schumpeter, laissez-faire capitalism, liquidity trap, market bubble, market fundamentalism, Mexican peso crisis / tequila crisis, money: store of value / unit of account / medium of exchange, mortgage debt, private sector deleveraging, quantitative easing, reserve currency, Ronald Reagan, savings glut, special drawing rights, The Great Moderation, too big to fail, trade liberalization

In this case, however, the danger is that daylight may expose gangrene. It is unclear how much damage would be caused by the bankruptcy of a financial institution with a derivatives exposure equivalent to one year’s worth of global economic output. It can only be imagined that the damage would range between catastrophic and cataclysmic. That is what is meant by too big to fail. Regarding their size, there is another possibility that warrants consideration. Banks may have been allowed to remain too big to fail because they are too bankrupt to split apart. Due to the size and opacity of the derivatives market, there is at least some risk that the sum of the banks’ parts could add up to a multitrillion dollar negative number. Were that the case, it would explain why the government did not nationalize at least some banks when injecting large amounts of capital into the financial system in 2009: it had no desire to consolidate massive bank losses onto its own balance sheet.

Monetary Omnipotence and the Limits Thereof The Balance Sheet of the Federal Reserve Quantitative Easing: Round One What Did QE1 Accomplish? Quantitative Easing: Round Two Monetizing the Debt The Role of the Trade Deficit Diminishing Returns The Other Money Makers Notes Chapter 6: Where Are We Now? How Bad so Far? Credit Growth Drove Economic Growth So, Where Does that Leave Us? Why Can’t TCMD Grow? The Banking Industry: Why Still Too Big to Fail? Global Imbalances: Still Unresolved Vision and Leadership Are Still Lacking Notes Chapter 7: How It Plays Out The Business Cycle Debt: Public and Private 2011: The Starting Point 2012: Expect QE3 Impact on Asset Prices 2013–2014: Three Scenarios Impact on Asset Prices Conclusion Notes Chapter 8: Disaster Scenarios The Last Great Depression And This Time?

We are at the top of a forty-year, credit-induced economic boom without any obvious means of expanding credit further. Every boom busts. And the bust occurs when credit ceases to expand. This chapter considers why the debt of the private sector in the United States cannot expand further. Next, this chapter looks at the overconcentrated and underregulated U.S. banking sector in order to clarify exactly what is meant by “too big to fail.” The chapter concludes with a discussion of the global imbalances that continue to destabilize the world. Global supply greatly exceeds sustainable demand. The gap between the two has been filled with U.S. demand, financed by debt. If credit in the United States now ceases to expand, there is a real danger that this 40-year boom will break down into a New Great Depression. Chapter 7 considers how this crisis is likely to play out over the next three years.

 

pages: 580 words: 168,476

The Price of Inequality: How Today's Divided Society Endangers Our Future by Joseph E. Stiglitz

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affirmative action, Affordable Care Act / Obamacare, airline deregulation, Andrei Shleifer, banking crisis, barriers to entry, Basel III, battle of ideas, Berlin Wall, capital controls, Carmen Reinhart, Cass Sunstein, central bank independence, collapse of Lehman Brothers, collective bargaining, colonial rule, corporate governance, Credit Default Swap, Daniel Kahneman / Amos Tversky, Dava Sobel, declining real wages, deskilling, Exxon Valdez, Fall of the Berlin Wall, financial deregulation, financial innovation, Flash crash, framing effect, full employment, George Akerlof, Gini coefficient, income inequality, income per capita, indoor plumbing, inflation targeting, invisible hand, John Harrison: Longitude, John Maynard Keynes: Economic Possibilities for our Grandchildren, Kenneth Rogoff, labour market flexibility, London Interbank Offered Rate, lone genius, low skilled workers, Mark Zuckerberg, market bubble, market fundamentalism, medical bankruptcy, microcredit, moral hazard, mortgage tax deduction, obamacare, offshore financial centre, paper trading, patent troll, payday loans, price stability, profit maximization, profit motive, purchasing power parity, race to the bottom, rent-seeking, reserve currency, Richard Thaler, Robert Shiller, Robert Shiller, Ronald Coase, Ronald Reagan, shareholder value, short selling, Silicon Valley, Simon Kuznets, spectrum auction, Steve Jobs, technology bubble, The Chicago School, The Fortune at the Bottom of the Pyramid, The Myth of the Rational Market, The Spirit Level, The Wealth of Nations by Adam Smith, too big to fail, trade liberalization, transaction costs, trickle-down economics, ultimatum game, uranium enrichment, very high income, We are the 99%, women in the workforce

Dean Baker and Travis McArthur have estimated that the difference between the interest rates at which too-big-to-fail banks can raise capital and the rate smaller banks have access to increased from 0.29 percentage points—where it had been for about seven years before the crisis—to 0.78 percentage points in a matter of months after the bailouts. This, they argue, shows that markets recognized that too-big-to-fail banks had become “official government policy,” and implied “a government subsidy of $34.1 billion a year to the 18 bank holding companies with more than $100 billion in assets in the first quarter of 2009.” Baker and McArthur, “The Value of the ‘Too Big to Fail’ Big Bank Subsidy,” Center for Economic and Policy Research, September 2009, available at http://www.cepr.net/documents/publications/too-big-to-fail-2009-09.pdf (accessed March 5, 2012). In January 2010 Obama discussed the possibility of imposing a tax to offset this advantage.

Regulations should have been designed to encourage banks to go back to the boring business of lending. Recognizing that the too-big-to-fail banks had perverse incentives, they should have focused on how to limit the size and interconnectedness of the banks. Moreover, too-big-to-fail banks have a competitive advantage over other banks—those who provide them finance know that they can count, in effect, on a government guarantee, and thus they are willing to provide them funds at lower interest rates. The big banks can thus prosper not because they are more efficient or provide better service but because they are in effect subsidized by taxpayers. Our failure to impose a tax to offset this advantage is just giving the too-big-to-fail banks another large gift.23 The recognition that outsize bonuses gave financial professionals incentives to engage in excess risk taking and shortsighted behavior should also have led to tight regulations on the design of bonuses.

But Ben Bernanke, the Fed chief, argued otherwise (over the opposition of two regional Fed presidents, who seemed to harbor the quaint notion that banks should focus on banking). Bernanke and the big banks that made billions a year from the credit default swaps, or CDSes, won. Meanwhile, there emerged a broad consensus among economists and policy makers (including at least one Federal Reserve regional governor and the governor of the Bank of England, Mervyn King) that something ought to be done about the too-big-to-fail banks. King pointed out that if they were too big to fail, they were too big to exist. Even earlier, Paul Volcker, former chairman of the Federal Reserve, had observed that these banks were also too big to be managed. But the Federal Reserve Board’s current and past chairmen (Greenspan and Bernanke, responsible for bringing on the crisis) have never seemed even to recognize the problem, at least not enough to suggest that something be done.

 

pages: 526 words: 158,913

Crash of the Titans: Greed, Hubris, the Fall of Merrill Lynch, and the Near-Collapse of Bank of America by Greg Farrell

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Apple's 1984 Super Bowl advert, bank run, banking crisis, bonus culture, call centre, Captain Sullenberger Hudson, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, financial innovation, fixed income, glass ceiling, high net worth, Long Term Capital Management, mass affluent, Mexican peso crisis / tequila crisis, Plutocrats, plutocrats, Ronald Reagan, six sigma, sovereign wealth fund, technology bubble, too big to fail, yield curve

., p. 606. 8 The men were so close that in his will: Ibid., p. 614. 9 Paulson declared that Lehman was in deep trouble: On the Brink, p. 192. 10 Thain’s driver took him to a restaurant: Too Big to Fail, pp. 305–306. CHAPTER 13. THE LONGEST DAY 1 Geithner reiterated his stance: Too Big to Fail, p. 311. 2 Before hanging up, Herlihy: Ibid., p. 314. 3 Sometime after 10:30, the group comprised: Ibid., p. 321. 4 “We have to figure out how to organize ourselves”: On the Brink, pp. 197–98. 5 The treasury secretary warned his former subordinate: Ibid., pp. 203–204. 6 After brief opening remarks from Thain: Too Big to Fail, p. 331. 7 Fleming said he was going to ask for a “three-handle,”: Ibid., p. 339. CHAPTER 14. SUNDAY BLOODY SUNDAY 1 In an emergency situation such as the one: On the Brink, p. 207. 2 “Have you done what I recommended and found a buyer?”

PROLOGUE 1 Waccabuc: golf scores from Metropolitan Golf Association website. 2 Roanoke, grew up in Wedowee: “Shaking Up Merrill,” by Emily Thornton, with Anne Tergesen and David Welch, BusinessWeek, Nov. 12, 2001. 3 “The modest sums of the thrifty”: from an unpublished history of Merrill Lynch, by William Ecenbarger, obtained by the author. 4 “bullish on America”: Ibid. 5 “In 2001”: “Merrill Picks Heir Apparent to Top Job,” by Joseph Kahn, The New York Times, July 25, 2001; “Merrill Lynch Names O’Neal President,” by Charles Gasparino, The Wall Street Journal, July 25, 2001. 6 “O’Neal was about to meet with Ken Lewis”: Too Big to Fail, by Andrew Ross Sorkin, Viking, 2009, p. 314. 7 played golf almost every day: Metropolitan Golf Association website. 8 “Through a series of mergers”: The Story of NationsBank, by Howard E. Covington, Jr., and Marion A. Ellis. 9 “Curl and Lewis … exchanged glances as the moments ticked by”: Too Big to Fail, p. 315. CHAPTER 1. THE YOUNG TURK 1 “My name’s Tom Spinelli”: transcript of Stan O’Neal’s presentation at Merrill Lynch annual meeting in Princeton, New Jersey, April 27, 2007. 2 caused investors such as Merrill Lynch to seize some of the CDOs as collateral: The Sellout, by Charles Gasparino, Harper Business, 2009, p. 265. 3 Stan O’Neal was one of the best paid executives on Wall Street: O’Neal’s compensation figures taken from documents prepared on behalf of Rep.

THE ADVENTURES OF SUPER-THAIN 1 He was a star on his high school wrestling team … (and other details from Thain’s background in Illinois): “The Adventures of Super-Thain,” by Justin Schack, Institutional Investor, June 14, 2006. 2 That summer, he shipped off to Cincinnati: Ibid. 3 Thain’s move to the Exchange: “NYSE’s Steady Pilot,” by Joe Weber, BusinessWeek, Feb. 28, 2006. 4 When Thain called his first management committee meeting to order (and other details about Thain’s arrival at the Exchange): “The Exchange Faces Change,” by Julie Creswell, Fortune, Aug. 9, 2004. 5 Thain fires the barber at the NYSE: “The Taming of Merrill Lynch,” by Gary Weiss, Portfolio, April 14, 2008. 6 Then there was the special elevator: Sorkin, Too Big to Fail, p. 139. 7 Details about Thain’s office and the bill for individual items: “John Thain’s $87,000 Rug,” by Charlie Gasparino, the Daily Beast/CNBC, Jan. 22, 2009. 8 John Thain reached out to Stan O’Neal: Sorkin, Too Big to Fail, pp. 141–42. CHAPTER 7. THE SMARTEST GUY IN THE ROOM 1 Thain arrived the evening before his speech: “The Taming of Merrill Lynch,” by Gary Weiss, Portfolio. 2 “When you’re the smartest guy in the room”: “Merrill’s Repairman,” by Lisa Kassenaar and Yalman Onaran, Bloomberg Markets, February 2008. 3 In an interview with a French newspaper: Le Figaro, March 8, 2008. 4 That same month, he told a Spanish newspaper: El Pais, March 16, 2008. 5 “He is a very popular guy”: “Merrill’s Risk Manager—New Chief John Thain on What Led to the Losses and Why He’s Hiring Goldman Sachs Executives,” by Susanne Craig and Randall Smith, The Wall Street Journal, Jan. 18, 2008.

 

pages: 823 words: 206,070

The Making of Global Capitalism by Leo Panitch, Sam Gindin

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accounting loophole / creative accounting, airline deregulation, anti-communist, Asian financial crisis, asset-backed security, bank run, banking crisis, barriers to entry, Basel III, Big bang: deregulation of the City of London, bilateral investment treaty, Branko Milanovic, Bretton Woods, BRICs, British Empire, call centre, capital controls, Capital in the Twenty-First Century by Thomas Piketty, Carmen Reinhart, central bank independence, collective bargaining, continuous integration, corporate governance, Credit Default Swap, crony capitalism, currency manipulation / currency intervention, currency peg, dark matter, Deng Xiaoping, disintermediation, ending welfare as we know it, eurozone crisis, facts on the ground, financial deregulation, financial innovation, Financial Instability Hypothesis, financial intermediation, floating exchange rates, full employment, Gini coefficient, global value chain, guest worker program, Hyman Minsky, imperial preference, income inequality, inflation targeting, interchangeable parts, interest rate swap, Kenneth Rogoff, land reform, late capitalism, liquidity trap, London Interbank Offered Rate, Long Term Capital Management, manufacturing employment, market bubble, market fundamentalism, Martin Wolf, means of production, money: store of value / unit of account / medium of exchange, Monroe Doctrine, moral hazard, mortgage debt, mortgage tax deduction, new economy, non-tariff barriers, Northern Rock, oil shock, precariat, price stability, quantitative easing, Ralph Nader, RAND corporation, regulatory arbitrage, reserve currency, risk tolerance, Ronald Reagan, seigniorage, shareholder value, short selling, Silicon Valley, sovereign wealth fund, special drawing rights, special economic zone, structural adjustment programs, The Chicago School, The Great Moderation, the payments system, The Wealth of Nations by Adam Smith, too big to fail, trade liberalization, transcontinental railway, trickle-down economics, union organizing, very high income, Washington Consensus, Works Progress Administration, zero-coupon bond

Actively playing the role of lender of last resort—through 1974 the Federal Reserve Bank of New York lent Franklin $1.7 billion—US regulators delayed closing Franklin as long as they could out of “concern that a failure of a bank of Franklin’s size might cause a general scramble for liquidity.”84 What was especially significant was that, even by the mid 1970s, the concern that certain banks were “too big to fail” was not confined to what the effect of their failure would be in US financial markets. Much of the Fed’s intervention involved purchasing foreign currencies on Franklin’s behalf, assuring foreign creditors they would be paid—and even extending its lender-of-last-resort function to Franklin’s London office, on the grounds that “the failure of Franklin to perform on such a volume of international commitments would lead to a crisis of confidence in foreign exchange markets and possibly to an international banking crisis.”85 The grounds for such fears were real enough.

Besides mandating greater regulatory cooperation between the Federal Reserve, the Treasury’s Office of the Controller of the Currency (OCC), and the Federal Deposit Insurance Corporation (FDIC), the Act—“the most massive change in banking laws since the Depression”—widened the state’s regulatory remit over the whole banking system.38 All deposit institutions were now required to hold reserves with the Fed, and new rules were established for more uniform reporting to regulators, and for extended federal deposit insurance coverage. And it was this joint supervisory capacity that allowed the Fed, working more and more closely with the OCC and the FDIC, to sustain the Volcker shock by undertaking selective bailouts of those banks that were deemed “too big to fail.” This included the largest bailout in US history to that point, that of First Philadelphia Bank (whose roots went back two centuries to the first private bank in the US). The regulators feared that if the bank “collapsed slowly, in the manner of Franklin National [in 1973–74], it might provoke a crisis of confidence in the banking system.”39 The Fed’s autonomy with respect to the financial system, and the detailed information it had about its precise workings that was unavailable to anyone else, was decisive in terms of the flexibility and persistence it needed to act.

Troubled small banks which could not be safely merged with larger ones were closed by the Fed and the Treasury, and their depositors paid off by the FDIC, while the large banks were bailed out—thanks to their importance not only for the US economy but also for the international clearing-house system, whose hundreds of billions of dollars of daily interbank payments greased the wheels of global capitalism. The pattern of letting banks that were too small to matter go under, while acting as lender of last resort to save the ones that were “too big to fail” was set in 1982, when Volcker bluntly told the Federal Open Market Committee (FOMC): “If it gets bad enough, we can’t stay on the side or we’ll have a major liquidity crisis. It’s a matter of judgment as to when and how strongly to react. We are not here to see the economy destroyed in the interest of not bailing somebody out.”78 The “moral hazard” tightrope that the state had to walk in this respect was nothing compared with the practical hazard involved in figuring out whether allowing even a small bank to collapse might have systemic effects.

 

pages: 278 words: 82,069

Meltdown: How Greed and Corruption Shattered Our Financial System and How We Can Recover by Katrina Vanden Heuvel, William Greider

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Asian financial crisis, banking crisis, Bretton Woods, capital controls, carried interest, central bank independence, centre right, collateralized debt obligation, conceptual framework, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, declining real wages, deindustrialization, Exxon Valdez, falling living standards, financial deregulation, financial innovation, Financial Instability Hypothesis, fixed income, floating exchange rates, full employment, housing crisis, Howard Zinn, Hyman Minsky, income inequality, kremlinology, Long Term Capital Management, margin call, market bubble, market fundamentalism, McMansion, mortgage debt, Naomi Klein, new economy, offshore financial centre, payday loans, pets.com, Plutocrats, plutocrats, Ponzi scheme, price stability, pushing on a string, race to the bottom, Ralph Nader, rent control, Robert Shiller, Robert Shiller, Ronald Reagan, savings glut, sovereign wealth fund, structural adjustment programs, The Great Moderation, too big to fail, trade liberalization, transcontinental railway, trickle-down economics, union organizing, wage slave, Washington Consensus, women in the workforce, working poor, Y2K

Indeed, flipping back through the pages of the magazine in preceding years, one can track the policy decisions and economic trends that led to the crisis we are facing today. During the heady days of 1999, for example, the magazine edi-torialized in “Breaking Glass-Steagall” against the “grossly misnamed ‘Financial Services Modernization Act,’” which would remove the Depression-era wall between commercial and in- ix vestment banks and thus pave the way for “future taxpayer bailouts of too-big-to-fail financial institutions.” As far back as 1990, Robert Sherrill discerned in the S&L crisis the early signs that something similar might be in store for the banking sector. At that time, Sherrill noted, the chorus calling for deregulation was recklessly demanding the repeal of laws that “protect the banking sector from its worst instincts by insisting that the banks remain banks, and not become gamblers, hucksters and hustlers in other lines as well.”

Things are changing rapidly, and none of us know how it will turn out. Obama probably doesn’t, either. A photo op Obama arranged with his economic advisers a few weeks before the election tells the story. Arrayed on either side were policy leaders from the old order. Former Federal Reserve chair Paul Volcker collaborated in the initial deregulation of banking in 1980 and presided over the initial bail-outs of banks deemed “too big to fail.” Robert Rubin was the architect of Clinton’s center-right economic strategy and is now senior counselor at Citigroup, itself endangered and the recipient of $25 billion in public aid. Lawrence Summers, disgraced as president of Harvard, is now managing partner of D. E. Shaw, a $39 billion private-equity firm and hedge fund that specializes in es-oteric mathematical investing strategies. Laura Tyson was chair of Clinton’s Council of Economic Advisors and is now a Uni versity of California–Berkeley professor who sits on the boards of Morgan Stanley, AT&T and KPMG, the global accounting giant.

Now the ban on common ownership has been lifted—and the wall separating banking and commerce is likely soon to be breached. The misnamed Financial Services Modernization Act will usher in another round of record-breaking mergers, as companies rush to combine into “one stop shopping” operations, concentrating financial power in trillion-dollar global giants and paving the way for future taxpayer bailouts of too-big-to-fail financial corporations. Regulation of this new universe will be minimal, with powers scattered among a half-dozen federal agencies and fifty state insurance departments—none with sufficient clout to do the job. The final two major debates over the bill’s provisions focused not on the core-questions of concentrated financial power and regulatory controls but on issues of privacy and lending practices.

 

pages: 662 words: 180,546

Never Let a Serious Crisis Go to Waste: How Neoliberalism Survived the Financial Meltdown by Philip Mirowski

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Andrei Shleifer, asset-backed security, bank run, barriers to entry, Basel III, Berlin Wall, Bernie Madoff, Bernie Sanders, Black Swan, blue-collar work, Bretton Woods, Brownian motion, capital controls, Carmen Reinhart, Cass Sunstein, central bank independence, cognitive dissonance, collapse of Lehman Brothers, collateralized debt obligation, complexity theory, constrained optimization, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, dark matter, David Brooks, David Graeber, debt deflation, deindustrialization, Edward Glaeser, Eugene Fama: efficient market hypothesis, experimental economics, facts on the ground, Fall of the Berlin Wall, financial deregulation, financial innovation, Flash crash, full employment, George Akerlof, Goldman Sachs: Vampire Squid, Hernando de Soto, housing crisis, Hyman Minsky, illegal immigration, income inequality, incomplete markets, invisible hand, Jean Tirole, joint-stock company, Kenneth Rogoff, knowledge economy, l'esprit de l'escalier, labor-force participation, liquidity trap, loose coupling, manufacturing employment, market clearing, market design, market fundamentalism, Martin Wolf, Mont Pelerin Society, moral hazard, mortgage debt, Naomi Klein, Nash equilibrium, night-watchman state, Northern Rock, Occupy movement, offshore financial centre, oil shock, payday loans, Ponzi scheme, precariat, prediction markets, price mechanism, profit motive, quantitative easing, race to the bottom, random walk, rent-seeking, Richard Thaler, road to serfdom, Robert Shiller, Robert Shiller, Ronald Coase, Ronald Reagan, savings glut, school choice, sealed-bid auction, Silicon Valley, South Sea Bubble, Steven Levy, technoutopianism, The Chicago School, The Great Moderation, the map is not the territory, The Myth of the Rational Market, the scientific method, The Wisdom of Crowds, theory of mind, Thomas Kuhn: the structure of scientific revolutions, Thorstein Veblen, Tobin tax, too big to fail, transaction costs, War on Poverty, Washington Consensus, We are the 99%, working poor

The Kauffman Foundation website opens with a quote from Hayek: www.kauffman.org. They have also funded their own Hayekian critiques of the economics profession: see Frydman and Goldberg, Beyond Mechanical Markets, which was distributed gratis to participants at the 2011 meeting of INET at Bretton Woods. 119 This section is joint work with Edward Nik-Khah. 120 Swagel, “The Financial Crisis”; Sorkin, Too Big to Fail; “Break the Glass Bank Recapitalization Plan,” dated 4/15/2008, available at www.scribd.com/doc/21266810/Too-Big-To-Fail-Confidential-Break-the-Glass-Plan-from-Treasury (accessed 2/21/2012). 121 “Secretary Paulson’s intent to use TARP to purchase assets reflected a philosophical concern with having the government buy equity stakes in banks: he saw it as fundamentally a bad idea to have the government involved in bank ownership” (Swagel, “The Financial Crisis,” p. 50). 122 Oliver Armantier and James Vickery of the N.Y.

Last week’s 4th Nobel Laureate Meeting in Lindau, Germany—a meeting that brings Nobel laureates in economics together with several hundred young economists from all over the world—illustrates how little agreement there is on the answer to this important question. Surprisingly, the financial crisis did not receive much attention at the conference. Many of the sessions on macroeconomics and finance didn’t mention it at all, and when it was finally discussed, the reasons cited for the financial meltdown were all over the map. It was the banks, the Fed, too much regulation, too little regulation, Fannie and Freddie, moral hazard from too-big-to-fail banks, bad and intentionally misleading accounting, irrational exuberance, faulty models, and the ratings agencies. In addition, factors I view as important contributors to the crisis, such as the conditions that allowed troublesome runs on the shadow banking system after regulators let Lehman fail, were hardly mentioned.9 Public disputations on the crisis had begun to take on the air of a bad Rodney Dangerfield film.

Bernanke insists upon the prodigious intellectual capacity of the Fed to regulate the postcrisis financial sector and the shadow banking sphere, even though he and his former lieutenant at the New York Fed Timothy Geithner had been asleep at the wheel in the run-up to the crisis, and then outsourced much of the bailout. Bernanke has stood in the way of most attempts to restructure the U.S. financial sector, from opposing the Volcker Rule to blocking attempts to break up “too big to fail” firms. Bernanke resisted most attempts to financially penalize banks or hedge funds, with the excuse that they were too fragile to face the music. The Fed’s ability to even anticipate contractions had been persistently addled, dating from the onset of the crisis, as demonstrated in Figure 4.5. His grasp on reality has been tenuous: Bernanke himself had insisted that the subprime mortgage crisis was “contained” as late as March 2007.60 Incredibly, in the face of the mayhem that ensued, Bernanke’s Fed has evaded suffering any consequences for its intellectual incompetence; it still does pretty much whatever it pleases, including continued deregulation of the shadow banking sector and frustrating Elizabeth Warren’s crusade to set up a fully independent consumer finance protection bureau; and yet, even that Great Bank Amnesty was not enough for Ben Bernanke.

 

pages: 460 words: 122,556

The End of Wall Street by Roger Lowenstein

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Asian financial crisis, asset-backed security, bank run, banking crisis, Berlin Wall, Bernie Madoff, Black Swan, Brownian motion, Carmen Reinhart, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, diversified portfolio, eurozone crisis, Fall of the Berlin Wall, fear of failure, financial deregulation, fixed income, high net worth, Hyman Minsky, interest rate derivative, invisible hand, Kenneth Rogoff, London Interbank Offered Rate, Long Term Capital Management, margin call, market bubble, Martin Wolf, moral hazard, mortgage debt, Northern Rock, Ponzi scheme, profit motive, race to the bottom, risk tolerance, Ronald Reagan, savings glut, short selling, sovereign wealth fund, statistical model, the payments system, too big to fail, tulip mania, Y2K

Betraying his fear of another Bear Stearns, Paulson declared, “We need to create a resolution process that ensures the financial system can withstand the failure of a large complex financial firm.” He stressed that he wanted to reduce the “perception” that the government considered some firms too big to fail. Yet he added, in somewhat contradictory fashion, that his first duty was ensuring market stability.12 The tension between stability and moral hazard had raged since Bear Stearns, and it was not going away. Investors in Fannie Mae and Freddie Mac were highly unsettled, and Fannie and Freddie—responsible for about half of America’s mortgages—were as close to “too big to fail” as any corporations in existence. On June 30, two days prior to Paulson’s speech, Fannie Mae’s stock had plunged by 6 percent and Freddie Mac’s by 8 percent. This was no small matter. Any lessening in confidence could imperil the twins’ ability to refinance their debts—of which they had $5.3 trillion outstanding.

Passage was delayed by vigorous division in Congress, particularly over the question of which agency, post-crash, would head supervision of banks. The issue of “too big to fail,” which Ben Bernanke had called “a top priority” for reform, hung over Washington like a dark cloud.9 The crisis had bequeathed precisely the moral hazard that Paulson had feared. Post-crash, markets presumed that the government would, if necessary, bail out important banks. This meant that big banks could borrow on favorable terms (since the government would not let them fail). Being among the circle of protected was considered such a boon that both the administration and Representative Barney Frank, who managed the bill in the House, initially proposed keeping the list of “too big to fail” institutions secret. Experts consulted by the Congress sensibly advised an opposite tack—that the government discourage banks from becoming (or being) too big by making it undesirable.10 They proposed that stricter capital requirements and hefty insurance premiums be imposed as a price for bigness.

Steel’s lieutenants, though, could not make headway in the negotiations.2 Citigroup kept trying to foist more liabilities onto the rump Wachovia that was to be left behind. Having won from the government a massive guarantee, Citi was hungrily, even greedily, attempting to extract from its partner every morsel of its remaining worth. Perhaps Pandit judged that he could dictate terms because, as he knew, the government was so invested in the agreement. Citigroup was seen as truly too big to fail, and any upset to it horrified the Fed. For the better part of the week, Pandit’s negotiators ploddingly pressed their case. On Thursday, the two CEOs met in New York again. With the deadline only twenty-four hours away, the rival teams were laboring under tremendous pressure, two of the execs frantically scribbling terms on a napkin. Citigroup was still seeking an edge. Jane Sherburne, Wachovia’s general counsel, had worked at Citi and knew the players, but was unable to persuade her former colleagues to soften their demands.

 

pages: 538 words: 121,670

Republic, Lost: How Money Corrupts Congress--And a Plan to Stop It by Lawrence Lessig

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asset-backed security, banking crisis, carried interest, cognitive dissonance, corporate personhood, correlation does not imply causation, crony capitalism, David Brooks, Edward Glaeser, Filter Bubble, financial deregulation, financial innovation, financial intermediation, invisible hand, jimmy wales, Martin Wolf, meta analysis, meta-analysis, Mikhail Gorbachev, moral hazard, place-making, profit maximization, Ralph Nader, regulatory arbitrage, rent-seeking, Ronald Reagan, Silicon Valley, single-payer health, The Wealth of Nations by Adam Smith, too big to fail, upwardly mobile, WikiLeaks, Zipcar

As Lowenstein describes it, “Wall Street institutions emerged from the crisis more protected than ever.”46 “For better or worse,” as Tyler Cowen wrote after the reform bill was passed, “we’re handing out free options on recovery, and that encourages banks to take more risk.”47 Hacker and Pierson quote “two New York Times reporters describing Wall Street executives as ‘privately relieved that the bill [did] not do more to fundamentally change how the industry does business.’ ”48 Sebastian Mallaby “put [it most] simply”: “government actions have decreased the cost of risk for too-big-to-fail players; the result will be more risk taking. The vicious cycle will go on until governments are bankrupt.”49 How was this non-reform reform bill passed? Contributions by groups opposed to even the much tamer reform bill that Congress passed were more than $25 million, two and a half times the contributions of groups supporting the reform. Likewise, lobbying in 2010 by interests opposed to reform was more than $205 million. Lobbying by interests supporting reform: about $5 million.50 The result: The critical reform necessary cieormto secure our economy has not been made. Our banks were too big to fail in the past. They have only gotten bigger, with even more certainty that they will not be permitted to fail in the future.

See also Rajan, Fault Lines, 112–14. 40. Rajan, c. Rnt>, 148. 41. Simon Johnson and James Kwak, 13 Bankers (New York: Pantheon Books, 2010), 151–52. The change was in the Federal Deposit Insurance Corporation Improvement Act of 1991. 42. Ibid., 180. In a later analysis, Kwak writes “that the [‘too big to fail’] subsidy exists, even after controlling for other factors that explain bank funding costs, and that it is in the range of 50 to 73 basis points.” James Kwak, “Who Is Too Big to Fail?” Presented at “New Ideas for Limiting Bank Size,” conference of the Fordham Corporate Law Center, Fordham Law School, New York, March 12, 2010, 26. 43. Financial Crisis Inquiry Commission, Financial Crisis Inquiry Report (2011), 58. 44. Rajan, Fault Lines, 122. 45. Ibid., 143, citing Michiyo Nakamoto and David Wighton, Citigroup Chief Stays Bullish on Buyouts,” Financial Times, July 9, 2007. 46.

“The obvious explanation,” Raghuram Rajan writes, “is that [they] did not think they would need to bear losses because the government would step in.”40 Simon Johnson and James Kwak point to at least one case in which the financial executives of one major bank calibrated the risk they would take based upon the government’s decision to expand the bailout capacity of the Federal Reserve.41 They and others have pointed to the discount the market gave big banks for their cost of capital as evidence that the market believed those banks “too big to fail”: “Large banks were able to borrow money at rates 0.78 percentage points more cheaply than smaller banks, up from an average of 0.29 percentage points from 2000 through 2007.”42 Harvey Miller, the bankruptcy counsel for Lehman Brothers, was even more explicit than this: As he told the Financial Crisis Inquiry Commission, hedge funds “expected the Fed to save Lehman, based on the Fed’s involvement in [previous crises].

 

pages: 549 words: 147,112

The Lost Bank: The Story of Washington Mutual-The Biggest Bank Failure in American History by Kirsten Grind

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asset-backed security, bank run, banking crisis, big-box store, call centre, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, housing crisis, Maui Hawaii, mortgage debt, naked short selling, NetJets, shareholder value, short selling, Skype, too big to fail, Y2K

One reporter noted that the only difference between Continental and the Titanic was that the Titanic had had a band. After Reuters ran a story suggesting Continental would file for bankruptcy, the bank’s customers began withdrawing their money. Other banks stepped up with a $4.5 billion bailout package to help Continental, fearful of what its failure could mean to the industry. The money wasn’t enough. The federal government had to decide: Was Continental too big to fail? It was the first time the description arose. (An acronym was born: TBTF.) If too many other financial institutions and companies were tied up with it, the bank’s failure could spark an even bigger crisis. The government looked for another company to buy Continental but couldn’t find one. Finally, it cobbled together a bailout package that included buying some of the bank’s $400 million in bad loans and propping it up with capital.

The day after WaMu failed, when a reporter from The Seattle Times called, asking for a quote, he unleashed his anger.3 “That it comes to a demise like this is absolutely pathetic,” he said. “It was a great institution for 110 years or more, and to see it so mishandled that it would be the largest bank failure in the country is abominable, to put it mildly.” While the debate over whether banks had grown too large (“too big to fail”) had entered popular consciousness, Pepper didn’t think that was the problem at WaMu. “Big institutions can succeed,” he told the newspaper, “but they have to be run like little institutions. You have to give autonomy to the branches, and have people being nice to each other. You can’t have this monolith.” As Wisdorf’s memorial began, a group of WaMu employees surrounded Pepper, moving him and Mollie to a seat at the back of the restaurant, away from Killinger.

Other books that I refer to frequently deserve mention. On the roots of the financial crisis: All the Devils Are Here: The Hidden History of the Financial Crisis by Bethany McLean and Joe Nocera. On the early years at Long Beach Mortgage: The Monster: How a Gang of Predatory Lenders and Wall Street Bankers Fleeced America—and Spawned a Global Crisis by Michael W. Hudson. On the ticktock of the crucial months of the crisis in 2008: Too Big to Fail by Andrew Ross Sorkin. And on JPMorgan Chase: Last Man Standing: The Ascent of Jamie Dimon and JPMorgan Chase by Duff McDonald. To research Long Beach Mortgage, I took a weeks-long road trip to Southern California, interviewing brokers and account executives at Long Beach and at other companies in the subprime industry. I waded through property records at a government office building in Los Angeles County to find subprime borrowers of WaMu and drove hundreds of miles around the county to talk to them.

 

Undoing the Demos: Neoliberalism's Stealth Revolution by Wendy Brown

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Affordable Care Act / Obamacare, bitcoin, Branko Milanovic, Capital in the Twenty-First Century by Thomas Piketty, collective bargaining, corporate governance, credit crunch, crowdsourcing, David Brooks, Food sovereignty, haute couture, immigration reform, income inequality, invisible hand, labor-force participation, late capitalism, means of production, new economy, obamacare, occupational segregation, Ronald Reagan, shareholder value, sharing economy, The Chicago School, the market place, The Wealth of Nations by Adam Smith, Thomas Malthus, too big to fail, trickle-down economics, Washington Consensus, Wolfgang Streeck, young professional

Halbertal, On Sacrifice, pp. 63–67. 34. This is not true of strategic sacrifice in a game, such as chess, where one calculates the gains expected from the move. 35. According to many analysts, the “too big to fail” problem is far worse than it was in 2008. “The six largest banks in the nation now have 67% of all the assets in the U.S. financial system, according to bank research firm SNL Financial. That amounts to $9.6 trillion, up 37% from five years ago.” Stephen Gandel, “By Every Measure, the Big Banks are Bigger,” CNN Money, September 13, 2013, http://finance.fortune.cnn.com/2013/09/13/too-big-to-fail-banks. 36. Hubert and Mauss, Sacrifice, pp. 98–99. 37. Girard, “Violence and the Sacred,” p. 247. 38. Ibid., p. 247. 39. Ibid., p. 248. 40. See Nicholas Xenos, “Buying Patriotism,” Pioneer, November 12, 2012, http://pioneerwired.x10.mx. 278  n o t e s 41.

Financialization also spurs the state to develop derivative markets of its own in everything from terror prediction to student loans and mortgages. 6) The rise of “governance,” the meshing of political and business lexicons through which neoliberal reason is disseminated; the antipathy of governance to politics; and the displacement of the rule of law with instruments of governance such as benchmarks, guidelines, buyins, and best practices. 7) The transformation of economic actors and action by governance such that teamwork, responsibilization, and stakeholder consensus replace individual interest; the shift, in short from a neoliberal discourse of free subjects to a discourse featuring more explicitly governed, “responsibilized,” and managed subjects. 8) The way that governance integrates self-investing and responsibilized human capital into the project of a growing economy, further mitigating the importance of individual “interests” and freedom. 9) As elements of this governance, the combination of devolved authority and responsibilization of the subject, which together intensify the effect of “omnes et singulatim” — all and each — power exercised through massification and isolation. 10) The way these features of governance and human capital generate a citizen who is both integrated into and identified with the project C h a r t in g N eo l ib e r a l P o l i t i c a l R at i o n a l i t y   71 of the economic health of a nation, a citizen who can be legitimately shed or sacrificed when necessary, especially in the context of austerity politics. 11) The way that “too big to fail” has as its complement “too small to protect”: where there are only capitals and competition among them, not only will some win while others lose (inequality and competition unto death replaces equality and commitment to protect life), but some will be rescued and resuscitated, while others will be cast off or left to perish (owners of small farms and small businesses, those with underwater mortgages, indebted and unemployed college graduates).

Rather, the putative aim is restoration of economic and state fiscal “health,” a return from the brink of bankruptcy, currency collapse, debt default, or credit downgrade. Moreover, the addressee of sacrifice is not the nation, not the demos, but the spectacularly imbricated state and economy on which all life depends, but which also command destruction and deprivation. In the 2008 subprime mortgage crisis, for example, 700 billion taxpayer dollars and over five million homeowners were fed to banks “too big to fail.”35 Thus we are returned to the religious valence of sacrifice. In shared sacrifice for economic restoration, we sacrifice “to,” rather than “for,” and make an offering to a supreme power on which we are radically dependent, but that owes us nothing. We are called to offer life to propitiate and regenerate its life-giving capacities . . .  but without any guarantee that the benefits of this sacrifice will redound to us.

 

pages: 593 words: 189,857

Stress Test: Reflections on Financial Crises by Timothy F. Geithner

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Affordable Care Act / Obamacare, asset-backed security, Atul Gawande, bank run, banking crisis, Basel III, Bernie Madoff, Bernie Sanders, Buckminster Fuller, Carmen Reinhart, central bank independence, collateralized debt obligation, correlation does not imply causation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, David Brooks, Doomsday Book, eurozone crisis, financial innovation, Flash crash, Goldman Sachs: Vampire Squid, housing crisis, Hyman Minsky, illegal immigration, implied volatility, London Interbank Offered Rate, Long Term Capital Management, margin call, market fundamentalism, Martin Wolf, McMansion, Mexican peso crisis / tequila crisis, moral hazard, mortgage debt, Nate Silver, Northern Rock, obamacare, paradox of thrift, pets.com, price stability, profit maximization, pushing on a string, quantitative easing, race to the bottom, RAND corporation, regulatory arbitrage, reserve currency, Saturday Night Live, savings glut, short selling, sovereign wealth fund, The Great Moderation, The Signal and the Noise by Nate Silver, Tobin tax, too big to fail, working poor

These changes—along with the new limits on concentration, the stronger shock absorbers across the system, and the “systemic surcharge” imposing higher capital requirements on the largest banks—are quietly reducing the risks of too-big-to-fail. As the FDIC has formalized its rules for resolution authority, the rating agencies have reduced their “ratings uplift” for the unsecured debt of larger banks; they’re no longer considered negligible default risks regardless of their financial condition, because markets are less confident the government would step in to save them if they fail. Today, many small and midsize institutions pay less to borrow than the supposedly too-big-to-fail banks. On a less positive note, Dodd-Frank’s elimination of the broader FDIC guarantee authority, together with the loss of the Fed’s power to lend to individual nonbanks, leaves the financial system weaker and more exposed to future panics.

But while the century-old insurer had become a three-letter symbol of excessive risk, AIG also had tens of millions of innocent policyholders and pensioners who depended on it, plus tens of thousands of derivatives contracts with businesses around the world. A default on its debts or even a downgrade of its credit rating would reignite the panic. Citi and Bank of America were the biggest of the bombs, Exhibits A and B for the outrage over “too big to fail” banks; my aides called them the Financial Death Stars. But the world was so fragile, and they really were so big, that if we didn’t want a reprise of the Depression—an obliterated banking sector, 25 percent unemployment, thousands of businesses shuttered—we had to make sure they didn’t drag down the system, even if it looked like we were rewarding the reckless. That was a lot to dump on a new president’s plate.

As the British statesman David Lloyd George once said, “Financiers in a fright do not make a heroic picture.” While the direct impact of Bear’s failure would be bad, the real danger was that it would spark runs or margin calls on other firms perceived to have similar vulnerabilities or exposure to counterparties with similar vulnerabilities, triggering a chain reaction of fear and uncertainty that could imperil the entire system. “Too big to fail” has become the catchphrase of the crisis, but that night, our fear was that Bear was “too interconnected to fail” without causing catastrophic damage. And it was impossible to guess the magnitude of that damage. There were too many other firms that looked like Bear in terms of their leverage, their dependence on short-term funding, and their exposure to devastating losses as the housing market dropped and recession fears mounted.

 

pages: 457 words: 128,838

The Age of Cryptocurrency: How Bitcoin and Digital Money Are Challenging the Global Economic Order by Paul Vigna, Michael J. Casey

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3D printing, Airbnb, altcoin, bank run, banking crisis, bitcoin, blockchain, Bretton Woods, California gold rush, capital controls, carbon footprint, clean water, collaborative economy, collapse of Lehman Brothers, Columbine, Credit Default Swap, cryptocurrency, David Graeber, disintermediation, Edward Snowden, Elon Musk, ethereum blockchain, fiat currency, financial innovation, Firefox, Flash crash, Fractional reserve banking, hacker house, Hernando de Soto, high net worth, informal economy, Internet of things, inventory management, Julian Assange, Kickstarter, Kuwabatake Sanjuro: assassination market, litecoin, Long Term Capital Management, Lyft, M-Pesa, Mark Zuckerberg, McMansion, means of production, Menlo Park, mobile money, money: store of value / unit of account / medium of exchange, Network effects, new economy, new new economy, Nixon shock, offshore financial centre, payday loans, peer-to-peer lending, pets.com, Ponzi scheme, prediction markets, price stability, profit motive, RAND corporation, regulatory arbitrage, rent-seeking, reserve currency, Robert Shiller, Robert Shiller, Satoshi Nakamoto, seigniorage, shareholder value, sharing economy, short selling, Silicon Valley, Silicon Valley startup, Skype, smart contracts, special drawing rights, Spread Networks laid a new fibre optics cable between New York and Chicago, Steve Jobs, supply-chain management, Ted Nelson, The Great Moderation, the market place, the payments system, The Wealth of Nations by Adam Smith, too big to fail, transaction costs, tulip mania, Turing complete, Tyler Cowen: Great Stagnation, Uber and Lyft, underbanked, WikiLeaks, Y Combinator, Y2K, Zimmermann PGP

However, the freelance journalist: Ryan Selkis, “Dark Wallets Are a Regulatory Nightmare for Bitcoin,” TwoBitIdiot blog, May 1, 2014, http://two-bit-idiot.tumblr.com/post/84454892629/dark-wallets-are-a-regulatory-nightmare-for-bitcoin. 11. A New New Economy has by many measures only got more intense since that crisis: Luke Johnson, “Elizabeth Warren: ‘Too Big to Fail Is Worse Than Before Financial Crisis,” Huffington Post, November 12, 2013, http://www.huffingtonpost.com/2013/11/12/elizabeth-warren-too-big-to-fail_n_4260871.html. the widest wealth gap since the Great Depression: Scott Neuman, “Study Says America’s Income Gap Widest Since Great Depression,” NPR, September 10, 2013, http://www.npr.org/blogs/thetwo-way/2013/09/10/221124533/study-says-americas-income-gap-widest-since-great-depression. As former U.S. vice president Al Gore put it: Al Gore, “The Turning Point: New Hope for the Climate,” Rolling Stone, June 18, 2014, http://www.rollingstone.com/politics/news/the-turning-point-new-hope-for-the-climate-20140618.

Nixon’s audacious move had one desired effect: it drove down the dollar’s exchange rate and sparked a revival in U.S. exports. It also created huge new opportunities for Wall Street to develop foreign-exchange trading. Now that the dollar was no longer pegged to gold, banks could take their credit-creation business global, setting the stage for the globalization of the world economy. It also paved the way to the multinational megabanks that would become too big to fail … and all the problems these would create. The happy experience of American manufacturing’s post-1971 revival was quickly marred by a new, entirely predictable scourge. Coupled with the oil blockade imposed by petroleum-exporting nations in 1973, the weaker and unhinged dollar immediately generated inflation; as the value of the world’s most important currency sank, the price of all the goods and services it bought rose.

In part that’s because we are still letting central bankers do our dirty work, allowing the drug of easy money to keep things afloat while Washington locks itself in acrimonious, self-interested gridlock. The Fed’s zero-interest-rate policies and more than $3 trillion in bond-buying, along with similar actions from its counterparts in Europe and Japan, have forestalled disaster. But little has been done to resolve the long-term fiscal imbalances in the United States or to restructure a financial system dominated by the same TBTF (too big to fail) banks. The structural flaws of the European monetary system, with its untenable split between its political and monetary functions, are still firmly in place even after having been exposed when Greece, Ireland, Portugal, Spain, and then Italy all plunged into crisis from 2010 on. Meanwhile, in an entirely globalized economy in which the dollar is the currency of the world, not merely that of the United States, the limitations of a monetary policy dictated by domestic political imperatives have also been exposed.

 

pages: 351 words: 102,379

Too big to fail: the inside story of how Wall Street and Washington fought to save the financial system from crisis--and themselves by Andrew Ross Sorkin

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affirmative action, Asian financial crisis, Berlin Wall, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Fall of the Berlin Wall, fear of failure, fixed income, Goldman Sachs: Vampire Squid, housing crisis, indoor plumbing, invisible hand, London Interbank Offered Rate, Long Term Capital Management, margin call, market bubble, Mikhail Gorbachev, moral hazard, NetJets, Northern Rock, oil shock, paper trading, risk tolerance, rolodex, Ronald Reagan, savings glut, shareholder value, short selling, sovereign wealth fund, supply-chain management, too big to fail, value at risk, éminence grise

TOO BIG TO FAIL Andrew Sorkin PROLOGUE Standing in the kitchen of his Park Avenue apartment, Jamie Dimon poured himself a cup of coffee, hoping it might ease his headache. He was recovering from a slight hangover, but his head really hurt for a different reason: He knew too much. It was just past 7:00 a.m. on the morning of Saturday, September 13, 2008. Dimon, the chief executive of JP Morgan Chase, the nation’s third-largest bank, had spent part of the prior evening at an emergency, all-hands-on-deck meeting at the Federal Reserve Bank of New York with a dozen of his rival Wall Street CEOs. Their assignment was to come up with a plan to save Lehman Brothers, the nation’s fourth-largest investment bank—or risk the collateral damage that might ensue in the markets. To Dimon it was a terrifying predicament that caused his mind to spin as he rushed home afterward.

For the past decade I have covered Wall Street and deal making for the New York Times and have been fortunate to do so during a period that has seen any number of remarkable developments in the American economy. But never have I witnessed such fundamental and dramatic changes in business paradigms and the spectacular self-destruction of storied institutions. This extraordinary time has left us with a giant puzzle—a mystery, really—that still needs to be solved, so we can learn from our mistakes. This book is an effort to begin putting those pieces together. At its core Too Big to Fail is a chronicle of failure—a failure that brought the world to its knees and raised questions about the very nature of capitalism. It is an intimate portrait of the dedicated and often baffled individuals who struggled—often at great personal sacrifice but just as often for self-preservation—to spare the world and themselves an even more calamitous outcome. It would be comforting to say that all the characters depicted in this book were able to cast aside their own concerns, whether petty or monumental, and join together to prevent the worst from happening.

It would be comforting to say that all the characters depicted in this book were able to cast aside their own concerns, whether petty or monumental, and join together to prevent the worst from happening. In some cases, they did. But as you’ll see, in making their decisions, they were not immune to the fie rce rivalries and power grabs that are part of the long-established cultures on Wall Street and in Washington. In the end, this drama is a human one, a tale about the fallibility of people who thought they themselves were too big to fail. CHAPTER ONE The morning air was frigid in Greenwich, Connecticut. At 5:00 a.m. on March 17, 2008, it was still dark, save for the headlights of the black Mercedes idling in the driveway, the beams illuminating patches of slush Mercedes idling in the driveway, the beams illuminating patches of slush that were scattered across the lawns of the twelve-acre estate. The driver heard the stones of the walkway crackle as Richard S.

 

pages: 381 words: 101,559

Currency Wars: The Making of the Next Gobal Crisis by James Rickards

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Asian financial crisis, bank run, Benoit Mandelbrot, Berlin Wall, Big bang: deregulation of the City of London, Black Swan, borderless world, Bretton Woods, BRICs, British Empire, business climate, capital controls, Carmen Reinhart, Cass Sunstein, collateralized debt obligation, complexity theory, corporate governance, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency peg, Daniel Kahneman / Amos Tversky, Deng Xiaoping, diversification, diversified portfolio, Fall of the Berlin Wall, family office, financial innovation, floating exchange rates, full employment, game design, German hyperinflation, Gini coefficient, global rebalancing, global reserve currency, high net worth, income inequality, interest rate derivative, Kenneth Rogoff, labour mobility, laissez-faire capitalism, liquidity trap, Long Term Capital Management, mandelbrot fractal, margin call, market bubble, Mexican peso crisis / tequila crisis, money: store of value / unit of account / medium of exchange, Network effects, New Journalism, Nixon shock, offshore financial centre, oil shock, open economy, paradox of thrift, price mechanism, price stability, private sector deleveraging, quantitative easing, race to the bottom, RAND corporation, rent-seeking, reserve currency, Ronald Reagan, sovereign wealth fund, special drawing rights, special economic zone, The Myth of the Rational Market, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, Thomas Kuhn: the structure of scientific revolutions, time value of money, too big to fail, value at risk, War on Poverty, Washington Consensus

I recalled how my brothers and I used to fight over the rules in Risk as kids and often had to dig the Parker Brothers rulebook out of the game box to settle disputes. Now we had a war game rulebook, but this would go quite differently. I wanted to break as many rules as I could to help the Pentagon understand how capital markets really work in an age of greed, deregulation and bad intent. Wall Street was like the Wild West in the best of times, but with globalization and too-big-to-fail government backing, it was now even more out of control. After a few hours of instruction, orientation and snap training on the groupware, we broke out to our separate capitals to work on move one. This broadly involved a long-term trade agreement between Russia and Japan that would reduce the availability of Russian oil and natural gas to the rest of the world. The big idea in move one was that Russia would leverage its natural resources to improve its foreign currency reserve position.

The Federal Reserve The U.S. Federal Reserve System is the most powerful central bank in history and the dominant force in the U.S. economy today. The Fed is often described as possessing a dual mandate to provide price stability and to reduce unemployment. The Fed is also expected to act as a lender of last resort in a financial panic and is required to regulate banks, especially those deemed “too big to fail.” In addition, the Fed represents the United States at multilateral central-bank meeting venues such as the G20 and the Bank for International Settlements, and conducts transactions using the Treasury’s gold hoard. The Fed has been given new mandates under the Dodd-Frank reform legislation of 2010 as well. The “dual” mandate is more like a hydra-headed monster. From its creation in 1913, the most important Fed mandate has been to maintain the purchasing power of the dollar; however, since 1913 the dollar has lost over 95 percent of its value.

Meanwhile the car careens wildly, like something from a scene in Mad Max. The destructive legacy of financial economics, with its false assumptions about randomness, efficiency and normal risk distributions, is hard to quantify, but $60 trillion in destroyed wealth in the months following the Panic of 2008 is a good estimate. Derivatives contracts did not shift risk to strong hands; instead derivatives concentrated risk in the hands of those too big to fail. VaR did not measure risk; it buried it behind a wall of equations that intimidated regulators who should have known better. Human nature and all its quirks were studiously ignored by the banks and regulators. When the financial economy was wrecked and its ability to aid commerce was well and truly destroyed, the growth engine went into low gear and has remained there ever since. Washington and Wall Street—the Twin Towers of Deception By the start of the new currency war in 2010, central banking was based not on principles of sound money but on the ability of central bankers to use communication to mislead citizens about their true intentions.

 

pages: 372 words: 107,587

The End of Growth: Adapting to Our New Economic Reality by Richard Heinberg

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3D printing, agricultural Revolution, back-to-the-land, banking crisis, banks create money, Bretton Woods, carbon footprint, Carmen Reinhart, clean water, cloud computing, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency peg, David Graeber, David Ricardo: comparative advantage, dematerialisation, demographic dividend, Deng Xiaoping, Elliott wave, en.wikipedia.org, energy transition, falling living standards, financial deregulation, financial innovation, Fractional reserve banking, full employment, Gini coefficient, global village, happiness index / gross national happiness, I think there is a world market for maybe five computers, income inequality, invisible hand, Isaac Newton, Kenneth Rogoff, late fees, money: store of value / unit of account / medium of exchange, mortgage debt, naked short selling, Naomi Klein, Negawatt, new economy, Nixon shock, offshore financial centre, oil shale / tar sands, oil shock, peak oil, Ponzi scheme, post-oil, price stability, private military company, quantitative easing, reserve currency, ride hailing / ride sharing, Ronald Reagan, short selling, special drawing rights, The Wealth of Nations by Adam Smith, Thomas Malthus, Thorstein Veblen, too big to fail, trade liberalization, tulip mania, working poor

• A commodities boom (which drove up gasoline and food prices) and temporarily rising interest rates (especially on adjustable-rate mortgages) ultimately undermined consumer spending and confidence, helping to burst the housing bubble — which, once it started to deflate, set in motion a chain reaction of defaults and bankruptcies. Each element of that brief description has been unpacked at great length in books like Andrew Ross Sorkin’s Too Big to Fail and Bethany McLean’s and Joe Nocera’s All the Devils Are Here, and in the documentary film “Inside Job.”1 It’s old, sad news now, though many parts of the story are still controversial (e.g., was the problem deregulation or bad regulation?). And yet, many analyses overlook the fact that these events were manifestations of a deeper trend toward dramatically and unsustainably increasing debt, credit, and leverage.

In a landmark ruling in January 2011, the Massachusetts Supreme Court held that two banks foreclosed wrongly on two homeowners using suspect paperwork. Attorneys General in 50 states are investigating banks’ foreclosure processes. Many observers are questioning whether the banks actually technically own hundreds of billions of dollars’ worth of securitized mortgage assets on their balance sheets. If further court rulings go against the banks, the result could be fatal for several “too-big-to-fail” institutions. Investors who bought MBSs are filing fraud claims against the banks, arguing that these securities were never properly collateralized. Their claims against the banks could amount to trillions of dollars. The Federal government is implicated as well. Fannie Mae and Freddie Mac now face much higher losses on their portfolios of trillions of dollars’ worth of home mortgages, and will therefore likely have to turn to the government for further capital infusions.

Under these circumstances, national governments and central banks (including the IMF, which acts somewhat as a global central bank) will be the only entities capable of keeping banking systems, and hence the global economy as a whole, functioning. Governments and central banks will be acting under the assumption that they are merely priming the pump of the economy until conventional consumer-driven growth resumes. But as growth fails to revive, one intervention after another will be required — propping up major banks, guaranteeing hundreds of billions of dollars’ worth of mortgages, or bailing out “too-big-to-fail” businesses. The result will be an incremental government takeover of large swaths of national economies, with central banks assuming more of the functions of commercial banking, and national governments underwriting production and even consumption. In the US, this process will be enormously complicated by politics. One of the two main political parties is making resistance to expansion of government spending the centerpiece of its platform.

 

pages: 370 words: 102,823

Rethinking Capitalism: Economics and Policy for Sustainable and Inclusive Growth by Michael Jacobs, Mariana Mazzucato

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3D printing, balance sheet recession, banking crisis, Bernie Sanders, Bretton Woods, business climate, Carmen Reinhart, central bank independence, collaborative economy, complexity theory, conceptual framework, corporate governance, corporate social responsibility, credit crunch, Credit Default Swap, crony capitalism, David Ricardo: comparative advantage, decarbonisation, deindustrialization, dematerialisation, Detroit bankruptcy, double entry bookkeeping, Elon Musk, energy security, eurozone crisis, factory automation, facts on the ground, fiat currency, Financial Instability Hypothesis, financial intermediation, forward guidance, full employment, Gini coefficient, Growth in a Time of Debt, Hyman Minsky, income inequality, Internet of things, investor state dispute settlement, invisible hand, Isaac Newton, Joseph Schumpeter, Kenneth Rogoff, knowledge economy, labour market flexibility, low skilled workers, Martin Wolf, Mont Pelerin Society, neoliberal agenda, Network effects, new economy, non-tariff barriers, paradox of thrift, price stability, private sector deleveraging, quantitative easing, QWERTY keyboard, railway mania, rent-seeking, road to serfdom, savings glut, Second Machine Age, secular stagnation, shareholder value, sharing economy, Silicon Valley, Steve Jobs, the built environment, The Great Moderation, The Spirit Level, Thorstein Veblen, too big to fail, total factor productivity, transaction costs, trickle-down economics, universal basic income, very high income

An empirical study by Philippon and Reshef shows that in the past two decades workers in the financial industry have enjoyed a huge ‘pay-premium’ with respect to similar sectors, which cannot be explained by the usual proxies for productivity (such as the level of education or unobserved ability). According to their estimates, financial sector compensations have been about 40 per cent higher than the level that would have been expected under perfect competition.30 It is also well documented that banks deemed ‘too big to fail’ enjoy a rent due to an implicit state guarantee. Investors know that these large financial institutions can count, in effect, on a government guarantee, and thus they are willing to provide them funds at lower interest rates. The big banks can thus prosper not because they are more efficient or provide better service but because they are in effect subsidised by taxpayers. There are other reasons for the super-normal returns to the large banks and their bankers.

For a discussion of the kinds of reforms in tax and corporate governance laws that might make a difference, see J. E. Stiglitz, Rewriting the Rules, Hyde Park, NY, The Roosevelt Institute, May 2015. 30 T. Philippon and A. Reshef, ‘Wages and human capital in the US financial industry: 1909–2006’, The Quarterly Journal of Economics, vol. 127, no. 4, 2012, pp. 1551–609. 31 D. Baker and T. McArthur, The Value of the ‘Too Big to Fail’ Big Bank Subsidy, Center for Economic and Policy Social Research Issue Brief, September 2009. For a different view, see United States Government Accountability Office, Large Bank Holding Companies: Expectations of Government Support, 2014, GAO-14-621, Washington, DC, United States General Accounting Office, which argues that funding advantages existed before the recent financial crash but disappeared afterwards. 32 See L.

This often takes the form of offering tax breaks, exemption from labour and other laws and other special treatment, in deals between public officials and corporate representatives. Large firms threaten to relocate to another country unless they are permitted to negotiate the amount of tax they will pay. These actions distort the level playing field that the market requires, usually privileging very large firms against smaller ones. Rather different, but with similar outcomes, are the sectors that are ‘too big to fail’, those that are both dominated by a small number of firms and strategically important for a national (or the global) economy, such that the collapse of a small number of them could provoke a massive shock to the whole system. This was notoriously the case with the banking industry and to a lesser extent the motor industry after the 2008 crash, and some other industries, for example energy, fit this model too.2 These firms have managed to become defined as a collective good, and therefore as requiring protection from the market, just as much as did the national champions of the protectionist age.

 

Griftopia: Bubble Machines, Vampire Squids, and the Long Con That Is Breaking America by Matt Taibbi

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affirmative action, Affordable Care Act / Obamacare, Bernie Sanders, Bretton Woods, carried interest, clean water, collateralized debt obligation, collective bargaining, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, David Brooks, desegregation, diversification, diversified portfolio, Donald Trump, financial innovation, Goldman Sachs: Vampire Squid, Gordon Gekko, greed is good, illegal immigration, interest rate swap, laissez-faire capitalism, London Interbank Offered Rate, Long Term Capital Management, margin call, market bubble, medical malpractice, moral hazard, mortgage debt, obamacare, passive investing, Ponzi scheme, prediction markets, quantitative easing, reserve currency, Ronald Reagan, Sergey Aleynikov, short selling, sovereign wealth fund, too big to fail, trickle-down economics, Y2K, Yom Kippur War

At this writing, Tea Partiers in Tennessee have just launched protests against Republican senator Bob Corker for announcing his willingness to work with outgoing Democrat Chris Dodd on the Consumer Financial Protection Agency Act, a bill that is pitifully weak in its specifics but at least addresses some of the major causes of the financial crisis—including mandating a new resolution authority section that would help prevent companies from becoming too big to fail and would force banks to pay for their own bailouts in the future. The same Tea Partiers who initially rallied against bailouts of individual homeowners now find themselves protesting against new laws that would force irresponsible banks in the future to bail themselves out. How was this accomplished? Well, you have CNBC’s Larry Kudlow—a classic trickle-down capitalist from the cufflinks-and-coke-habit school that peaked in the 1980s—suddenly wrapping his usual Wall Street propaganda in Tea Party rhetoric.

The merger was frankly and openly illegal, precisely the sort of thing that Glass-Steagall had been designed to prevent—the dangerous concentration of capital in the hands of a single megacompany, creating potential conflicts of interest in which insurers and investment banks might be pressed to promote stocks or policies that benefit banks, not customers. Moreover, Glass-Steagall had helped prevent exactly the sort of situation we found ourselves subject to in 2008, when a handful of companies that were “too big to fail” went belly up thanks to their own arrogance and stupidity, and the government was left with no choice but to bail them out. But Weill was determined to do this deal, and he had the backing of Bill Clinton, Clinton’s Treasury secretary Bob Rubin (who would go on to earn $100-plus million at postmerger Citigroup), and, crucially, Alan Greenspan. Weill met with Greenspan early in the process and received what Weill called a “positive response” to the proposal; when the merger was finally completed, Greenspan boldly approved the illegal deal, using an obscure provision in the Bank Holding Company Act that allowed the merger to go through temporarily.

This dynamic allows the bank to suck wealth out of the economy and vitality out of the democracy at the same time, resulting in a snowballingly regressive phenomenon that pushes us closer to penury and oligarchy at the same time. They have been pulling this same stunt for decades, and they’re preparing to do it again. If you want to understand how we got into this crisis, you first have to understand where all the money went—and in order to understand that, you first need to understand what Goldman has already gotten away with, a history exactly three bubbles long. Goldman wasn’t always a too-big-to-fail Wall Street behemoth and the ruthless, bluntly unapologetic face of kill-or-be-killed capitalism on steroids—just almost always. The bank was actually founded in 1882 by a German Jewish immigrant named Marcus Goldman, who built it up with his son-in-law, Samuel Sachs. They were pioneers in the use of commercial paper, which is just a fancy way of saying they made money lending out short-term IOUs to small-time vendors in downtown Manhattan.

 

pages: 225 words: 11,355

Financial Market Meltdown: Everything You Need to Know to Understand and Survive the Global Credit Crisis by Kevin Mellyn

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asset-backed security, bank run, banking crisis, Bernie Madoff, bonus culture, Bretton Woods, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, cuban missile crisis, disintermediation, diversification, fiat currency, financial deregulation, financial innovation, financial intermediation, fixed income, Francis Fukuyama: the end of history, global reserve currency, Home mortgage interest deduction, Isaac Newton, joint-stock company, liquidity trap, London Interbank Offered Rate, margin call, market clearing, moral hazard, mortgage tax deduction, Northern Rock, offshore financial centre, paradox of thrift, pattern recognition, pension reform, pets.com, Plutocrats, plutocrats, Ponzi scheme, profit maximization, pushing on a string, reserve currency, risk tolerance, risk-adjusted returns, road to serfdom, Ronald Reagan, shareholder value, Silicon Valley, South Sea Bubble, statistical model, The Great Moderation, the payments system, too big to fail, value at risk, very high income, War on Poverty, Y2K, yield curve

More to the point, the seven banks with over 100 billion each in deposits accounted for about 40% of all deposits and roughly half the assets in the whole banking system. These mega-banks enjoyed vast scale and market share in everything from consumer finance to corporate lending. They were, as recent events prove, almost too big to be managed safely and effectively but they were too certainly too big to be allowed to fail without risking national economic calamity. Too big to fail continues to undermine efforts at effective and equitable regulation, however what motivated the banks was earnings growth. Market cap was the key to survival and buying earnings was far easier than growing them in highly competitive markets, Banks not only grew earnings by buying up bread and butter banking businesses but by expanding their securities businesses. The Federal Reserve was rather sympathetic to the large bank holding companies as they began to test the limits of Glass-Steagall.

In 1994 the largest New York bank, much weakened by market mishaps, was purchased by a financial conglomerate that included insurance and investment banking interests under a Fed waiver. In 1999 Congress finally bit the bullet and passed the Gramm-Leach-Bliley Act driving the last nail into the coffin of New Deal banking laws. Soon almost all the major commercial banks were bulking up their investment banking businesses and in several cases becoming global players. TOO BIG TO FAIL Wall Street soon discovered that having a big balance sheet to lend gave their less accomplished commercial bank rivals an inside track in attracting corporate business. The most venerable Wall Street partnership, Goldman Sachs, became a public company in 1999 the last of the broker dealers to do so. Armed with big capital bases the 159 160 FINANCIAL MARKET MELTDOWN American investment banks increased their overseas activities and came to dominate the global capital markets from London to Asia.

This means keeping a large enough stake in the banks to allow credit to become a political goody to be handed out like all other political goodies. The public seems to hate the idea of putting tax dollars into banks or keeping them there. That might prove decisive in preventing long-term government takeover of the financial economy. Second, how should the banks be governed? Here, public outrage is really only justified when banks that depend on being ‘‘too big to fail’’ push their luck too far. Even among the largest banks, some managed themselves far more responsibly than others. The problem is that many of the largest banks became too large to manage but are too big to let fail. We cannot remain their hostages, however, and the public understands this. Thus far, the handling of the crisis has caused the industry to become more consolidated into a few hands.

 

pages: 261 words: 64,977

Pity the Billionaire: The Unexpected Resurgence of the American Right by Thomas Frank

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Affordable Care Act / Obamacare, bank run, big-box store, bonus culture, collateralized debt obligation, collective bargaining, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, Deng Xiaoping, financial innovation, housing crisis, invisible hand, Naomi Klein, obamacare, payday loans, profit maximization, profit motive, road to serfdom, Ronald Reagan, shareholder value, strikebreaker, The Chicago School, The Myth of the Rational Market, Thorstein Veblen, too big to fail, union organizing, Washington Consensus, white flight, Works Progress Administration

But the financial rescue could have taken any of a dozen different forms. It could have put the “zombie banks” into receivership and commenced an orderly bankruptcy process, with no one allowed to get out of it by gimmicking their accounting. It could have broken up the banking industry and brought back strict regulation, along with a policy of zero tolerance for financial entities that are “too big to fail,” so that the temptation to rescue such institutions would disappear. Instead, our leaders allowed the biggest banks to get even bigger. They offered the banks an open-ended guarantee against failing without really restricting their activities—a guarantee that might well encourage them to bet on the riskiest propositions available, secure in the knowledge that the taxpayer would make good their losses.

And the notion that “real” capitalism can and should be quickly restored has been the entrepreneur’s panacea pretty much ever since small business surrendered pride of place to large-scale industry in the mid-nineteenth century. Similarly, the movement’s reverence for an imaginary past, for “taking our country back,” is merely a displaced longing for the distant days when small-business people were men of preeminence in their community. The conservative revival’s single-minded focus on bailouts stems from small business’s historic hostility toward monster banks, now reincarnated as “too big to fail” institutions and locked in an unholy union with monster government.* (“Congress spent billions of dollars in stimulus money to bail out big banks and financial institutions,” declared Congressman-to-be Pat Meehan of Pennsylvania in 2010. “But your average small business owner simply has not seen the benefits.”) Even the Tea Party’s famous agnosticism on social issues reflects small-business priorities.

These examples are all drawn from the first eighty pages of the Financial Crisis Inquiry Report: Final Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States (New York: Public Affairs, 2011). 4. John Lippert, “Friedman Would Be Roiled as Chicago Disciples Rue Repudiation,” Bloomberg, December 23, 2008. 5. Gary Becker, quoted in John Cassidy, “After the Blowup,” New Yorker, January 11, 2010. His colleagues, Becker further confessed, had not fully understood derivatives, deregulation, or the problem of banks that were “too big to fail.” Becker also admitted that federal intervention had spared the nation a much greater disaster. 6. Richard Posner, A Failure of Capitalism: The Crisis of ’08 and the Descent into Depression (Cambridge, MA: Harvard University Press, 2009), p. 306. The crash was the result, Posner wrote, of “innate limitations of the free market—limitations rooted in individuals’ incentives, in irresponsible monetary policy adopted and executed by conservative officials inspired by conservative economists … and in excessive, ideologically motivated deregulation of banking and finance compounded by lax enforcement of the remaining regulations.”

 

pages: 283 words: 77,272

With Liberty and Justice for Some: How the Law Is Used to Destroy Equality and Protect the Powerful by Glenn Greenwald

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Ayatollah Khomeini, banking crisis, Bernie Madoff, Clive Stafford Smith, collateralized debt obligation, crack epidemic, Credit Default Swap, credit default swaps / collateralized debt obligations, David Brooks, deskilling, financial deregulation, full employment, high net worth, income inequality, Julian Assange, nuremberg principles, Ponzi scheme, rolodex, Ronald Reagan, too big to fail, Washington Consensus, WikiLeaks

“It is hard to see how any of the fundamental problems in the system have been addressed to date,” Barofsky wrote. Banks that were said to be “too big to fail” are now “even larger,” and Wall Street is “more convinced than ever” that it will be saved from failure by the government, thus increasing the motivation to take enormous risks. Wall Street bonuses in the year immediately after the crisis reveal “little fundamental change” in troublesome compensation schemes, while federal efforts to support the housing market “risk reinflating that bubble.” Moreover, the so-called financial regulation legislation enacted by Congress in the summer of 2010 was so diluted by lobbyists and donors from the very industry it purported to regulate that the primary causes of the crisis—including the “too-big-to-fail” quandary and unregulated derivatives markets—went almost entirely unaddressed.

In October 2010, the New York Times columnist Frank Rich noted this lack of legal accountability. No matter how much Obama talks about his “tough” new financial regulatory reforms or offers rote condemnations of Wall Street greed, few believe there’s been real change. That’s not just because so many have lost their jobs, their savings and their homes. It’s also because so many know that the loftiest perpetrators of this national devastation got get-out-of-jail-free cards, that too-big-to-fail banks have grown bigger and that the rich are still the only Americans getting richer. Those responsible have plundered with impunity and kept their ill-gotten gains. Inside Job examined numerous Wall Street executives who, as the film put it, “destroyed their own companies and plunged the world into crisis” only to “walk away from the wreckage with their fortunes intact.” One of the film’s chief villains is Robert Rubin, the former Clinton treasury secretary and Goldman CEO, who made hundreds of millions of dollars at Citigroup while playing a central role in spawning the crisis.

Tammany Hall Tavakoli, Janet Taylor, Charles Teapot Dome scandal telecom companies campaign contributions and costs of lawsuits and lobbying and media and revolving door and retroactive immunity and warrantless eavesdropping and Tenet, George terHorst, Jerald terror, “war on,” Thailand Thomas Nast (Paine) Thoughts on Government (Adams) “Thoughts on Sentencing” (Klein) three-strikes laws Tilden, Samuel Time Time to Heal, A (Ford) Tonry, Michael “too-big-to-fail” problem torture Bush and Bush and Cheney admit to ordering CIA inspector general’s report on Democrats’ complicity in international law and media and Nuremberg principles and Obama fails to investigate Bush-era OLC memos on powerless prosecuted for public opinion and Total Information Awareness Treasury Department Tribe, Laurence Tseytlin, Misha Turley, Jonathan Tweed, William “Boss,” UBS bailout Ukraine unemployment United Auto Workers United Nations Day to Support Torture Victims Security Council U.S. attorney firings U.S.

 

pages: 484 words: 136,735

Capitalism 4.0: The Birth of a New Economy in the Aftermath of Crisis by Anatole Kaletsky

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bank run, banking crisis, Benoit Mandelbrot, Berlin Wall, Black Swan, bonus culture, Bretton Woods, BRICs, Carmen Reinhart, cognitive dissonance, collapse of Lehman Brothers, Corn Laws, correlation does not imply causation, credit crunch, currency manipulation / currency intervention, David Ricardo: comparative advantage, deglobalization, Deng Xiaoping, Edward Glaeser, Eugene Fama: efficient market hypothesis, eurozone crisis, experimental economics, F. W. de Klerk, failed state, Fall of the Berlin Wall, financial deregulation, financial innovation, Financial Instability Hypothesis, floating exchange rates, full employment, George Akerlof, global rebalancing, Hyman Minsky, income inequality, invisible hand, Isaac Newton, Joseph Schumpeter, Kenneth Rogoff, laissez-faire capitalism, Long Term Capital Management, mandelbrot fractal, market design, market fundamentalism, Martin Wolf, moral hazard, mortgage debt, new economy, Northern Rock, offshore financial centre, oil shock, paradox of thrift, peak oil, pets.com, Ponzi scheme, post-industrial society, price stability, profit maximization, profit motive, quantitative easing, Ralph Waldo Emerson, random walk, rent-seeking, reserve currency, rising living standards, Robert Shiller, Robert Shiller, Ronald Reagan, shareholder value, short selling, South Sea Bubble, sovereign wealth fund, special drawing rights, statistical model, The Chicago School, The Great Moderation, The Wealth of Nations by Adam Smith, Thomas Kuhn: the structure of scientific revolutions, too big to fail, Washington Consensus

As Mervyn King said six months later:16 “The world economy changed after the events of Lehman, but it wasn’t the failure of Lehman’s as such. What changed everything was the complete collapse of confidence in the financial system around the world [after Lehman].” Why did this happen? After all, Lehman was only a middle-sized bank with no customer deposits. It was not, by any normal definition, “too big to fail.” Investment banks of comparable size had failed in the past with no catastrophic damage, most notably Drexel Burnham Lambert in 1989. In the end, the total losses from Lehman’s bankruptcy came to about $75 billion.17 This was a lot of money by the standards of normal business bankruptcies, but modest in comparison with the multitrillion dollar write-downs already suffered by banks around the world before Lehman went down.

When governments left any doubt about which bank liabilities were protected, they usually ended up offering guarantees to all creditors, no matter how junior, in all banks, no matter how small. Constructive ambiguity, far from saving taxpayer money, has turned out to be the greatest source of moral hazard. This experience also refutes suggestions that moral hazard can be overcome by breaking up banks that are too big to fail. Breaking up some banking dinosaurs may well be sensible, for reasons of competition and managerial efficiency. But it is misleading to believe that any bank, however small, will be allowed to renege on its depositors or senior creditors in a period of systemic financial turmoil. Situations are bound to arise from time to time—perhaps only once every generation—when governments simply cannot allow any bank to fail.

Available from http://www.reuters.com/article/idUSTRE49735Z20081008. 4 Reflecting the argument in the rest of this chapter, Blinder said: “After Lehman, no financial institution seemed safe. So lending froze, and the economy sank like a stone. It was a colossal error and many people said so at the time.” See David Wessel, In Fed We Trust, 23. Tim Geithner reportedly shared this view: “Geithner thought that publicly drawing a ‘line in the sand’ during a financial crisis was lunacy.” Geithner quoted in Wessel, 15-16. 5 Andrew Ross Sorkin, Too Big to Fail, and Wessel, In Fed We Trust. 6 Milton Friedman and Anna Jacobson Schwartz, A Monetary History of the United States, 1867-1960. 7 Mellon’s role in the decision to liquidate the U.S. banking system was emphasized by Milton Friedman and also by President Hoover in his memoirs. Herbert Hoover, The Memoirs of Herbert Hoover: Vol. 3, The Great Depression, 28-30. R. G. Hawtrey of the British Treasury wrote in 1938 that Mellon and others who believed in 1930-1933 that excessive inflation posed the greatest threat were “crying ‘Fire!

 

pages: 435 words: 127,403

Panderer to Power by Frederick Sheehan

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Asian financial crisis, asset-backed security, bank run, banking crisis, Bretton Woods, British Empire, call centre, central bank independence, collateralized debt obligation, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, deindustrialization, diversification, financial deregulation, financial innovation, full employment, inflation targeting, interest rate swap, inventory management, Isaac Newton, Long Term Capital Management, margin call, market bubble, McMansion, Menlo Park, mortgage debt, new economy, Northern Rock, oil shock, place-making, Ponzi scheme, price stability, reserve currency, rising living standards, rolodex, Ronald Reagan, Sand Hill Road, savings glut, shareholder value, Silicon Valley, Silicon Valley startup, South Sea Bubble, supply-chain management, supply-chain management software, The Great Moderation, too big to fail, transaction costs, trickle-down economics, VA Linux, Y2K, Yom Kippur War

He lent money to brokers, bought the largest insurance company in the world (AIG), allowed overleveraged investment banks to convert themselves into commercial banks, thus permitting them to snuggle underneath the Fed’s too-big-to-fail umbrella. When the commercial paper market floundered, the Federal Reserve decided it would lend to corporations. (Commercial paper is used by large corporations to fund short term obligations.) Thus, General Electric, General Motors Acceptance Corporation, and American Express were among the companies fortunate enough to sell their paper to the Fed. Bernanke opened more borrowing facilities (at last count there were 16). Even when the credit markets heal, the precedent has been established, just as Continental Illinois was the precursor, in 1984, to too-big-to-fail-banks. General Electric Chairman Jeffrey Immelt wrote in his company’s 2009 annual report: “The interaction between government and business will change forever… [T]he government will be an industrial policy champion, a financier, a key partner.”15 The Mortgage Machine (see Chapter 22) showed what can happen when government plays a role similar to what Immelt envisioned.

The Continental Illinois National Bank and Trust bailout is an important precursor to the American financial crack-up. Continental Illinois was the nation’s sixth-largest bank and was overloaded with oil and gas loans and neck deep in sovereign loans.23 On May 17, 1984, a new era of financial collectivism was ushered into being. The Federal Deposit Insurance Corporation (FDIC) decided that the nation’s (by now) ninth-largest bank was “too big to fail.” The FDIC announced a $2 billion capital injection into the holding company. The government followed with other initiatives that are all too familiar today, including $3.4 billion borrowed from the Fed’s discount window.24 The government committed itself to insuring all deposits, not merely the $100,000 deposit limit.25 In addition, it also protected creditors of the holding company.26 This and other wrinkles of the bailout are interesting precedents, too involved to discuss here.

During the late housing boom, the Fed chairman gave many speeches extolling Americans’ rising wealth (house prices) while not addressing the fixed debt “which obviously does not decline” that home buyers acquired when buying those houses. 9 Dialogue between Greenspan and Proxmire about Greenspan’s record: Senate Committee on Banking, Housing and Urban Affairs transcript, July 21, 1987, pp. 41–42. The Leveraged Too-Big-to-Fail Megabank Foretold Dismal as Greenspan’s forecasting record was, Proxmire seemed more concerned about another topic: the growing concentration in banking. Greenspan was testifying during the great deregulation of banking. Initiatives, other than those mentioned in previous chapters, included authorization for commercial banks to cross state lines, to enter the brokerage business, and to change themselves into conglomerates offering all of the above services and more.

 

pages: 444 words: 151,136

Endless Money: The Moral Hazards of Socialism by William Baker, Addison Wiggin

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Andy Kessler, asset allocation, backtesting, bank run, banking crisis, Berlin Wall, Bernie Madoff, Black Swan, Branko Milanovic, Bretton Woods, BRICs, business climate, capital asset pricing model, corporate governance, correlation does not imply causation, credit crunch, Credit Default Swap, crony capitalism, cuban missile crisis, currency manipulation / currency intervention, debt deflation, Elliott wave, en.wikipedia.org, Fall of the Berlin Wall, feminist movement, fiat currency, fixed income, floating exchange rates, Fractional reserve banking, full employment, German hyperinflation, housing crisis, income inequality, index fund, inflation targeting, Joseph Schumpeter, laissez-faire capitalism, land reform, liquidity trap, Long Term Capital Management, McMansion, moral hazard, mortgage tax deduction, naked short selling, offshore financial centre, Ponzi scheme, price stability, pushing on a string, quantitative easing, RAND corporation, rent control, reserve currency, riskless arbitrage, Ronald Reagan, school vouchers, seigniorage, short selling, Silicon Valley, six sigma, statistical arbitrage, statistical model, Steve Jobs, The Great Moderation, the scientific method, time value of money, too big to fail, upwardly mobile, War on Poverty, Yogi Berra, young professional

Centralization, pyramiding, and removing readily used specie from circulation—the three twists to using precious metals as a currency reserve discussed above—offer nearly as much explanatory power over monetary trends through the beginning of the 20th century as do the use of gold or silver themselves as a reserve. The straining of our historic linkage to a hard reserve also mirrors a gradual shift in cultural norms from individual responsibility for failure and immediate financial correction to socialization of risk, redistribution of wealth, and statist economic intervention. The decentralized banking structure of the early 19th century kept moral hazard in check, as no institution was too big to fail, including national banks that would arise. By the 1920s restraining people and countries from converting cash to specie may have postponed the cleansing process of economic cycles, leading to a new height of speculation and the Great Depression. Later in this work the role cultural norms play in the selection of monetary systems will be explored. The most strident supporters of gold would advocate a 100 percent gold-coin-backed banking system; in the years just before the crisis of 2008, at the opposite end of the spectrum in recent times Federal Reserve governors and academicians spoke of the possibility of not having any reserves at all.

This action has one parallel historically, when Fed reserves mushroomed from $1.85 billion in February 1932 to $2.51 billion at the end of that year. This injection, which was partly made to accommodate a 122 ENDLESS MONEY federal government budget deficit of $3 billion, failed to discourage the destruction of some $3.2 billion of deposits, and a similar contraction of the money supply to $65 billion. In 2008, the Fed would explicitly espouse a “too big to fail” policy, having been blamed for causing the crisis by not saving Lehman Brothers. Although Bear Stearns was “saved” and Lehman Brothers was not, in reality the Fed’s reserve injections were widely disbursed, and later would be augmented by direct Treasury assistance through the Troubled Asset Relief Program (TARP). Internally, Fed officers called this the “finger in the dyke” strategy, implying that the 100-year flood of bad credit might magically recede in a reasonable period of time.

Over 50 percent of loans made are real estate related, including commercial real estate.2 The cottage industry of doom-and-gloom prognosticators has long predicted the end, but a more humble opinion might be that in this cycle we may be institutionalizing socialization of assets and debts as a priority, and that its cost will be less control over dilution of currency value (inflation), greater seigniorage (a tax that degrades incentives and therefore erodes capitalistic growth), and the concentration of risk into large institutions that are “too big to fail,” producing de-facto nationalization of banking. With the unanimous prescription of even greater regulation H 209 210 ENDLESS MONEY and oversight, our largest banking institutions may have become quasigovernment entities well before the federal government made a direct investment in the nation’s nine largest banks in October 2008. In early July 2008, the equity market value of Fannie Mae and Freddie Mac, the government-sponsored entities (GSEs) that control half the residential mortgage market, declined precipitously.

 

pages: 261 words: 103,244

Economists and the Powerful by Norbert Haring, Norbert H. Ring, Niall Douglas

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accounting loophole / creative accounting, Affordable Care Act / Obamacare, Albert Einstein, asset allocation, bank run, barriers to entry, Basel III, Bernie Madoff, British Empire, central bank independence, collective bargaining, commodity trading advisor, corporate governance, credit crunch, Credit Default Swap, David Ricardo: comparative advantage, diversified portfolio, financial deregulation, George Akerlof, illegal immigration, income inequality, inflation targeting, Jean Tirole, job satisfaction, Joseph Schumpeter, knowledge worker, labour market flexibility, law of one price, Long Term Capital Management, low skilled workers, market bubble, market clearing, market fundamentalism, means of production, minimum wage unemployment, moral hazard, new economy, obamacare, open economy, pension reform, Ponzi scheme, price stability, principal–agent problem, profit maximization, purchasing power parity, Renaissance Technologies, rolodex, Sergey Aleynikov, shareholder value, short selling, Steve Jobs, The Chicago School, the payments system, The Wealth of Nations by Adam Smith, too big to fail, transaction costs, ultimatum game, union organizing, working-age population, World Values Survey

In two countries with a particularly outsized banking sector, the UK and Switzerland, even the heads of the central banks broke the taboo and suggested that excessively big banks should be broken into smaller pieces. Interestingly, in both the UK and Switzerland, steps to force primary loss-absorbing capacity for “too big to fail” banks to more than twice that required by Basel III (to around 15–20 percent), and the separation of deposit operations from all other kinds of banking as the sole kind protected by government guarantee, are well under way – and up to the time of writing the dire warnings from bankers that banks would relocate in response have been ignored by policymakers. Unfortunately, the Fed has elected to implement the minimum required by Basel III for most banks, and is still deciding what capacity will apply to the eight largest “too big to fail” banks. It seems unlikely that they will be as principled and erudite as the British or Swiss. As of now, there isn’t much indication that banks are losing control.

The goal of the operation was usually cast as improving the international competitiveness of the banks of the respective nations or as increasing the attractiveness of the respective financial centers. These expressions cloak the goal of conferring profits to the banking sector into a respectable-seeming public purpose. The bigger the bank, the more valuable the implicit insurance subsidy by the government is. Big banks are too big to fail, and they know governments and central banks will bail them out if they run into trouble. Thus bigger banks can take on more risk and make more profit in good times than smaller banks. This is a recipe for ever-increasing bank size. The main argument of the banking lobby against 100 percent banking or 100 percent money has always been its potential to reduce the availability of credit. Fisher never took this argument very seriously.

Morgan (bank) 54, 59, 70, 87, 105 labor xii, 4–6, 8, 10, 18, 33–4, 137, 139, 141, 143, 146, 153–5, 157–9, 163–5, 167–73, 176, 178–83, 189–94, 197, 200, 203–5 legitimacy 16, 25 Lehman Brothers 17, 90, 94, 96 Leviathan (government) 210 liberty 8, 25, 207 liquidity xi, 66, 103–5, 112 London School of Economics 20, 27, 40, 144 Long-Term Capital Management (LCTM) 66, 92 macroeconomics 14 Madoff, Bernard 217 managerial power approach 119, 120, 124, 126, 132 marginal cost 142–4 marginal product 156–8, 189, 192 marginal rate of substitution 14 marginal utility 5–6, 13, 214 marginalism 1, 4–5 market forces x, 126, 169, 171–2, 180–82 market power xii, 154, 161, 164, 170, 203 Marshall, Alfred 5, 10, 16, 188, 193 Marx, Karl 5, 188, 198 Marxism 5–6, 10, 165 mass production 7, 15, 143, 161 Mazur, Paul 17–18 median voter theory 212, 214 Menger, Carl 5, 12 mercantilism 2–3 Merrill Lynch 90, 112, 133 Methuen Treaty 3 military vii, 3, 19–20, 22, 25, 45, 116, 208, 215 minimum wage 140–41, 154, 158, 183, 188–9, 192–7, 203–4 Mises, Ludwig von 12 monopoly viii, 9, 18, 26, 41, 86–7, 97–9, 142, 145–7, 149–54, 161, 171, 177 monopsony 153–4 Moody’s (ratings agency) 97–9 Morgan Stanley 49, 63, 90, 217 mutual fund 56, 58, 64–6, 68, 97, 134 NASDAQ 55 natural selection 167 negotiating power 160, 179, 205 net present value 159 new welfare economics 14, 19 news 53, 56, 114, 122, 143, 220 Nobel Prize 7, 17, 20, 22–4, 26, 44, 170, 186 Organisation for Economic Cooperation and Development (OECD) 20, 30, 41, 187, 189, 203 Olson, Mancur 23–4 optimal contracting 109, 119–20, 124, 126–7, 132 ordinalism 1, 11, 17, 21 outrage constraint 119–21, 124, 126–7, 136 outsourcing 165, 177, 184–6 over the counter (OTC) (derivatives) 90 Paretian welfare economics 14 Pareto, Vilfredo 12–13, 21, 157 INDEX pay-for-performance 95, 107–8, 111–12, 115, 119, 121–2, 126, 128, 139 pensions viii, 36, 39, 57, 58, 98, 113, 140, 134 perfect competition (economic) x, xii, 141–2, 145–6, 168, 187, 193 perfectly substitutable (economically) x performance-related pay 109, 111; see also pay-for-performance perverse incentive 113, 133 Pigou, Arthur C. 10, 188, 192–3, 198 Pimco (fund) 96, 215 Ponzi (scheme) 95, 217 poststructuralism 8 power viii–xii, 1–4, 8–9, 18, 25, 27–32, 42, 145, 147, 153–4, 159–61, 164, 166–8, 171, 174, 177–9, 184–7, 193, 198, 203–4 corporate 107–40 economic xii, 1, 32, 45, 46, 54, 208, 219 financial 47–106 informational 207–20 managerial (see managerial power approach) political ix, xii, 32, 86, 208, 210, 219 principal–agent theory 107 prisoner’s dilemma 38 private equity 68, 136 productivity (economic) ix, 10, 32, 34–6, 48, 79–80, 101, 137, 141, 146–7, 156, 171, 173, 176, 178, 180, 186, 189, 192, 194, 196, 201, 204–5 professions, the viii, 1, 25 profit xii, 2, 7, 43, 46, 54–6, 59, 61–2, 65, 68, 76, 82–3, 85, 91, 97, 99– 100, 105, 109–10, 112–13, 118, 127–8, 130, 135, 137, 141–3, 145–50, 153, 155, 157, 159–60, 164, 166, 171, 173, 175, 177–9, 184, 186, 197, 205, 215–16 profitability 49, 53, 60, 74, 84, 95, 97, 100, 132–3, 139, 143, 151, 183, 191, 194 245 profit margin 3, 195 profit maximization 120, 143, 147, 149–51 property rights 22, 215 public relations (PR) 15–16 quadratic weighting (inflation) 33 rating agencies x, 97–100 rational choice movement 1, 21–3, 25, 214 raw materials 2–3, 184 redistribution 10, 12, 19, 39, 161, 186, 210, 213 representative agent 14 reserve requirement 82–4, 103–4 risk management 94 Robbins, Lionel 12–13, 17, 21, 210–11 Robinson, Joan 146, 159–60, 208 Ross, Edward 9–10, 18, 38 Rothschild, Mayer Amschel 72–3, 75 S&P 500 110, 120 Samuelson, Paul 159–60 Sarbanes–Oxley Act 92, 99, 123 Schumpeter, Joseph 19 Second (Workingmen’s) International 5 Second World War 2, 18–19, 30, 79–80 Securities and Exchange Commission (SEC) 52–3, 69, 90, 93–4, 97–8, 115, 123–4, 130, 217 securitization 112 selfishness 7, 38, 40, 108, 167, 170, 211, 213 shareholder franchise 133 shareholders xii, 93, 102, 107–10, 112–15, 120–22, 128, 131, 133–6, 138 SMD assumptions/conditions 7, 14 Smith, Adam 3–4, 42, 155, 163, 188, 198 social norms 38, 108, 117, 120, 135, 138–9, 164 social security 36, 39, 188, 198–9 246 ECONOMISTS AND THE POWERFUL socialism 5–6 , 9–10, 19, 24, 27, 193 Solow, Robert 159 Sonnenschein–Mantel–Debreu theorem: see SMD assumptions/ conditions Soros, George 47, 67, 105 spring loading (stock options) 122 Squam Lake Group 44 Sraffa, Piero 141, 144, 159–60 staggered board (of directors) 126, 134 stagnation 32, 101, 218 stakeholders xii, 107–8, 117, 136–7 Standard & Poor’s (rating agency) 97, 99 Stanford University 10, 18, 93 stock option backdating 122 stock options 43, 67, 92–3, 96, 108–10, 112–13, 120, 122–5, 128, 131–3 structural reforms 188–9 subprime xi, 43, 47, 69–71, 82, 88, 90, 95, 97–8, 101, 105, 108, 111, 113, 120, 133, 136, 205, 217 supply and demand 108, 167 sustainability ix, 13 Syracuse University 9 takeover 70, 102, 113, 126, 135 tariffs 3, 16, 84 TARP: see Troubled Asset Relief Program (TARP) taxation 83, 109, 139, 214 Thatcher, Margaret 40 “too big to fail” 83, 105 transaction costs 7, 74, 168–9 transportation 7, 41, 73, 118, 143, 144–5, 169, 186 treasury secretary xi, 69, 71, 87, 90, 96 Troubled Asset Relief Program (TARP) 70 UBS (bank) 105 unemployment 170, 180–81, 188–9, 197–200, 203–5, 213 university 9, 16–17, 20–21, 27, 41, 101, 117, 142 University of Chicago: see Chicago, University of value added 31, 136 Wall Street xi, 38, 42, 54, 63, 67, 69–70, 88, 92–3, 96, 99, 105, 122–3 Walras, Leon 5–7 Warwick Commission 100–101, 103 Washington Mutual (bank) 95–6 wealth viii, xii, 2, 9, 42, 45, 69, 71–2, 96, 101, 110–11, 120, 135, 207–10 welfare economics 14–15 welfarism 10–11 Wieser, Friedrich von 12–13 worker representatives 137 World Bank 27–8, 31 Worldcom 52, 61, 92, 98, 110, 113, 128, 132 Yale University 10, 13

 

pages: 364 words: 99,613

Servant Economy: Where America's Elite Is Sending the Middle Class by Jeff Faux

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back-to-the-land, Bernie Sanders, Black Swan, Bretton Woods, BRICs, British Empire, call centre, centre right, cognitive dissonance, collateralized debt obligation, collective bargaining, Credit Default Swap, credit default swaps / collateralized debt obligations, crony capitalism, currency manipulation / currency intervention, David Brooks, David Ricardo: comparative advantage, falling living standards, financial deregulation, financial innovation, full employment, hiring and firing, Howard Zinn, Hyman Minsky, illegal immigration, indoor plumbing, informal economy, invisible hand, John Maynard Keynes: Economic Possibilities for our Grandchildren, lake wobegon effect, Long Term Capital Management, market fundamentalism, Martin Wolf, McMansion, medical malpractice, mortgage debt, Naomi Klein, new economy, oil shock, Plutocrats, plutocrats, price mechanism, price stability, private military company, Ralph Nader, reserve currency, rising living standards, Robert Shiller, Robert Shiller, rolodex, Ronald Reagan, school vouchers, Silicon Valley, single-payer health, South China Sea, statistical model, Steve Jobs, Thomas L Friedman, Thorstein Veblen, too big to fail, trade route, Triangle Shirtwaist Factory, union organizing, upwardly mobile, urban renewal, War on Poverty, We are the 99%, working poor, Yogi Berra, Yom Kippur War

When the day of reckoning arrived, like water cascading through widening cracks in a dam, the money gushed out faster than it had come in, draining the financial lake behind and exposing the dried-up wreckage of the fraudulent loans and worthless collateral that lay at the bottom. The rest is history: the crash of Bear Stearns, the bankruptcy of Lehman Brothers, and the panicked response of the Republican White House and a Democratic Congress to pour massive amounts of money into the banks, investment companies, and insurance firms that were deemed “too big to fail.” Although there undoubtedly were challenged intellects among the public and business leaders who were most responsible for the economic crisis, David Brooks’s stupidity explanation does not fit. As John Maynard Keynes, Charles Kindleberger, and many, many other economists, such as Hyman Minsky, had shown, financial excesses were built into the modern economy. Economists might have different ways of explaining the boom-and-bust cycle, but it is inevitable: what goes up must come down.

Despite the 2,300 pages, Dodd-Frank’s core premise was to give the same regulatory system that was in the pocket of Wall Street the authority to monitor, discipline, and reform Wall Street. On issue after issue, the final bill failed to specify remedies, instead leaving them to the regulatory agencies. It also provided no incentive for talented dedicated people to devote their lives to policing the financial markets and to protect them from the political interference of the powerful special interests. By omission, Dodd-Frank codified the de facto and bipartisan policy of “too big to fail.” During the debate, Democratic senators Sherrod Brown of Ohio and Ted Kaufman of Delaware offered an amendment to put a cap on the size of banks. The administration was against it. According to Bloomberg News, Timothy Geithner told Kaufman that “the issue of limiting bank size was too complex for Congress and that people who know the markets should handle these decisions.” What Geithner did not tell Kaufman or Congress or the public was that the total amount of the federal bailout of the banks had come to an astonishing $1.2 trillion in one day and that the financial sector had make an additional $13 billion in profits on the cheap money supplied by the Federal Reserve.20 The Republicans in Congress killed the amendment.

His incentive pay for the two years before the company crashed had been at least $2.9 million.25 This sorry record should be no surprise. The Obama SEC continued the bizarre Bush SEC practice of asking suspected financial firms themselves to hire lawyers to tell the government whether the firm has broken the law. And the result is predictable. As law professor and former assistant U.S. attorney Mary Ramirez commented, “If you do not punish crimes, there really is no reason they won’t happen again.”26 “If you thought the ‘too big to fail’ issues of 2008–9 were bad in the United States,” commented former International Monetary Fund chief economist Simon Johnson in an article he co-wrote with investment banker Peter Boone, “wait until our biggest banks become even bigger.”27 Just before the 2010 election, a Wall Street Journal poll reported that Americans thought that free trade had harmed rather than helped the country by 53 to 17 percent.

 

pages: 309 words: 91,581

The Great Divergence: America's Growing Inequality Crisis and What We Can Do About It by Timothy Noah

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autonomous vehicles, blue-collar work, Bonfire of the Vanities, Branko Milanovic, call centre, collective bargaining, computer age, corporate governance, Credit Default Swap, David Ricardo: comparative advantage, Deng Xiaoping, Erik Brynjolfsson, feminist movement, Frank Levy and Richard Murnane: The New Division of Labor, Gini coefficient, income inequality, industrial robot, invisible hand, job automation, Joseph Schumpeter, low skilled workers, lump of labour, manufacturing employment, moral hazard, oil shock, pattern recognition, performance metric, positional goods, post-industrial society, postindustrial economy, purchasing power parity, refrigerator car, rent control, Richard Feynman, Richard Feynman, Ronald Reagan, shareholder value, Silicon Valley, Simon Kuznets, Stephen Hawking, Steve Jobs, The Spirit Level, too big to fail, trickle-down economics, Tyler Cowen: Great Stagnation, union organizing, upwardly mobile, very high income, War on Poverty, We are the 99%, women in the workforce, Works Progress Administration, Yom Kippur War

But “an initial crude limit,” he wrote, could be “refined over time with experience.” The perfect is the enemy of the good, and the good can be improved in the long term. The next step in banking reform ought to be more radical. The too-big-to-fail banks must be broken up. This is yet another left-wing-sounding idea that has been promoted (though more tentatively) by former Fed chairman Alan Greenspan. “If they’re too big to fail, they’re too big,” Greenspan said in a 2009 speech. “In 1911, we broke up Standard Oil. So what happened? The individual parts became more valuable than the whole. Maybe that’s what we need.”11 If the too-big-to-fail banks are allowed to remain as large as they are now, they will continue to pose what bankers call a “moral hazard,” a market distortion in which decisions are made with no consideration of risk because the decision-makers themselves are protected from any possible downside.

Maybe that’s what we need.”11 If the too-big-to-fail banks are allowed to remain as large as they are now, they will continue to pose what bankers call a “moral hazard,” a market distortion in which decisions are made with no consideration of risk because the decision-makers themselves are protected from any possible downside. “Despite the widespread assumption in both New York and Washington that big banks provide societal benefits,” Simon Johnson and James Kwak wrote in 13 Bankers, “there is no proof that these benefits exist and no quantification of their size—certainly no quantification sufficient to show that they outweigh the very obvious costs of having banks that are too big to fail.” Breaking up the big banks ought to reduce compensation levels by introducing greater competition in the banking sector. That wouldn’t be the purpose—the purpose would be to prevent catastrophic banking failures that require government bailouts—but it would be a beneficial side effect. Elect Democratic Presidents This sounds glibly partisan, but as I noted in chapter 7, the Vanderbilt political scientist Larry Bartels has pretty convincingly demonstrated that for the bottom 95 percent of the income distribution, Democratic administrations have since 1948 presided over income gains that diminish as you move up the income scale, while Republican administrations have presided over income gains that diminish as you move down the income scale.

 

pages: 223 words: 10,010

The Cost of Inequality: Why Economic Equality Is Essential for Recovery by Stewart Lansley

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banking crisis, Basel III, Big bang: deregulation of the City of London, Bonfire of the Vanities, borderless world, Branko Milanovic, Bretton Woods, British Empire, business process, call centre, capital controls, collective bargaining, corporate governance, correlation does not imply causation, credit crunch, Credit Default Swap, crony capitalism, David Ricardo: comparative advantage, deindustrialization, Edward Glaeser, falling living standards, financial deregulation, financial innovation, Financial Instability Hypothesis, floating exchange rates, full employment, Goldman Sachs: Vampire Squid, high net worth, hiring and firing, Hyman Minsky, income inequality, James Dyson, Jeff Bezos, job automation, Joseph Schumpeter, Kenneth Rogoff, knowledge economy, laissez-faire capitalism, Long Term Capital Management, low skilled workers, manufacturing employment, market bubble, Martin Wolf, mittelstand, mobile money, Mont Pelerin Society, new economy, Nick Leeson, North Sea oil, Northern Rock, offshore financial centre, oil shock, Plutocrats, plutocrats, Plutonomy: Buying Luxury, Explaining Global Imbalances, rising living standards, Robert Shiller, Robert Shiller, Ronald Reagan, savings glut, shareholder value, The Great Moderation, The Spirit Level, The Wealth of Nations by Adam Smith, Thomas Malthus, too big to fail, Tyler Cowen: Great Stagnation, Washington Consensus, Winter of Discontent, working-age population

‘It is hard to see how any of the fundamental problems in the (financial) system have been addressed to date’ said Neil Barofsky, the independent inspector general for the US bank bailout, in his official report to Congress in February 2010.398 Barofsky claimed that the financial system had become more dangerous because the banks still have an incentive to take excessive risks, knowing that the government would step in again when their speculative bets go wrong rather than bring down global finance. Even if the bailout ‘saved our financial system from driving off a cliff back in 2008, absent meaningful reform, we are still driving on the same winding mountain road, but this time in a faster car.’ In his quarterly report issued a year later, he warned that the ‘too big to fail issue’ had not been resolved. The big financial institutions ‘and their leaders are incentivised to engage in precisely the sort of behaviour that could trigger the next financial crisis, thus perpetuating a doomsday cycle of booms, busts and bailouts.’399 Much of this failure to impose tougher regulation is down to the continuing power of finance to block reform. In the US, the Obama administration—whose senior economic advisers have nearly all come from Wall Street—is little more than a prisoner of the corporations and the super-rich’s lobbyists.

‘The only way as an industry we can invest these enormous sums will be to go back to doing lots of pre-packaged deals provided to private equity firms by investment banks and doing even more passthe-parcel deals—just to get this money out the door’ is how Guy Hands, founder of the British private equity company, Terra Firma put it in November of that year as the money started flowing again. Hands, who lost $2 billion buying EMI for an inflated price, had learned the hard way. ‘And in my 30 years of investing, whenever I have seen deals done just to get the money out of the door, it does not end well.’408 Despite widespread calls for the shrinking of the finance sector, the banks not only remain ‘too big to fail’. As shown earlier, they grew even larger through the downturn. ‘We are sowing the seeds for the next crisis,” said David Lascelles, senior fellow at the London-based research group, the Centre for the Study of Financial Innovation. ‘What we have been doing in the last two years is making banks much bigger. It really goes against the currents of the time.’409 While little of substance has been achieved to tighten banking regulations, the scale of income concentration looks set to intensify.

Fourthly, a number of finance-specific measures are needed which remove current perverse incentives to risk and ensure finance carries out its primary function—of providing the level of credit and liquidity needed to finance world trade and productive investment. As has been widely recognised by a number of commentators, including Meryyn King, the new global rules on capital ratios do not go nearly far enough to solve the ‘too big to fail’ problem. One radical proposal would be to impose a statutory limit on the size of bank assets in relation to GDP. 428 Another would be to internalise the risk either by holding top executives legally responsible for bank failures with heavy penalties, or by making directors hold a minimum proportion of the banks’ capital. At the moment, bankers are playing with other people’s money. If directors knew that their own money was on the line, this would reform the current perverse incentive structure that encourages excessive risk-taking and risk-inflated remuneration levels.

 

pages: 503 words: 131,064

Liars and Outliers: How Security Holds Society Together by Bruce Schneier

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airport security, barriers to entry, Berlin Wall, Bernie Madoff, Bernie Sanders, Brian Krebs, Broken windows theory, carried interest, Cass Sunstein, Chelsea Manning, corporate governance, crack epidemic, credit crunch, crowdsourcing, cuban missile crisis, Daniel Kahneman / Amos Tversky, David Graeber, desegregation, don't be evil, Double Irish / Dutch Sandwich, Douglas Hofstadter, experimental economics, Fall of the Berlin Wall, financial deregulation, George Akerlof, hydraulic fracturing, impulse control, income inequality, invention of agriculture, invention of gunpowder, iterative process, Jean Tirole, John Nash: game theory, joint-stock company, Julian Assange, meta analysis, meta-analysis, microcredit, moral hazard, mutually assured destruction, Nate Silver, Network effects, Nick Leeson, offshore financial centre, patent troll, phenotype, pre–internet, principal–agent problem, prisoner's dilemma, profit maximization, profit motive, race to the bottom, Ralph Waldo Emerson, RAND corporation, rent-seeking, RFID, Richard Thaler, risk tolerance, Ronald Coase, security theater, shareholder value, slashdot, statistical model, Steven Pinker, Stuxnet, technological singularity, The Market for Lemons, The Nature of the Firm, The Spirit Level, The Wealth of Nations by Adam Smith, The Wisdom of Crowds, theory of mind, too big to fail, traffic fines, transaction costs, ultimatum game, UNCLOS, union organizing, Vernor Vinge, WikiLeaks, World Values Survey, Y2K

It's much easier for a large corporation to make many millions of dollars through breaking the law. But as long as the maximum possible penalty to the corporation is bankruptcy, there will be illegal activities that are perfectly rational to undertake as long as the probability of penalty is small enough.20 Any company that is too big to fail—that the government will bail out rather than let fail—is the beneficiary of a free insurance policy underwritten by taxpayers. So while a normal-sized company would evaluate both the costs and benefits of defecting, a too-big-to-fail company knows that someone else will pick up the costs. This is a moral hazard that radically changes the risk trade-off, and limits the effectiveness of institutional pressure. Of course, I'm not saying that all corporations will make these calculations and do whatever illegal activity is under consideration.

Different countries have different, often conflicting, laws about price-fixing, and international companies have an easier time forming cartels. This sort of thing can be more local, too. Until recently, Amazon.com used its large national footprint and lack of physical stores to avoid having to charge sales tax in most states. Punishing a large corporation might result in so much cost or damage to society that it makes sense to let them get away with their wrongdoing. The ultimate expression of this is when a company is “too big to fail”: when the government is so afraid of the secondary effects of a company going under that they will bail the company out in order to prevent it.17 Individuals within large corporations can be emotionally further away from the individuals they're affecting when they make decisions about whether to cooperate or defect. Remember that moral pressure decreases in effectiveness with emotional distance.

Technology aids in both of those: travel technology to allow people to move around, communications technology to allow better coordination and cooperation, and information technology to allow information to move around the organization. The fact that all of these technologies have vastly improved in the past few decades is why organizations are growing in size. (17) Senator Bernie Sanders actually had a reasonable point when he said that any company that is too big to fail is also too big to exist. (18) The people who use sites like Google and Facebook are not those companies’ customers. They are the products that those companies sell to their customers. In general: if you're not paying for it, then you're the product. Sometimes you're the product even if you are paying for it. This isn't new with the Internet. Radio and television programs were traditionally distributed for free, and the audience was the product sold to advertisers.

 

pages: 543 words: 147,357

Them And Us: Politics, Greed And Inequality - Why We Need A Fair Society by Will Hutton

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Andrei Shleifer, asset-backed security, bank run, banking crisis, Benoit Mandelbrot, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Bretton Woods, capital controls, carbon footprint, Carmen Reinhart, Cass Sunstein, centre right, choice architecture, cloud computing, collective bargaining, conceptual framework, Corn Laws, corporate governance, credit crunch, Credit Default Swap, debt deflation, decarbonisation, Deng Xiaoping, discovery of DNA, discovery of the americas, discrete time, diversification, double helix, Edward Glaeser, financial deregulation, financial innovation, financial intermediation, first-past-the-post, floating exchange rates, Francis Fukuyama: the end of history, Frank Levy and Richard Murnane: The New Division of Labor, full employment, George Akerlof, Gini coefficient, global supply chain, Growth in a Time of Debt, Hyman Minsky, I think there is a world market for maybe five computers, income inequality, inflation targeting, interest rate swap, invisible hand, Isaac Newton, James Dyson, James Watt: steam engine, joint-stock company, Joseph Schumpeter, Kenneth Rogoff, knowledge economy, knowledge worker, labour market flexibility, Long Term Capital Management, Louis Pasteur, low-wage service sector, mandelbrot fractal, margin call, market fundamentalism, Martin Wolf, means of production, Mikhail Gorbachev, millennium bug, moral hazard, mortgage debt, new economy, Northern Rock, offshore financial centre, open economy, Plutocrats, plutocrats, price discrimination, private sector deleveraging, purchasing power parity, quantitative easing, race to the bottom, railway mania, random walk, rent-seeking, reserve currency, Richard Thaler, rising living standards, Robert Shiller, Robert Shiller, Ronald Reagan, Rory Sutherland, shareholder value, short selling, Silicon Valley, Skype, South Sea Bubble, Steve Jobs, The Market for Lemons, the market place, The Myth of the Rational Market, the payments system, the scientific method, The Wealth of Nations by Adam Smith, too big to fail, unpaid internship, value at risk, Washington Consensus, working poor, éminence grise

Or consider eBay, which becomes more valuable to each individual user as others use it. The more sellers it attracts, the more it will attract potential buyers, so attracting yet more sellers. In this universe of the knowledge economy there are virtuous-circle effects everywhere: the successful become more successful; the powerful grow more powerful. The strength of companies like Microsoft and Google in ICT, Boeing in aerospace and banks that have become too big to fail in the financial sector is testimony to this new truth. As capitalism mutates, the challenge of staying open to the new and the innovative – productive entrepreneurship – is unceasing. I hope the message from history is convincing. Democratic public power and public institutions are necessary to secure the openness and access on which the best private outcomes depend, and those outcomes in turn come from a regime that tries to offer fairness for all.

London was stricken as much as New York, with its interbank credit seizing up with fear and lack of trust as part of the fallout. After all, many of the banks constituting New York’s interbank lending market operated in London, too. It became clear that the likes of Citigroup, Bank of America, RBS and the insurance company AIG could not be be allowed to collapse. These massive, complex financial institutions had become too big to fail. But failure was never more likely because their belief that they held less risk was delusional, a fundamental error compounded by vastly expanding their balance sheets but underwriting them with ever less capital. It turned out that financial randomness was a fairy tale. The risk of default was co-related when general economic conditions turned adverse, despite the confident assertions by bankers that there was no such correlation.

Two European investment banks, Deutsche Bank and UBS, allowed their leverage to rise to 60:1 and 100:1, respectively, in the years after 2004. Shadow banking was overwhelming banking in full daylight. Basel 2, agreed in 2004, struggled unsuccessfully to come to terms with the new innovations and the risks they posed. Now, with the benefit of hindsight, it seems obvious that larger banks that are deemed too big to fail should be obliged to carry more capital to underwrite their business. In 2004 the view of both regulators and the bankers themselves was that the large banks would have more diversified risks, and so needed less capital. The claim was also made that they utilised sophisticated risk-management techniques, notably value at risk (VaR), which allegedly allowed them to assess risk more accurately than smaller banks and thus had a more carefully calibrated view of the amount of capital they needed.

 

pages: 393 words: 115,263

Planet Ponzi by Mitch Feierstein

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Affordable Care Act / Obamacare, Albert Einstein, Asian financial crisis, asset-backed security, bank run, banking crisis, barriers to entry, Bernie Madoff, centre right, collapse of Lehman Brothers, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Daniel Kahneman / Amos Tversky, disintermediation, diversification, Donald Trump, energy security, eurozone crisis, financial innovation, financial intermediation, Flash crash, floating exchange rates, frictionless, frictionless market, high net worth, High speed trading, illegal immigration, income inequality, interest rate swap, invention of agriculture, Long Term Capital Management, moral hazard, mortgage debt, Northern Rock, obamacare, offshore financial centre, oil shock, pensions crisis, Plutocrats, plutocrats, Ponzi scheme, price anchoring, price stability, purchasing power parity, quantitative easing, risk tolerance, Robert Shiller, Robert Shiller, Ronald Reagan, too big to fail, trickle-down economics, value at risk, yield curve

There’s only one way to solve this problem and that’s via the ‘living will’: effectively, a prepack bankruptcy plan which can be triggered on Friday and completed by Sunday. Naturally, if you move at that speed, there are legal niceties which are going to be trampled underfoot. That’s too bad. Those legal niceties benefit lawyers and accountants and absolutely nobody else. Fast, decisive bankruptcies are essential to a well-functioning financial system. That also means that no firm will ever again be ‘too big to fail.’ If a firm fails, it fails. Too big to fail is too big to exist. Creditors who lent their money to a failing firm will get the most appropriate possible reminder about why credit analysis matters. And in the meantime, taxpayers will be able to watch the whole drama unfolding on the weekend news, knowing that they themselves won’t contribute a single dime. These rules will accomplish much of what is needed, but financial markets are complex enough‌—‌and fast-changing enough‌—‌that more detailed regulation will always be needed.

When the Asian financial crisis was followed by a Russian one, LTCM found that its ‘safe’ bets had turned sour on a colossal scale. Given the scale of leverage at the firm‌—‌its capital represented just 3% of assets‌—‌there was no return from that misjudgment. A bailout, organized by the New York Fed, saw the firm’s creditors take control. The $1.9 billion which the firm’s principals had invested in it was wiped out.6 The story contains another moral. The Fed organized a bailout of the fund because it was deemed too big to fail, because it was seen as being of systemic importance. That was a crazy decision. Lenders who make bad credit decisions should lose money. That’s the only mechanism which will force them to improve their decisionmaking. The Fed chose to send precisely the opposite message: lenders who lend money to large, well-connected Wall Street firms will never lose money, because the government will protect them.

Accountability in the financial markets has to mean, above all, that people start to lose money. It also means that regulations need to be enforced properly, so that miscreants know they will be sent to jail if caught. The process of adjustment may be brutal, but it won’t last for long‌—‌and once it’s over, we’ll have a global economy ready to march forwards once again. Part of that rebuilding effort will need to involve the dismantling of the over-large, ‘too big to fail’ institutions that dominate both investment and retail banking. As rumors spread earlier this year of huge losses emerging on its proprietary trading book, JP Morgan’s chief executive, Jamie Dimon, dismissed those concerns as a ‘tempest in a teapot’. That tempest was later estimated to have cost the bank some $2 billion‌…‌except that as the final numbers were crunched, it turned out that the actual cost was closer to $7 billion.

 

pages: 632 words: 159,454

War and Gold: A Five-Hundred-Year History of Empires, Adventures, and Debt by Kwasi Kwarteng

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accounting loophole / creative accounting, anti-communist, Asian financial crisis, asset-backed security, Atahualpa, balance sheet recession, bank run, banking crisis, Big bang: deregulation of the City of London, Bretton Woods, British Empire, California gold rush, capital controls, Carmen Reinhart, central bank independence, centre right, collapse of Lehman Brothers, collateralized debt obligation, credit crunch, currency manipulation / currency intervention, Deng Xiaoping, discovery of the americas, Etonian, eurozone crisis, fiat currency, financial innovation, floating exchange rates, Francisco Pizarro, full employment, German hyperinflation, hiring and firing, income inequality, invisible hand, Isaac Newton, John Maynard Keynes: Economic Possibilities for our Grandchildren, joint-stock company, joint-stock limited liability company, Joseph Schumpeter, Kenneth Rogoff, labour market flexibility, market bubble, money: store of value / unit of account / medium of exchange, moral hazard, new economy, oil shock, Plutocrats, plutocrats, Ponzi scheme, price mechanism, quantitative easing, rolodex, Ronald Reagan, South Sea Bubble, the market place, The Wealth of Nations by Adam Smith, too big to fail, War on Poverty, Yom Kippur War

., p. 72. 13Michael Lewis, The Big Short: Inside the Doomsday Machine, London, 2010, p. 209. 14Krugman, The Return of Depression Economics and the Crisis of 2008, pp. 168–9. 15www.newyorkfed.org. 16New York Times, ‘Why a US Subprime Mortgage Crisis is Felt around the World’, 31 August 2007. 17Alan Greenspan, Economists’ Forum, www.blogs.ft.com/economists, 6 April 2008. 18New York Times, ‘Lehman Files for Bankruptcy; Merrill is Sold’, 15 September 2008. 19Washington Post, review of Vicky Ward, The Devil’s Casino, 18 April 2010. 20Financial Times, ‘The High Stakes Games, Backstabbing and Greed behind Lehman’s Demise’, 8 April 2010. 21New York Times, ‘Lehman Files for Bankruptcy’. 22Coggan, Paper Promises, p. 181. 23William Shakespeare, Titus Andronicus, ed. Jonathan Bate, London, 1995, p. 186. (This quotation is from Act II.) 24Andrew Ross Sorkin, Too Big to Fail: Inside the Battle to Save Wall Street, London, 2009, p. 449. 25Ibid., p. 456. 26Hank Paulson, On the Brink: Inside the Race to Stop the Collapse of the Global Financial System, New York, 2010, pp. 266–7. 27Ibid., pp. 279–80. 28Ibid., p. 290. 29Ibid., p. 335. 30Sorkin, Too Big to Fail, p. 513. 31Paulson, On the Brink, p. 369. 32Sorkin, Too Big to Fail, p. 513. 33Gordon Brown, Beyond the Crisis: Overcoming the First Crisis of Globalization, London, 2010, p. 65. 34Sorkin, Too Big to Fail, p. 514. 35Alistair Darling, Back from the Brink, London, 2011, pp. 140–1. 36www.treasurydirect.gov. 37Time, ‘The US Deficit’, 25 August 2009. 38www.treasurydirect.gov. 39www.usgovernmentspending.com. 40Quoted in Matthew Lynn, Bust: Greece, the Euro and the Sovereign Debt Crisis, London, 2011, p. 37. 41Michael Lewis, Boomerang, London, 2011, p. 47. 42Lynn, Bust, p. 115. 43Ibid., pp. 115, 46. 44Ibid., p. 120. 45Ibid., pp. 121,123. 46New York Times, ‘Greek Leader Offers Plan to Tackle Debt Crisis’, 15 December 2009. 47New York Times, ‘Greece’s Stumble Follows a Headlong Rush into the Euro’, 5 May 2010. 48Economist, ‘A Very European Crisis’, 4 February 2010. 49Evangelos Venizelos, ‘The Greek Debt Crisis: Prospects and Opportunities’, remarks delivered at the Peterson Institute for International Economics, Washington, DC, 25 July 2011. 50Coggan, Paper Promises, p. 206. 51Lewis, The Big Short, p. 264. 52Wall Street Journal, ‘US Debt and the Greece Analogy’, 18 June 2010 (article written by Alan Greenspan). 53www.lbma.org.uk. 54Paul Krugman, End This Depression Now!

Sloan, Alfred, My Life with General Motors, London, 1986 (1st edn 1963). Smith, Adam, An Inquiry into the Nature and Causes of the Wealth of Nations, London, 2007 (1st edn 1776). Smith, Vera C., The Rationale of Central Banking, London, 1936. Sobel, Robert, The Last Bull Market: Wall Street in the 1960s, New York, 1980. Sobel, Robert, The Worldly Economists, New York, 1980. Sorkin, Andrew Ross, Too Big to Fail: Inside the Battle to Save Wall Street, London, 2009. Soros, George, The Alchemy of Finance, New York, 1994 (1st edn 1987). Soros, George, with Wien, Byron and Koenen, Krisztina, Soros on Soros: Staying Ahead of the Curve, New York, 1995. Stacey, Nicholas A. H., English Accountancy: A Study in Social and Economic History, 1800–1954, London, 1954. Stein, Herbert, The Fiscal Revolution in America, Chicago, 1969.

 

pages: 433 words: 125,031

Brazillionaires: The Godfathers of Modern Brazil by Alex Cuadros

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affirmative action, Asian financial crisis, big-box store, BRICs, cognitive dissonance, crony capitalism, Deng Xiaoping, Donald Trump, Elon Musk, facts on the ground, family office, high net worth, index fund, invisible hand, Jeff Bezos, Mark Zuckerberg, NetJets, offshore financial centre, profit motive, rent-seeking, risk/return, savings glut, short selling, Silicon Valley, sovereign wealth fund, stem cell, The Wealth of Nations by Adam Smith, too big to fail, transatlantic slave trade, transatlantic slave trade, We are the 99%

—MACHADO DE ASSIS, Memórias Póstumas de Brás Cubas (trans. William Grossman) Contents PROLOGUE: THE CRASH PART ONE: ROOTS OF WEALTH CHAPTER 1: GOD IS BRAZILIAN CHAPTER 2: THE PRICE OF PROGRESS CHAPTER 3: MANIFEST DESTINY CHAPTER 4: NATION BUILDING CHAPTER 5: PROSPERITY GOSPEL PART TWO: THE BRAZILIAN DREAM CHAPTER 6: VISIONARY CHAPTER 7: HELPING HANDS CHAPTER 8: THE PROFIT MOTIVE CHAPTER 9: THE BACKLASH CHAPTER 10: TOO BIG TO FAIL EPILOGUE: AFTER THE CRASH ACKNOWLEDGMENTS NOTES GLOSSARY INDEX PROLOGUE THE CRASH ON A STRETCH OF HIGHWAY NOT FAR FROM RIO DE JANEIRO, a silver SLR McLaren idled on the shoulder, its futuristic door hinged open at the top like a wing extended toward the evening sky. The warning lights blinked yellow. In the driver’s seat, a twenty-year-old kid named Thor sat spattered with blood.

It would be the first time someone had ever served time for financial crimes in Brazil—though of course, insider trading became a crime here only in 2001, a fitting delay in the land of the cordial man. As with his son, few believed someone like Eike could ever go to jail. But the case against him was much better than the one against Thor for manslaughter. And Brazilians wanted to see someone rich and powerful get his due. CHAPTER 10 TOO BIG TO FAIL DEBT, CRISIS, AND A COMEBACK “When you’ve done the right thing, you just keep on going.” —EIKE BATISTA (NEGATIVE $1 BILLION) WHEN I FIRST STARTED REPORTING ON BILLIONAIRES, I assumed I’d speak to Eike all the time. It was only later that I realized I didn’t fully believe my own skepticism of him, and some large part of me imagined he’d just stay on top forever. But then his empire began to sink, and he stopped giving the press the generous access he used to.

They framed him as a right-wing crusader because he’d accepted O Globo’s Difference Maker prize from João Roberto Marinho. After Judge Moro ordered the arrest of Marcelo Odebrecht, the heir who now led the family empire, one well-known blogger even wrote that tycoons like him deserved to be treated not just as citizens but as national institutions. An antitrust official compared Dilma’s Faustian logic to the one that prevailed in the United States in 2008, according to which some banks were “too big to fail,” regardless of what they’d done wrong. Brazil’s “bribe club” was responsible for the country’s most important public works—including the projects for the Olympic Games in Rio. If Camargo Corrêa and Odebrecht went under, the country could face international embarrassment in 2016, and the economy truly would suffer. So the government offered leniency deals. In return for immunity from prosecution, Camargo Corrêa agreed to cooperate with investigators and pay a two-hundred-million-dollar fine.

 

pages: 475 words: 155,554

The Default Line: The Inside Story of People, Banks and Entire Nations on the Edge by Faisal Islam

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Asian financial crisis, asset-backed security, balance sheet recession, bank run, banking crisis, Basel III, Ben Bernanke: helicopter money, Berlin Wall, Big bang: deregulation of the City of London, British Empire, capital controls, carbon footprint, Celtic Tiger, central bank independence, centre right, collapse of Lehman Brothers, credit crunch, Credit Default Swap, crony capitalism, dark matter, deindustrialization, Deng Xiaoping, disintermediation, energy security, Eugene Fama: efficient market hypothesis, eurozone crisis, financial deregulation, financial innovation, financial repression, floating exchange rates, forensic accounting, forward guidance, full employment, ghettoisation, global rebalancing, global reserve currency, hiring and firing, inflation targeting, Irish property bubble, Just-in-time delivery, labour market flexibility, London Whale, Long Term Capital Management, margin call, market clearing, megacity, Mikhail Gorbachev, mini-job, mittelstand, moral hazard, mortgage debt, mortgage tax deduction, mutually assured destruction, North Sea oil, Northern Rock, offshore financial centre, open economy, paradox of thrift, pension reform, price mechanism, price stability, profit motive, quantitative easing, quantitative trading / quantitative finance, race to the bottom, regulatory arbitrage, reserve currency, reshoring, rising living standards, Ronald Reagan, savings glut, shareholder value, sovereign wealth fund, The Chicago School, the payments system, too big to fail, trade route, transaction costs, two tier labour market, unorthodox policies, uranium enrichment, urban planning, value at risk, working-age population

Lord Myners, a Treasury minister at the table, would later tell Parliament that at RBS’s futuristic Gogarburn HQ a man was employed to ensure that only notes with Sir Fred’s signature should be stocked in the cash machines (RBS denies this). Here was a man who not only ran the world’s sixth largest bank, but who could also delude himself that he ran his own currency. Indeed, his bank had assets of £2.2 trillion, one and half times the size of the UK’s annual GDP. The UK’s assets were still far bigger, but if any bank was too big to fail, it was RBS. Perhaps that is why Sir Fred remained defiant to the end, despite admitting that his bank was entirely reliant on the day-to-day life support of overnight borrowing from the Bank of England. Delusion and denial were combined with a knowledge that an uncontrolled collapse of RBS would wreak havoc across the nation. The chancellor had been concerned about RBS, codenamed Phoenix, ever since Sir Fred, like a particularly depressed carol singer, had appeared uninvited at the door of Darling’s Edinburgh house the previous Christmas, carrying a wrapped panettone as a present.

Quite a lot of the trading book that was sickly over that period from mid-2008 had a property flavour to it,’ says one insider. Barclays had learnt the lessons of its history on one side of its bank; less so – perhaps not at all – on the other side of the bank. The answer for some would be a legal split of some sort. The coalition government that came to power in 2010 opted for a ring fence to remove the implicit multibillion subsidy to the borrowing costs of investment banks. The so-called ‘too-big-to-fail’ subsidy arose from the presumption that a troubled investment bank connected to a high street bank would always get bailed out by a government. Darling and others pointed out that the most high-profile failures in the banking crisis – Lehman, Northern Rock and HBoS – would fall and fail on either side of a ring fence. But it is also true that Northern Rock and HBoS were not pure retail banks: their massive securitisation requirements were an intrinsic part of the shadow banking system.

FROB’s initial attempts to sort out the cajas failed horrifically in the case of Bankia, which it created out of the merger of seven cajas – three of which, including Caja Madrid, were in a bad state. It turned out to be a monster worthy of Dr Frankenstein, a monster that increased, concentrated and made systemic the financial problem, rather than reducing or even solving it. In Bankia, Spain had created a too-big-to-fail institution, two years after the 2008 crisis had shown the dangers presented by such vast financial organisations. In December 2010 Rodrigo Rato, ex-managing director of the IMF, was brought in on a multi-million-pound salary to run Bankia – seemingly at a profit. But weeks after he resigned in May 2012 it became apparent that Bankia was making multibillion-pound losses. A few months later the leaning tower of Bankia lodged the largest loss in Spanish corporate history, principally caused by the rotten legacy of Caja Madrid and Bancaja, a similar institution from Valencia.

 

pages: 515 words: 142,354

The Euro: How a Common Currency Threatens the Future of Europe by Joseph E. Stiglitz, Alex Hyde-White

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bank run, banking crisis, barriers to entry, battle of ideas, Berlin Wall, Bretton Woods, capital controls, Carmen Reinhart, cashless society, central bank independence, centre right, cognitive dissonance, collapse of Lehman Brothers, collective bargaining, corporate governance, correlation does not imply causation, credit crunch, Credit Default Swap, currency peg, dark matter, David Ricardo: comparative advantage, disintermediation, diversified portfolio, eurozone crisis, Fall of the Berlin Wall, fiat currency, financial innovation, full employment, George Akerlof, Gini coefficient, global supply chain, Growth in a Time of Debt, housing crisis, income inequality, incomplete markets, inflation targeting, investor state dispute settlement, invisible hand, Kenneth Rogoff, knowledge economy, labour market flexibility, labour mobility, manufacturing employment, market bubble, market friction, market fundamentalism, Martin Wolf, Mexican peso crisis / tequila crisis, moral hazard, mortgage debt, neoliberal agenda, new economy, open economy, paradox of thrift, pension reform, pensions crisis, price stability, profit maximization, purchasing power parity, quantitative easing, race to the bottom, risk-adjusted returns, Robert Gordon, Robert Shiller, Robert Shiller, Ronald Reagan, savings glut, secular stagnation, Silicon Valley, sovereign wealth fund, the payments system, The Wealth of Nations by Adam Smith, too big to fail, transaction costs, transfer pricing, trickle-down economics, Washington Consensus, working-age population

This, in turn, is a consequence of institutional and market imperfections (for example, rules about knowing your customer, designed to curb money laundering), which, interestingly, the neoclassical model underlying much of Europe’s policy agenda ignored. There is far less of a single market than is widely thought to exist. 11 There are similar distortions within countries. Because the likelihood of a government bailout is greater for big banks—especially the banks that are viewed to be too big to fail—such banks can acquire funds at a lower rate than small banks. They can thus expand, not based on their relative competency or efficiency, but on the basis of the relative size of the implicit subsidy that they receive from the government. But the system is again divergent: as the large banks get larger, the likelihood of a bailout increases, and thus the difference in the implicit subsidy gets larger. 12 This would not fully fix the problem: given that banks in weak countries would, in any case be weaker and perceive the risks they face as higher, lenders to these banks would demand higher interest rates, and the banks in turn would charge higher interest rates, putting firms in their country at a disadvantage.

For a discussion of the general principles at play, see Stiglitz and Greenwald, Towards a New Paradigm in Monetary Economics. 18 Even more ambitiously, the US CRA (Community Reinvestment Act) requirements have successfully induced banks to provide more credit to underserved communities. 19 Defenders of these policies claim that the government was repaid. But whether that is so is not the point: the government lent money to the banks at far below the market interest rate, and that in itself is a major gift. There were many other ways that central banks (sometimes working in conjunction with government, sometimes seemingly independently) provided hidden subsidies to the banks. They perpetuated the prevalence of too-big-to-fail (too-correlated-to-fail, and too-interconnected-to-fail) banks; indeed, on both sides of the Atlantic, governments encouraged mergers, exacerbating the problem. The lower interest rates that such banks can obtain acts as a hidden subsidy. Quantitative easing itself represented in part a hidden recapitalization of the banks, much as the policies pursued in the Clinton administration had done after the savings and loan (S&L) crisis.

See, in particular, James K. Galbraith, Inequality and Instability: A Study of the World Economy Just before the Great Crisis (New York: Oxford University Press, 2012); and Stiglitz, Price of Inequality. 15 For a further development of this critique, see my book Freefall. 16 This is especially so, through the privatization of gains and the socialization of losses that has become a regular feature in economies with too-big-to-fail banks. (See Freefall.) 17 The system is symmetric. The central bank may decide that there is too much money in the economic system—that is, the banks are lending too much, using “money” that they receive in repayment. In that case, the government can buy back rights to issue credit: they buy back the money that they have allowed the banks to effectively manage on their behalf. Again, there can be an open auction for those most willing to give up rights to issue credit.

 

Hopes and Prospects by Noam Chomsky

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Albert Einstein, banking crisis, Berlin Wall, Bretton Woods, British Empire, capital controls, colonial rule, corporate personhood, Credit Default Swap, cuban missile crisis, David Ricardo: comparative advantage, deskilling, en.wikipedia.org, energy security, failed state, Fall of the Berlin Wall, financial deregulation, Firefox, Howard Zinn, Hyman Minsky, invisible hand, market fundamentalism, Martin Wolf, Mikhail Gorbachev, Monroe Doctrine, moral hazard, new economy, nuremberg principles, open borders, Plutonomy: Buying Luxury, Explaining Global Imbalances, Ralph Waldo Emerson, RAND corporation, Ronald Reagan, structural adjustment programs, The Wealth of Nations by Adam Smith, too big to fail, total factor productivity, trade liberalization, uranium enrichment, Washington Consensus

In the United States, the share of the financial sector in corporate profit rose from a few percent in the 1960s to over 30 percent in 2004. Concentration also sharply increased, thanks substantially to the deregulatory zeal of the Clinton administration, which set the stage for the doubling of the share of banking industry assets held by the twenty largest institutions to 70 percent from 1990 to 2009, helping create the “too big to fail” disaster of 2007–8. Financialization of the economy had a direct effect on the dismantling of the manufacturing sector, along with other policy decisions, such as the “trade agreements” that were designed to set manufacturing workers in competition with low-wage workers without benefits and protections elsewhere, while evading the “free trade” principle of competition in the case of highly educated professionals.24 The business press sometimes recognizes the dilemmas of the state-corporate economic policies—and also has few illusions about “free markets.”

But for the West in 2008–9, the phrase “the crisis” refers unambiguously to the financial crisis that has its deeper roots in inherent market inefficiencies, neoliberal doctrines about the alleged value of financial liberalization, dogmas about “efficient markets” and “rational expectations,”6 deregulation, exotic financial instruments that yielded profits beyond the dreams of avarice for a few—all brought to a head by an $8 trillion housing bubble that somehow regulators and economists did not perceive, portending ultimate disaster, as a few warned all along, notably economist Dean Baker. The costs of underpricing of risk are magnified by the perverse incentives designed by policy makers, primary among them the government insurance policy called “too big to fail.” After the bursting of the housing bubble in 2007, Fed chairman Alan Greenspan was criticized because he hadn’t followed through on his brief warning about “irrational exuberance” at the height of the late ’90s tech bubble. But that is the wrong criticism: it was quite rational exuberance, when the taxpayer is there to bail you out under the operative principles of state capitalism. The doctrine has been observed with precision by Obama and his advisers—selected from the leading figures who were largely responsible for creating the crisis, while excluding those, among them Nobel laureates, who had been issuing warnings about it.

And of course the major corporate brigands, like those ripping off billions of dollars for “reconstructing Iraq,” are exempt even from censure.11 No less impressive is the assault of the financial institutions on regulation of the practices that led to the near-collapse of the international economy in 2007–8, and are now even better placed for the next chapter of “rational exuberance,” with the world’s ten largest banks, all “deemed ‘too big to fail,’” having increased their share of assets from 18 percent of the top 1,500 banks at the end of 2008 to 26 percent a year later. The measures by which they ensured that the “moderate Democrats”—that is, the “pro-business Democrats” whose “ties to Wall Street are strong”—would join the Republicans in blocking any serious regulation at the behest of the major business lobbies are spelled out in a Business Week cover story, aptly entitled “In Wall Street’s Pocket: The Inside Story of Who’s Really Running Financial Regulation.”12 No one answerable to the public, surely.

 

pages: 247 words: 81,135

The Great Fragmentation: And Why the Future of All Business Is Small by Steve Sammartino

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3D printing, additive manufacturing, Airbnb, augmented reality, barriers to entry, Bill Gates: Altair 8800, bitcoin, BRICs, Buckminster Fuller, citizen journalism, collaborative consumption, cryptocurrency, Elon Musk, fiat currency, Frederick Winslow Taylor, game design, Google X / Alphabet X, haute couture, helicopter parent, illegal immigration, index fund, Jeff Bezos, jimmy wales, Kickstarter, knowledge economy, Law of Accelerating Returns, market design, Metcalfe's law, Minecraft, minimum viable product, Network effects, new economy, post scarcity, prediction markets, pre–internet, profit motive, race to the bottom, random walk, Ray Kurzweil, recommendation engine, remote working, RFID, self-driving car, sharing economy, side project, Silicon Valley, Silicon Valley startup, skunkworks, Skype, social graph, social web, software is eating the world, Steve Jobs, too big to fail, web application

What is fragmenting The number of media channels is exploding into über niches. Even people are now media companies. What it means for business Large mass audiences will become more rare and more expensive. CHAPTER 12 Too big to fail?: the great financial disruption While everyone knows that certain industries are ripe for change, there are others that may seem too big, too powerful and so omnipotent that they can cruise right through the shift to the technology era. It wouldn’t be whimsical to think that the banking and finance industry is one of those because they’re so ensconced in all that we do commercially and in life that we can’t do without them — or even to think that they’re too big to fail. We may even have thought that about the media, the previous purveyors of all that the world knows. The global town criers. The arbiters of timely information.

Screen first Media then/media now Platforms on platforms How to live in niche land People don’t have average interests Channelology The price of attention Channelling an audience This ain’t no Super Bowl Fill the channel void The easiest way to get attention Curation We’re all media companies We’re all nodes On the fast track to amazing Subscription television is doomed On-demand subscription We don’t want your packaged deal The usability gap In-home demos Demographics to the people Screens and cave walls Advice from a pirate The content producers forgot Winners and losers Chapter 12: Too big to fail?: the great financial disruption Their own private Napster They lost the most important asset So what do banks actually do? It’s virtual and data driven The leaky bucket Circumventing banks What is currency? Digital and crypto currencies It’s just another technology stack Why should banks care? Unstable yet permanent Crowdfunding Redefining decision authority Unearthed economic value Don’t expect a rush on the banks Do expect marginalisation Chapter 13: The 3-phase shift: a closer look at the web The phases Evolution at warp speed Inventing and stealing time Immature technology The web of things It’s already begun Will everything be connected?

 

pages: 206 words: 70,924

The Rise of the Quants: Marschak, Sharpe, Black, Scholes and Merton by Colin Read

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Albert Einstein, Black-Scholes formula, Bretton Woods, Brownian motion, capital asset pricing model, collateralized debt obligation, correlation coefficient, Credit Default Swap, credit default swaps / collateralized debt obligations, David Ricardo: comparative advantage, discovery of penicillin, discrete time, Emanuel Derman, en.wikipedia.org, Eugene Fama: efficient market hypothesis, financial innovation, fixed income, floating exchange rates, full employment, Henri Poincaré, implied volatility, index fund, Isaac Newton, John von Neumann, Joseph Schumpeter, Long Term Capital Management, Louis Bachelier, margin call, market clearing, martingale, means of production, moral hazard, naked short selling, price stability, principal–agent problem, quantitative trading / quantitative finance, RAND corporation, random walk, risk tolerance, risk/return, Ronald Reagan, shareholder value, Sharpe ratio, short selling, stochastic process, The Chicago School, the scientific method, too big to fail, transaction costs, tulip mania, Works Progress Administration, yield curve

The court ruled that $106 million in accounting losses did not meet the economic substance test, and the partners were obliged to pay $40 million for the illegal tax savings they had booked earlier. During the unwinding of Long Term Capital Management, the New York Fed was involved in its first huge financial company bailout of a financial company deemed too big to fail. It would not be its last. At the time, as in the aftermath of even larger bailouts in 2008 and 2009, some expressed grave concern that to bail out firms deemed too big to fail encouraged similarly positioned firms to take inordinate risks. Suddenly, the insurance concept of moral hazard had entered the finance lexicon. In the aftermath, executives of related companies were forced to resign by their boards. Goldman Sachs CEO Jon Corzine was ousted in a board-level effort organized by future Treasury Secretary Henry Paulson.

Until we could create a science out of this financial art, financial derivatives markets could not develop fully, and myriad risks could not be hedged and traded efficiently. However, with the advent of the Black-Scholes options pricing theory and its subsequent extensions, the options market burgeoned, primarily on the Chicago Board Options Exchange. In addition, global financial markets traded amongst themselves, created mammoth global finance companies that became too big to fail, and brought to the forefront concepts previously left only to high financiers, until the failure of these markets affected us all and plunged the world into a global financial meltdown. Clearly, finance markets can be both blessings and curses. However, there is no doubt that these financial markets benefited from the scientific tools of analyses and pricing that these great minds provided.

 

pages: 268 words: 74,724

Who Needs the Fed?: What Taylor Swift, Uber, and Robots Tell Us About Money, Credit, and Why We Should Abolish America's Central Bank by John Tamny

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Airbnb, bank run, banks create money, Bernie Madoff, bitcoin, Bretton Woods, Carmen Reinhart, correlation does not imply causation, Credit Default Swap, crony capitalism, crowdsourcing, Donald Trump, Downton Abbey, fiat currency, financial innovation, Fractional reserve banking, full employment, George Gilder, Home mortgage interest deduction, Jeff Bezos, job automation, Joseph Schumpeter, Kenneth Rogoff, Kickstarter, liquidity trap, Mark Zuckerberg, market bubble, moral hazard, mortgage tax deduction, NetJets, offshore financial centre, oil shock, peak oil, Peter Thiel, price stability, profit motive, quantitative easing, race to the bottom, Ronald Reagan, self-driving car, sharing economy, Silicon Valley, Silicon Valley startup, Steve Jobs, The Wealth of Nations by Adam Smith, too big to fail, Uber for X, War on Poverty, yield curve

Smith was told, “If we submitted a plan to the regulators to enter this business, it would most likely take two or three years to receive their approval for this change.”9 The American electorate correctly loathed the bank bailouts, but the irony, as Smith’s stories of modern banking reveal, is that the federal government saved the banking system only to subsequently suffocate it. While the size of banks had nothing to do with a “financial” crisis that was authored by government intervention, it’s worth noting that the Washington reaction to what took place was to set about shrinking the banks deemed “too big to fail.” Missed by Washington is the fact that in a capitalist system, the bigger the market-driven failure the better, simply because poorly run companies of substantial size are wasteful consumers of a lot more credit than smaller ones are. Companies of all sizes, including banks, should be allowed to go under without governmental response. The economy would benefit. Still, since Washington’s alleged war on big banks began, the largest institutions have in fact grown.

If we love the banks, if we think them essential for our economic health, then we shouldn’t want the Fed to be lending to members of the banking system that are insolvent or unable to raise private credit. The existence of such “zombie banks” weakens the banking system overall. Failure is a source of strength, and to suggest that banks are different in this regard, that they can’t be allowed to fail or are too big to fail, amounts to willful blindness. No economic sector and no economy can truly thrive if some participants—particularly the biggest ones—are a protected class. This notion of the Fed as the lender of last resort is no longer relevant. Indeed, it’s almost unthinkable. As Robert Smith put it in Dead Bank Walking, going to the Fed for a loan is “nearly unheard of.”4 Indeed, a request for a loan from the Fed’s “Discount Window” is an admission of failure.

CHAPTER THIRTEEN Epigraph: Robert H. Smith, The Changed Face of Banking: Who Will Be the Last Bank Standing? (Portland, Ore.: CreateSpace Independent Publishing Platform, 2014), 3. 1. Karen Talley, “Sam’s Club to Offer Loans Up to $25,000,” Wall Street Journal, July 6, 2010. 2. G. Edward Griffin, “The Creature from Jekyll Island,” American Media, July 2009 print, 12–13. 3. Andrew Ross Sorkin, Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System—and Themselves (New York: Viking, 2009), 443. 4. Thomas E. Woods Jr., Meltdown: A Free-Market Look at Why the Stock Market Collapsed, the Economy Tanked, and Government Bailouts Will Make Things Worse (Washington, D.C.: Regnery, 2009), 49. 5. Patricia Cohen, “Zero to 789, in 26 Months,” New York Times, October 11, 2014. 6. www.lendingclub.com. 7.

 

Rethinking Money: How New Currencies Turn Scarcity Into Prosperity by Bernard Lietaer, Jacqui Dunne

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3D printing, agricultural Revolution, Albert Einstein, Asian financial crisis, banking crisis, Berlin Wall, BRICs, business climate, business process, butterfly effect, carbon footprint, Carmen Reinhart, clockwork universe, collapse of Lehman Brothers, complexity theory, conceptual framework, credit crunch, discounted cash flows, en.wikipedia.org, Fall of the Berlin Wall, fear of failure, fiat currency, financial innovation, Fractional reserve banking, full employment, German hyperinflation, happiness index / gross national happiness, job satisfaction, Marshall McLuhan, microcredit, mobile money, money: store of value / unit of account / medium of exchange, more computing power than Apollo, new economy, Occupy movement, price stability, reserve currency, Silicon Valley, the payments system, too big to fail, transaction costs, trickle-down economics, urban decay, War on Poverty, working poor

“Of those switchers, 610,000 U.S. adults (or 11 percent of the 5.6 million) cited Bank Transfer Day as their reason and actually moved their accounts from a large to a small institution.”2 Community Bankers of America said a poll of its 5,000 members found that nearly 60 percent of community banks are gaining customers who “are sick and tired” of the big financial institutions.3 95 96 PROSPERITY As described in Chapter 4, in functioning systems, nature leans more to resilience than efficiency. Ironically, whenever a banking crisis unfolds, governments invariably help the larger banks absorb the smaller ones, believing that the efficiency of the system is thereby increased. Instead, when a bank has proven to be “too big to fail,” why not consider the option of breaking it up into smaller units that compete with each other? This has been done in the United States before; for instance, the Bell Telephone monopoly was broken into competing “Baby Bells.” But more often, what tends to happen is that banks that are too big to fail are made into still bigger ones, until they become “too big to bail.” In the midst of today’s widespread discontent and lack of access to credit, a number of successful solutions using cooperative currencies have popped up in various parts of the world.

See also Fraud Sewerage, 21 Shari’a, 112–113 Shortage, 39 Short-termism, 44– 46, 217; mandatory growth and, 2, 52– 53; sustainable money and, 85– 86, 192; Terra and, 138–139 Slum, 141 Small and medium-sized enterprise (SME), 120–124 Smith, Adam, 29 Social capital, 2, 46– 49 Social construct, 57– 58 Social decay, 34– 35, 159 Social media, 82 Social Security, 12 Social Trade Organization (STRO), 121, 127, 170, 194 Social values, 194, 210–211 Solidus, 24, 65, 227n2, 230n9 Sovereign debt, 42– 43, 70, 145–147, 227n21 Speculation, 33 Spender-signed currency, 196–198 Spice, 160 Square, 115–116 Stamp scrip, 180–181 Sterile reserve, 40 Sternthaler, 88– 89 Stimulus, 23–24, 145–146 INDEX Store of value, 58; conflicting with medium of exchange, 66; Fisher equation and, 64; money defined as, 28; professionals describing, 1–2 Street children, 143 Strike, 96– 98 Stripe, 115–116 Student loan: debt, 17–18, 226–227n13; GI Bill and, 153; JAK and, 110 Subak, 187 Subprime crisis, 70 Subsidiarity, 69, 231n14 Success, 222 Sufficiency, 80, 222 Superstition, 3 Sustainability, 14, 32, 52– 53; decentralization and, 219; demurrage and, 67, 206; leadership and, 222; MHBA and, 128–129; in monetary ecosystem, 199; regio and, 191; self-sustaining system, 208; sustainable abundance, 5– 6, 55, 224; sustainable money, 85– 86, 192; Terra and, 134, 206; threat to, 216 Sweat equity, 165 Swedish Central Bank, 25–26, 35– 36 Taboo: academic, 35– 36; money as, 4 Talents, 155 Tally stick, 65 Tax, 26–27, 57– 58; changing behavior through, 157; Creative Currencies Project and, 155; exemption, 85; Hub and, 131; paid in C3, 123, 128; paid in civic, 147–148; paid in commodities, 27; paid in Terra, 139; paid in uang kepeng, 189; paid in Wörgl, 177–178 Taxi, 126–128 Technology, 115–117, 120, 192, 218 Tenth Amendment, 231n14 Terra Alliance, 137 Terra initiative, 67 Terra Trade Reference Currency (TRC), 5, 134–135; cash-in, 136, 139–140; circulation of, 136, 138; creation of, 136, 137; as reference currency, 140 Terra Unit Value, 137 Thank-you (T), 132–133, 183–184 Therapy, 17 259 Third Industrial Revolution, 218 3D printing, 218–219 Three-body problem, 31 TimeBank, 75, 80– 85, 81; in Blaengarw, 159–161, 161; Hub, 131; Patch Adams Free Clinic and, 165; Rotating Loan Club, 172 Time currency, 5, 74–75, 78– 85; fureai kippu as, 168; Ithaca HOURS, 162–165, 163; in Nyanza, 208 Time Dollar. See TimeBank Time Dollar Youth Court, 83 Time horizon, 44 Time-slot exchange, 195–197 Titus, 197–198 Token Exchange System, 193 Too big to fail, 96 Torekes, 74–75, 151, 151–153 Total system throughput (TST), 33 Totnes, 75 Trade reference currency. See Terra Trade Reference Currency Transmutation. See Alchemy Transportation, 126–128, 201, 218–219 Trash, 141–142, 143, 145, 165–166 Treaty of Maastricht, 231n14 Triangle, 171 Trickle-down economics, 217 Trueque club, 182–184, 183 Trust, 19–20, 46; creating community, 171–172; in Friendly Favors, 132; WIR and, 100 Tutoring, 82 Twister, 156–157 Two-body problem, 30– 31 Uang kepeng, 189, 237n4, 237n5 Underclass, 216 Unemployment, 15–18; college and, 226–227n13; JAK bank and, 113; LETS and, 76; Nazi Party fueled by, 180; Patch Adams Free Clinic and, 164; in Rabot, 151; in Weimar Republic, 236n10; Wörgl and, 175–178 UN Happiness Resolution, 131 Union, 16, 119 United Nations Environmental Program (UNEP), 144 260 INDEX Unit of account, 58; money defined as, 28; professionals describing, 1–2; time as, 80– 81.

 

pages: 741 words: 179,454

Extreme Money: Masters of the Universe and the Cult of Risk by Satyajit Das

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affirmative action, Albert Einstein, algorithmic trading, Andy Kessler, Asian financial crisis, asset allocation, asset-backed security, bank run, banking crisis, banks create money, Basel III, Benoit Mandelbrot, Berlin Wall, Bernie Madoff, Big bang: deregulation of the City of London, Black Swan, Bonfire of the Vanities, bonus culture, Bretton Woods, BRICs, British Empire, capital asset pricing model, Carmen Reinhart, carried interest, Celtic Tiger, clean water, cognitive dissonance, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Daniel Kahneman / Amos Tversky, debt deflation, Deng Xiaoping, deskilling, discrete time, diversification, diversified portfolio, Doomsday Clock, Emanuel Derman, en.wikipedia.org, Eugene Fama: efficient market hypothesis, eurozone crisis, Fall of the Berlin Wall, financial independence, financial innovation, fixed income, full employment, global reserve currency, Goldman Sachs: Vampire Squid, Gordon Gekko, greed is good, happiness index / gross national happiness, haute cuisine, high net worth, Hyman Minsky, index fund, interest rate swap, invention of the wheel, invisible hand, Isaac Newton, job automation, Johann Wolfgang von Goethe, joint-stock company, Joseph Schumpeter, Kenneth Rogoff, Kevin Kelly, labour market flexibility, laissez-faire capitalism, load shedding, locking in a profit, Long Term Capital Management, Louis Bachelier, margin call, market bubble, market fundamentalism, Marshall McLuhan, Martin Wolf, merger arbitrage, Mikhail Gorbachev, Milgram experiment, Mont Pelerin Society, moral hazard, mortgage debt, mortgage tax deduction, mutually assured destruction, Naomi Klein, Network effects, new economy, Nick Leeson, Nixon shock, Northern Rock, nuclear winter, oil shock, Own Your Own Home, pets.com, Plutocrats, plutocrats, Ponzi scheme, price anchoring, price stability, profit maximization, quantitative easing, quantitative trading / quantitative finance, Ralph Nader, RAND corporation, random walk, Ray Kurzweil, regulatory arbitrage, rent control, rent-seeking, reserve currency, Richard Feynman, Richard Feynman, Richard Thaler, risk-adjusted returns, risk/return, road to serfdom, Robert Shiller, Robert Shiller, Rod Stewart played at Stephen Schwarzman birthday party, rolodex, Ronald Reagan, Ronald Reagan: Tear down this wall, savings glut, shareholder value, Sharpe ratio, short selling, Silicon Valley, six sigma, Slavoj Žižek, South Sea Bubble, special economic zone, statistical model, Stephen Hawking, Steve Jobs, The Chicago School, The Great Moderation, the market place, the medium is the message, The Myth of the Rational Market, The Nature of the Firm, The Predators' Ball, The Wealth of Nations by Adam Smith, Thorstein Veblen, too big to fail, trickle-down economics, Turing test, Upton Sinclair, value at risk, Yogi Berra, zero-coupon bond

The concern was that another big financial institution would fail, affecting firms that they had dealings with and triggering a collapse of the global financial system. In 1902, Paul Warburg warned James Stillman, president of National City Bank: “Your bank is so big and powerful, Mr. Stillman, that when the next panic comes, you may wish your responsibilities were smaller.”11 Asked about government assistance to firms considered too big to fail, George Schultz, secretary of the Treasury under President Nixon, snapped: “If they are too big to fail, make them smaller.”12 But now big financial institutions were all TBTF—“too big to fail.” Governments everywhere rushed to prop them up. Dubbed WIT (whatever it takes) by British Prime Minister Gordon Brown, or WIN (whatever is necessary) by U.S. President Obama, the actions were designed to stabilize the financial system and maintain economic growth. Bank of England Governor Mervyn King summed up the strategy: “The package of measures announced yesterday by the Chancellor are not designed to protect the banks as such.

Coined by Harvard economist James Stock, the term referred to an era of strong economic growth, increased prosperity, and the perceived end to economic cycles and volatility. Prosperity was increasingly based on financial services and the speculation economy. The cycles were still there, papered over by the free money from central banks when necessary. Speculation and risk-taking behavior were almost risk free, as long as everybody, especially large, too-big-to-fail institutions, bet on the same color. Manufacturing, which provided significant employment and prospects of social improvement for millions, was wound back, with production and jobs shifting to cheaper locations. Workers inhabited an insecure world of part-time or casual work or temporary contracts. Public services and public spaces were degraded. Heavily indebted consumer cultures focused on consumption.

George Soros “The worst market crisis in 60 years” (23 January 2008) Financial Times. 8. “The financial crisis: an inside view of a stormy White House summit” (27 September 2008) Wall Street Journal. 9. Joe Nocera “As credit crisis spiraled, alarm led to action” (1 October 2008) New York Times. 10. Ibid. 11. Quoted in Ron Chernow (1993) The Warburgs: The Twentieth-Century Odyssey of a Remarkable Jewish Family, Vintage Books, New York: 89. 12. PBS Newshour “How big is too big to fail?” (15 December 2009) (www.pbs.org/newshour/bb/business/july-dec09/schultz_12-15.html). 13. Mervyn King, Governor of the Bank of England, Speech to the CBI Dinner (20 January 2009), East Midlands Conference Centre, Nottingham. 14. Senator Jim Bunning, Statement to the Senate Banking Committee on the Federal Reserve Monetary Policy Report (15 July 2008), Senate Banking Committee. 15. Naomi Klein (2008) The Shock Doctrine: The Rise of Disaster Capitalism, Picador, New York. 16.

 

pages: 488 words: 144,145

Inflated: How Money and Debt Built the American Dream by R. Christopher Whalen

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Albert Einstein, bank run, banking crisis, Black Swan, Bretton Woods, British Empire, California gold rush, Carmen Reinhart, central bank independence, conceptual framework, corporate governance, cuban missile crisis, currency peg, debt deflation, falling living standards, fiat currency, financial deregulation, financial innovation, financial intermediation, floating exchange rates, Fractional reserve banking, full employment, global reserve currency, housing crisis, interchangeable parts, invention of radio, Kenneth Rogoff, laissez-faire capitalism, liquidity trap, means of production, money: store of value / unit of account / medium of exchange, moral hazard, mutually assured destruction, non-tariff barriers, oil shock, payday loans, Plutocrats, plutocrats, price stability, pushing on a string, quantitative easing, rent-seeking, reserve currency, Ronald Reagan, special drawing rights, The Chicago School, The Great Moderation, too big to fail, trade liberalization, transcontinental railway, Upton Sinclair, women in the workforce

Hence, it used to be thought that a receivership was to be entered only as a last resort and only as the beginning of liquidation or complete reorganization. Within the last decade or so we have passed beyond this original theory. It was the late Mr. Jay Gould, we believe, who first developed the idea of a railway receivership until it became merely one of a series of strategic moves for the control of a great corporation or for some special financial result.8 The railroads of the nineteenth century were, in this respect, similar to the “too big to fail” banks and commercial companies of the later part of the twentieth century. In the same way that Gould and his contemporaries used the guise of bankruptcy at the end of the nineteenth century to hide their true strategic agendas, a century later the government-led bailouts of Penn Central, Chrysler, Continental Illinois, Citicorp, General Motors, Chrysler (again), GMAC, and American International Group would all be used to avoid liquidation and to pursue a political agenda, namely to conceal the prevalence of incompetence and outright fraud in the financial world.

There are those who believe that George Bush was in fact a CIA asset through all of his years in the oil business, his congressional campaigns, ambassadorships, and eventually as director of central intelligence. Thus his attention to Mexico and close political contacts in that country, and Bush’s eventual pursuit of a free trade agreement with Mexico, make a great deal of geopolitical sense in terms of helping to stabilize that country.29 The Latin Debt crisis illustrates how Paul Volcker and many of his contemporaries laid the intellectual and practical foundations for policies such as “too big to fail” for the largest banks. The tendency to bail out large financial institutions and eventually whole countries in the 2008–2010 period dates from the late 1970s and the tenure of Paul Volcker at the Fed and James Baker at Treasury. Whether one speaks of the WWI and WWII loans to Europe or the bad foreign debts of the largest banks, Washington’s tendency in the twentieth century was to paper over the problem with more debt and inflation.

His concern with the well being of the financial system essentially made the argument for bailing out particular banks. The good of the many, to borrow the old phrase, was more important than market discipline for the one failed institution, even if that meant embracing public subsidies and moral hazard writ large. In a very real sense, Paul Volcker and not Gerry Corrigan was the father of “too big to fail” with respect to the largest U.S. banks. Apart from fighting inflation, Volcker’s legacy to the Fed was to support and enhance the tendency of the central bank to bail out large banks. But the actions of both Volcker and Corrigan were driven by the growing reliance of America on inflation and debt; but they compounded the problem. When the Salomon Brothers market-rigging scandal erupted in the spring and summer of 1991, Corrigan was again the key man on the scene to manage the fallout from the debacle.

 

pages: 524 words: 143,993

The Shifts and the Shocks: What We've Learned--And Have Still to Learn--From the Financial Crisis by Martin Wolf

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air freight, anti-communist, Asian financial crisis, asset allocation, asset-backed security, balance sheet recession, bank run, banking crisis, banks create money, Basel III, Ben Bernanke: helicopter money, Berlin Wall, Black Swan, bonus culture, Bretton Woods, call centre, capital asset pricing model, capital controls, Capital in the Twenty-First Century by Thomas Piketty, Carmen Reinhart, central bank independence, collateralized debt obligation, corporate governance, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency peg, debt deflation, deglobalization, Deng Xiaoping, diversification, double entry bookkeeping, en.wikipedia.org, Erik Brynjolfsson, Eugene Fama: efficient market hypothesis, eurozone crisis, Fall of the Berlin Wall, fiat currency, financial deregulation, financial innovation, financial repression, floating exchange rates, forward guidance, Fractional reserve banking, full employment, global rebalancing, global reserve currency, Growth in a Time of Debt, Hyman Minsky, income inequality, inflation targeting, invisible hand, Joseph Schumpeter, Kenneth Rogoff, labour market flexibility, labour mobility, liquidationism / Banker’s doctrine / the Treasury view, liquidity trap, Long Term Capital Management, margin call, market bubble, market clearing, market fragmentation, Martin Wolf, Mexican peso crisis / tequila crisis, moral hazard, mortgage debt, new economy, North Sea oil, Northern Rock, open economy, paradox of thrift, price stability, private sector deleveraging, purchasing power parity, pushing on a string, quantitative easing, Real Time Gross Settlement, regulatory arbitrage, reserve currency, Richard Feynman, Richard Feynman, risk-adjusted returns, risk/return, road to serfdom, Robert Gordon, Robert Shiller, Robert Shiller, Ronald Reagan, savings glut, Second Machine Age, secular stagnation, shareholder value, short selling, sovereign wealth fund, special drawing rights, The Chicago School, The Great Moderation, The Market for Lemons, the market place, The Myth of the Rational Market, the payments system, The Wealth of Nations by Adam Smith, too big to fail, Tyler Cowen: Great Stagnation, very high income, winner-take-all economy

Resolution A second area of focus has been ‘resolution’, particularly resolution of systemically significant banks.10 Resolution allows the authorities to reorganize the finances of troubled institutions by imposing losses on shareholders and creditors in an orderly way. Individual firms would, at the same time, need to develop their own resolution plans – so-called ‘living wills’. The aim of this effort is to eliminate the widely advertised threat of ‘too big to fail’. One of the arguments for ring-fencing subsidiaries with separate capital and ‘bail-inable’ debt (debt issued under the clear understanding that it could – and probably would – be converted into equity if the issuing institution was deemed to need additional capital) is that it would make it much easier to ‘resolve’ banks that get into trouble. Consider, for example, a retail bank with independently capitalized subsidiaries and the bail-inable debt required by the host regulators.

The new orthodoxy also included recapitalization of the financial sector and real, but modest, increases in capital requirements for banks. The financial sector and markets that have emerged from this approach are, however, in essence the same as the ones that went into the crisis. Banking has even been further concentrated in a remarkably small number of banks: the official list includes just twenty-nine globally significant international banks.12 It is not clear that these are all ‘too big to fail’, but it is highly unlikely that such banks could be resolved smoothly in a significant crisis, partly because they are still too interconnected to fail. Moreover, these institutions remain the beneficiaries of significant explicit and implicit subsidies from central banks and governments.13 The new orthodoxy also generally failed to bring about a rapid restructuring of private debt, outside the financial sector, though, particularly in the US, bankruptcy procedures resulted in significant reductions in household debt, after house prices crashed.

Hank Paulson, On the Brink: Inside the Race to Stop the Collapse of the Global Financial System (New York and London: Business Plus and Headline, 2010), pp. 435–6. 3. Anatole Kaletsky, Capitalism 4.0: The Birth of a New Economy (London: Bloomsbury, 2010), pp. 147–8. 4. The literature on what happened in the crisis is now enormous. For detailed accounts of the US crisis, I would particularly recommend Andrew Ross Sorkin, Too Big to Fail: Inside the Battle to Save Wall Street (London: Penguin, 2010), and Alan S. Blinder, After the Music Stopped: The Financial Crisis, the Response, and the Work Ahead (New York: Penguin 2013). Robert Skidelsky provides an excellent short-hand account of the crisis in Keynes: The Return of the Master (London: Allen Lane, 2009), ch. 1. I also recommend Thomas Ferguson and Robert Johnson, ‘Too Big to Bail: The “Paulson Put,” Presidential Politics, and the Global Financial Meltdown’, International Journal of Political Economy, vol. 38, no. 2 (Summer 2009), pp. 5–45.

 

pages: 510 words: 120,048

Who Owns the Future? by Jaron Lanier

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3D printing, 4chan, Affordable Care Act / Obamacare, Airbnb, augmented reality, automated trading system, barriers to entry, bitcoin, book scanning, Burning Man, call centre, carbon footprint, cloud computing, computer age, crowdsourcing, David Brooks, David Graeber, delayed gratification, digital Maoism, en.wikipedia.org, facts on the ground, Filter Bubble, financial deregulation, Fractional reserve banking, Francis Fukuyama: the end of history, George Akerlof, global supply chain, global village, Haight Ashbury, hive mind, if you build it, they will come, income inequality, informal economy, invisible hand, Jacquard loom, Jaron Lanier, Jeff Bezos, job automation, Kevin Kelly, Khan Academy, Kickstarter, Kodak vs Instagram, life extension, Long Term Capital Management, Mark Zuckerberg, meta analysis, meta-analysis, moral hazard, mutually assured destruction, Network effects, new economy, Norbert Wiener, obamacare, packet switching, Peter Thiel, place-making, Plutocrats, plutocrats, Ponzi scheme, post-oil, pre–internet, race to the bottom, Ray Kurzweil, rent-seeking, reversible computing, Richard Feynman, Richard Feynman, Ronald Reagan, self-driving car, side project, Silicon Valley, Silicon Valley ideology, Silicon Valley startup, Skype, smart meter, stem cell, Steve Jobs, Steve Wozniak, Stewart Brand, Ted Nelson, The Market for Lemons, Thomas Malthus, too big to fail, trickle-down economics, Turing test, Vannevar Bush, WikiLeaks

The copying reduces the homeowner’s long-term access to wealth. To put it another way, the promise of the homeowner to repay the loan can only be made once, but that promise, and the risk that the loan will not be repaid, can be received innumerable times. Therefore the homeowner will end up paying for that amplified risk, somehow. It will eventually turn into higher taxes (to bail out a financial concern that is “too big to fail”), reduced property values in a neighborhood burdened by stupid mortgages, and reduced access to credit. Access to credit becomes scarce for all but those with the absolute tip-top credit ratings once all the remote recipients of the promise to repay have amplified risk. Even the wealthiest nations can have trouble holding on to top ratings. The world of real people, as opposed to the fantasy of the “sure thing,” becomes disreputable to the point that lenders don’t want to lend anymore.

These include lowering your visibility to door-to-door solicitors and increasing your visibility for food delivery and repair businesses you have contacted. By accepting this agreement, you agree to receive information about our premium services by phone and other means. [This clause was inspired by the practices of certain social networking and review sites.] 10. Portions of your local, state, and federal taxes are being applied to the government bailout of StreetBook, which is obviously too big to fail. You have no say in this, but this clause is included just to rub it in. [This clause is inspired by the success of the high-tech finance industry.] Please click “next” to proceed to page 2 of 37 pages of conditions. Click here to accept. StreetBook is proud to support a new generation of entrepreneurs. STREETBOOK MAY CHANGE OR AMEND ANY AND ALL ASPECTS OF THIS AGREEMENT ENTERED INTO BY YOU AT ANY TIME.

Corruption, senility, and brutality emerge in democratically elected governments, of course, but the whole point of a viably designed democracy is to provide a persistent baseline for society. You can vote in new politicians without killing a democratic government, while a free market is a fake if companies aren’t allowed to die due to competition. When giant remote companies own everyone’s digital identities, they become “too big to fail,” which is a state of affairs that degrades both markets and governments. One reason companies like Facebook should be interested in what I am proposing is that planning a regulation regime is better than morphing involuntarily into a dull regulated utility, which is what would probably happen otherwise. Suppose Facebook never gets good enough at snatching the “advertising” business from Google.

 

pages: 288 words: 16,556

Finance and the Good Society by Robert J. Shiller

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bank run, banking crisis, barriers to entry, Bernie Madoff, capital asset pricing model, capital controls, Carmen Reinhart, Cass Sunstein, cognitive dissonance, collateralized debt obligation, collective bargaining, computer age, corporate governance, Daniel Kahneman / Amos Tversky, Deng Xiaoping, diversification, diversified portfolio, Donald Trump, Edward Glaeser, eurozone crisis, experimental economics, financial innovation, full employment, fundamental attribution error, George Akerlof, income inequality, invisible hand, joint-stock company, Joseph Schumpeter, Kenneth Rogoff, land reform, loss aversion, Louis Bachelier, Mahatma Gandhi, Mark Zuckerberg, market bubble, market design, means of production, microcredit, moral hazard, mortgage debt, Occupy movement, passive investing, Ponzi scheme, prediction markets, profit maximization, quantitative easing, random walk, regulatory arbitrage, Richard Thaler, road to serfdom, Robert Shiller, Robert Shiller, Ronald Reagan, self-driving car, shareholder value, Sharpe ratio, short selling, Simon Kuznets, Skype, Steven Pinker, telemarketer, The Market for Lemons, The Wealth of Nations by Adam Smith, Thorstein Veblen, too big to fail, Vanguard fund, young professional, Zipcar

Yet the mortgage credit risk of Freddie and Fannie together rose 16% a year from 1980 to 2007.4 But both enterprises later went bankrupt and came under U.S. government conservatorship in 2008, after the collapse in home prices left many mortgages in foreclosure and brought on the nancial crisis. These GSEs had never thought a home price decline of such magnitude was possible, and so they did not plan for it. In common with the so-called systemically important private rms considered earlier, they enjoyed “too big to fail” status. The government could never let them fail as that might bring down the whole economy; it was therefore clear that the government would inevitably bail them out with taxpayer money. There was faulty oversight of their aggressive pursuit of advantages from their implicit government guarantee.5 Why did this system crash so terribly? The crash appears to have been the result of a combination of factors.

In the United States the Dodd-Frank Act of 2010 introduced a concentration limit for nancial rms: subject to some discretion and with a few exceptions, no nancial company may merge with, consolidate with, or acquire another company if the resulting company’s consolidated liabilities would “exceed 10 percent of the aggregate consolidated liabilities of all financial companies.”17 The motivation for creating this concentration limit was ostensibly to reduce the “too big to fail” problem, the concern that some nancial companies had become so central to the economy that they would have to be bailed out by the government in the event of pending failure. But this limit plausibly had something to do as well with some of the issues emphasized in this chapter—those of making our nancial markets more democratic amidst widespread resentment of the concentration of wealth and power.

See also market designers financialengines.com, 81–82 Financial Industry Regulatory Authority (FINRA), 80, 96–97 financial innovations: complex concepts, 145–47; consequences, 9, 13, 42; in crises, 148–49; electronic units of money, 118; GDP-linked bonds, 117; history, 11; market designers, 69–71, 73–74; in mortgage market, 56, 117, 148; patents, 13; political constraints on, xvii–xviii; risks associated with, 144; shadow banking system, 42–43; slow adoption of, 143–45, 147, 148, 153; for stability, 116–17; structured investment vehicles, 43; use of term, 13. See also derivatives financial institutions: concentration limits, 217, 254n17; designs, 9, 177; functions, 6; lobbyists, 87, 88–89, 90, 92; “too big to fail,” 23, 53, 217. See also banks; mortgage lenders; regulation, financial financial literacy programs, 84 Financial Stability Board, 157 Financial Stability Oversight Council, 114, 157, 184, 217 financial theory: beauty, 131; conservation laws, 132, 133; Modigliani-Miller theorems, 132; option pricing, 132; portfolio management, 7. See also efficient markets theory FINRA. See Financial Industry Regulatory Authority fiscal policy, 114–16, 117, 133 Fisher, Irving, 156 fixed-income securities.

 

pages: 466 words: 127,728

The Death of Money: The Coming Collapse of the International Monetary System by James Rickards

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Affordable Care Act / Obamacare, Asian financial crisis, asset allocation, Ayatollah Khomeini, bank run, banking crisis, Ben Bernanke: helicopter money, bitcoin, Black Swan, Bretton Woods, BRICs, business climate, capital controls, Carmen Reinhart, central bank independence, centre right, collateralized debt obligation, collective bargaining, complexity theory, computer age, credit crunch, currency peg, David Graeber, debt deflation, Deng Xiaoping, diversification, Edward Snowden, eurozone crisis, fiat currency, financial innovation, financial intermediation, financial repression, Flash crash, floating exchange rates, forward guidance, George Akerlof, global reserve currency, global supply chain, Growth in a Time of Debt, income inequality, inflation targeting, invisible hand, jitney, Kenneth Rogoff, labor-force participation, labour mobility, Lao Tzu, liquidationism / Banker’s doctrine / the Treasury view, liquidity trap, Long Term Capital Management, mandelbrot fractal, margin call, market bubble, market clearing, market design, money: store of value / unit of account / medium of exchange, mutually assured destruction, obamacare, offshore financial centre, oil shale / tar sands, open economy, Plutocrats, plutocrats, Ponzi scheme, price stability, quantitative easing, RAND corporation, reserve currency, risk-adjusted returns, Rod Stewart played at Stephen Schwarzman birthday party, Ronald Reagan, Satoshi Nakamoto, Silicon Valley, Silicon Valley startup, Skype, sovereign wealth fund, special drawing rights, Stuxnet, The Market for Lemons, Thomas Kuhn: the structure of scientific revolutions, Thomas L Friedman, too big to fail, trade route, uranium enrichment, Washington Consensus, working-age population, yield curve

In August 2009 the IMF once again acted as a monetary first responder and rode to the rescue with a new issuance of SDRs, equivalent to $310 billion, increasing the SDRs in circulation by 850 percent. In early September gold prices reached an all-time high, near $1,900 per ounce, up more than 200 percent from the average price in 2006, just before the new depression began. Twenty-first-century popular culture enjoyed its own version of Rollover, a televised tale of financial collapse called Too Big to Fail. The parallels between 1978 and recent events are eerie but imperfect. There was an element ravaging the world then that is not apparent today. It is the dog that didn’t bark: inflation. But the fact that we aren’t hearing the dog doesn’t mean it poses no danger. Widely followed U.S. dollar inflation measures such as the consumer price index have barely budged since 2008; indeed, mild deflation has emerged in certain months.

The Federal Reserve, having used up its dry powder printing over $3 trillion of new money since 2008, would have no capacity or credibility to do more. Social unrest and riots would soon follow. Andy Marshall and other futurists in the national security community are taking such threats seriously. They receive little or no support from the Treasury or Federal Reserve; both are captive to mirror imaging. Ironically, solutions are not hard to devise. These solutions involve breaking big banks into units that are not too big to fail; returning to a system of regional stock exchanges, to provide redundancy; and reintroducing gold into the monetary system, since gold cannot be wiped out in a digital flash. The first-order costs of these changes are more than compensated by increased robustness and second-order benefits. None of these remedial steps is under serious consideration by Congress or the White House. For now, the United States is only dimly aware of the threat and nowhere near a solution.

Treasury officials and staff said repeatedly in 2009 that they wanted to avoid Japan’s mistakes in the 1990s. Instead, they have repeated every one of Japan’s mistakes in their failure to pursue needed structural changes in labor markets, eliminate zombie banks, cut taxes, and reduce regulation on the nonfinancial sector. The United States is Japan on a larger scale, with the same high taxes, low interest rates that penalize savers, labor market rigidities, and too-big-to-fail banks. Abenomics and Federal Reserve money printing share a frenzied focus on avoiding deflation, but the underlying deflation in both Japan and the United States is not anomalous. It is a valid price signal that the system had too much debt and too much wasted investment prior to the crash. Japan was overinvested in infrastructure, just as the United States was overinvested in housing.

 

pages: 537 words: 144,318

The Invisible Hands: Top Hedge Fund Traders on Bubbles, Crashes, and Real Money by Steven Drobny

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Albert Einstein, Asian financial crisis, asset allocation, asset-backed security, backtesting, banking crisis, Bernie Madoff, Black Swan, Bretton Woods, BRICs, British Empire, business process, capital asset pricing model, capital controls, central bank independence, collateralized debt obligation, Commodity Super-Cycle, commodity trading advisor, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency peg, debt deflation, diversification, diversified portfolio, equity premium, family office, fiat currency, fixed income, follow your passion, full employment, Hyman Minsky, implied volatility, index fund, inflation targeting, interest rate swap, inventory management, invisible hand, London Interbank Offered Rate, Long Term Capital Management, market bubble, market fundamentalism, market microstructure, moral hazard, North Sea oil, open economy, peak oil, pension reform, Ponzi scheme, prediction markets, price discovery process, price stability, private sector deleveraging, profit motive, purchasing power parity, quantitative easing, random walk, reserve currency, risk tolerance, risk-adjusted returns, risk/return, savings glut, Sharpe ratio, short selling, sovereign wealth fund, special drawing rights, statistical arbitrage, stochastic volatility, The Great Moderation, time value of money, too big to fail, transaction costs, unbiased observer, value at risk, Vanguard fund, yield curve

They will do anything to help us because they are the ones holding all that worthless paper. The U.S. is too big to fail. Will U.S. Treasuries become worthless? Global GDP is approximately $60 trillion, and that is during a high-growth period. The U.S. has unfunded liabilities of around $125 trillion, which includes counties, states, federal, Medicare/Medicaid, Social Security, and off-balance-sheet expenditures like Katrina and Iraq. Officially, our current deficit is $11 trillion, but if you add the off-balance-sheet items and exclude the unfunded liabilities, we believe it’s closer to $25 trillion. If that is true, we are running a deficit of 200 percent of GDP. In some ironic way, we are already too big to fail, so the more debt we issue, the safer we are. This is the real conundrum, and the next few years will be exciting, at the very least.

Real money funds are important and worth analyzing because: (1) they are some of the largest pools of capital in the world; (2) they have a direct impact on the functioning of society; (3) they lost staggering amounts of money in 2008; and (4) in many cases, these funds are ultimately backstopped by the taxpayer if they fail to deliver their promises. Real money funds are in crisis and are “too big to fail.” Size Real money funds comprise a majority of world’s managed assets, which totaled $62 trillion at the end of 2008. Within this grouping, pensions are by far the largest category, at $24 trillion, with U.S. pensions at $15 trillion, or almost one-quarter of total managed assets (see Figure 1.1). Figure 1.1 Global Fund Management Industry, End of 2008 SOURCE: IFSL estimates. Impact on Society Much of real money exists to deliver the promise of future retirement benefits, to support education, to guarantee the payouts from insurance agreements, to support charitable activities, and even to back national interests.

Arguably, with interest rates and inflation running close to zero, that trade is over, pointing to a more challenging environment going forward. Regardless of what the future holds, fiduciary duty obliges real money managers to at least be open to rethinking their approach if it can lead to more effective risk management, better risk-adjusted returns, and smaller drawdowns. The implications to broader society of failing to do so are far too serious to ignore. Pension funds, not banks, are the real “too big to fail” institutions. The global macro hedge fund managers in this book, themselves examples of superior risk managers, have taken the first step toward what I hope becomes an active exploration of current methods and potential solutions for real money. To this end, I would encourage anyone who believes that he or she has something to contribute to the debate to please contact Drobny Global Advisors (www.drobny.com).

 

pages: 350 words: 109,220

In FED We Trust: Ben Bernanke's War on the Great Panic by David Wessel

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Asian financial crisis, asset-backed security, bank run, banking crisis, banks create money, Berlin Wall, Black Swan, central bank independence, credit crunch, Credit Default Swap, crony capitalism, debt deflation, Fall of the Berlin Wall, financial innovation, financial intermediation, full employment, George Akerlof, housing crisis, inflation targeting, London Interbank Offered Rate, Long Term Capital Management, market bubble, moral hazard, mortgage debt, new economy, Northern Rock, price stability, quantitative easing, Robert Shiller, Robert Shiller, Ronald Reagan, Saturday Night Live, savings glut, Socratic dialogue, too big to fail

Every financial firm viewed its trading partners with suspicion. “Everything fell apart after Lehman,” Alan Blinder, a Princeton economist — Bernanke’s former colleague — and former Fed vice chairman, later wrote. “People in the market often say they can make money under any set of rules, as long as they know what they are. Coming just six months after Bear’s rescue, the Lehman decision tossed the presumed rulebook out the window. If Bear was too big to fail, how could Lehman, at twice its size, not be? If Bear was too entangled to fail, why was Lehman not? After Lehman went over the cliff, no financial institution seemed safe. So lending froze, and the economy sank like a stone. It was a colossal error, and many people said so at the time.” Bernanke and Paulson implied initially that they deliberately let Lehman go. But their later accounts were, well, different.

It was, actually, a profound observation: a banker who didn’t dance, who didn’t make ever more risky loans, would find his bank’s market share falling and near-term profits less impressive than his competitors’. Prince was one of several Wall Street chief executives who, it turned out, didn’t understand the risks their own institutions were taking or who were powerless to stop them. Citi, it would become clear, was not only too big to fail, it was too big to manage. (By November 2007, Prince would be gone.) Ben Bernanke soon would discover what happens when the music stops, but he had good reason to believe that his team had the experience, smarts, and tools to manage the situation. Chapter 6 THE FOUR MUSKETEERS: BERNANKE’S BRAIN TRUST By the summer of 2007, the Fed was stocked with veterans of market crises: the stock market crash of 1987, the savings and loan scandal of the late 1980s and early 1990s, the commercial banking and real estate woes of the early 1990s, the Asian financial crisis of the late 1990s, the bursting of the tech-stock bubble in 2000, and the September 11 terrorist attacks.

Lending to a financial firm outside the Fed’s regulatory net would eventually force long-overdue changes in the U.S. financial regulatory regime: the Fed could no longer pretend that it supervised banks and someone else supervised the shadow banking system. The Fed would now have to begin examining the books of all investment banks because the Bear Stearns loan was certain to be seen as a precedent. “Everybody on the phone knew that this was hugely consequential, an irreversible decision that would have consequences that were very hard to say at the time,” Don Kohn said. “My stomach hurt for sure.” Others would later say that Bear wasn’t too big to fail; it was too interconnected to fail, a new standard. Bear Stearns had open trades with 5,000 other firms and was a party to 750,000 derivatives contracts. It would not have gone into bankruptcy quietly. “In my mind, what was foremost was that lots of other folks would be brought down with it with consequences I couldn’t imagine,” Kohn said. “So it just felt like the beginning of the Great Depression or something.

 

pages: 397 words: 112,034

What's Next?: Unconventional Wisdom on the Future of the World Economy by David Hale, Lyric Hughes Hale

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affirmative action, Asian financial crisis, asset-backed security, bank run, banking crisis, Basel III, Berlin Wall, Black Swan, Bretton Woods, capital controls, Cass Sunstein, central bank independence, cognitive bias, collapse of Lehman Brothers, collateralized debt obligation, corporate governance, corporate social responsibility, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, currency manipulation / currency intervention, currency peg, Daniel Kahneman / Amos Tversky, debt deflation, declining real wages, deindustrialization, diversification, energy security, Erik Brynjolfsson, Fall of the Berlin Wall, financial innovation, floating exchange rates, full employment, Gini coefficient, global reserve currency, global village, high net worth, Home mortgage interest deduction, housing crisis, index fund, inflation targeting, invisible hand, Just-in-time delivery, Kenneth Rogoff, labour market flexibility, labour mobility, Long Term Capital Management, Mahatma Gandhi, Martin Wolf, Mexican peso crisis / tequila crisis, Mikhail Gorbachev, money: store of value / unit of account / medium of exchange, mortgage tax deduction, Network effects, new economy, Nicholas Carr, oil shale / tar sands, oil shock, open economy, passive investing, payday loans, peak oil, Ponzi scheme, post-oil, price stability, private sector deleveraging, purchasing power parity, quantitative easing, race to the bottom, regulatory arbitrage, rent-seeking, reserve currency, Richard Thaler, risk/return, Robert Shiller, Robert Shiller, Ronald Reagan, sovereign wealth fund, special drawing rights, technology bubble, The Great Moderation, Thomas Kuhn: the structure of scientific revolutions, Tobin tax, too big to fail, total factor productivity, trade liberalization, Washington Consensus, women in the workforce, yield curve

Nonetheless, anyone who has listened to the tortured, confused, and flat-out ignorant questions posed by all-too-many Congressmen to Fed officials testifying before them knows that political oversight should only go so far. The Fed’s political independence is a necessary, though clearly not sufficient, ingredient for sound monetary policy. Key Dodd-Frank Provisions The biggest flash point in the debate over the Dodd-Frank law was bailouts, with Democrats claiming that the law would put an end to them while Republicans argued that it continued the “too-big-to-fail” mindset, guaranteeing more bailouts. Who is right? Both are, to some extent. Since any too-big-to-fail firms would remain nearly as big under Dodd-Frank, there is still a risk of bailouts. Technically, these would not be taxpayer funded, because any such action would trigger a new levy on all other large financial firms to cover the costs (though those firms—or rather, their shareholders—are taxpayers, as are their customers who would ultimately pay higher prices).

He also notes that the legislation failed to address the true cause of the financial crisis—the role of Fannie Mae and Freddie Mac in providing large amounts of subprime mortgage credit to homebuyers. Congress plans to address the future of these agencies in 2011. The Federal Reserve has received more power from the legislation, but there was tremendous controversy in Congress about the Fed’s role in propping up troubled banks. Lewis notes that there was also great controversy over the issue of “too big to fail” because of Republican allegations that the new law would not curtail bank size, but he says that the regulatory authorities now have more power to “unwind” the positions of large entities that could pose a systemic risk. He does not believe that the new law will prevent future financial crises, but it will prevent a repetition of many of the factors that led to the recent one. Banks will have to retain 5 percent of the assets they securitize.

 

pages: 284 words: 92,387

The Democracy Project: A History, a Crisis, a Movement by David Graeber

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Bretton Woods, British Empire, corporate personhood, David Graeber, deindustrialization, dumpster diving, East Village, feminist movement, financial innovation, George Gilder, Lao Tzu, late fees, Occupy movement, payday loans, planetary scale, Plutocrats, plutocrats, Ralph Nader, reserve currency, Ronald Reagan, seigniorage, too big to fail, trickle-down economics, unpaid internship, We are the 99%, working poor

Back when I was in college, I learned that capitalism was a system where private firms earned profits by hiring others to produce and sell things; on the other hand, systems in which the big players simply extracted other people’s wealth directly, by threat of force, were referred to as “feudalism.”c By this definition, what we call “Wall Street” has come to look, increasingly, like a mere clearinghouse for the trading and disposal of feudal rents, or, to put it more crudely, scams and extortion, while genuine 1950s-style industrial capitalists are increasingly limited to places like India, Brazil, or Communist China. The United States does, of course, continue to have a manufacturing base, especially in armaments, medical technology, and farm equipment. Yet except for military production, these play an increasingly minor role in the generation of corporate profits. With the crisis of 2008, the government made clear that not only was it willing to grant “too big to fail” institutions the right to print money, but to itself create almost infinite amounts of money to bail them out if they managed to get themselves into trouble by making corrupt or idiotic loans. This allowed institutions like Bank of America to distribute that newfound cash to the very politicians who voted to bail them out and, thus, secure the right to have their lobbyists write the very legislation that was supposed to “regulate them.”

Considering the state of crisis the U.S. economy was in when Obama took over in 2008, it required perversely heroic efforts to respond to a historic catastrophe by keeping everything more or less exactly as it was. Yet Obama did expend those heroic efforts, and the result was that, in every dimension, the status quo did indeed remain intact. No part of the system was shaken up. There were no bank nationalizations, no breakups of “too big to fail” institutions, no major changes in finance laws, no change in the structure of the auto industry, or of any other industry, no change in labor laws, drug laws, surveillance laws, monetary policy, education policy, transportation policy, energy policy, military policy, or—most crucially of all, despite campaign pledges—the role of money in the political system. In exchange for massive infusions of money from the country’s Treasury to rescue them from ruin, industries from finance to manufacturing to health care were required to make only marginal changes to their practices.

That year saw a wave election that left Democrats in control of both houses of Congress, a Democratic president elected on a platform of “Change” coming to power at a moment of economic crisis so profound that radical measures of some sort were unavoidable, and at a time when Republican economic policies were utterly discredited and popular rage against the nation’s financial elites was so intense that most Americans would have supported almost any policy directed against them. Polls at the time indicated that Americans were overwhelmingly in favor of bailing out mortgage holders, but not bailing out “too big to fail” banks, whatever the negative impact on the economy. Obama’s position here was not only the opposite, but actually more conservative than George W. Bush’s: the outgoing Bush administration did agree, under pressure from Democratic representative Barney Frank, to include mortgage write-downs in the TARP program, but only if Obama approved. He chose not to. It’s important to remember this because a mythology has since developed that Obama opened himself up to criticism that he was a radical socialist because he went too far; in fact, the Republican Party was a spent and humiliated force, and only managed to revive itself because the Obama administration refused to provide an ideological alternative and instead adopted most of the Republicans’ economic positions.

 

All About Asset Allocation, Second Edition by Richard Ferri

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asset allocation, asset-backed security, barriers to entry, Bernie Madoff, capital controls, commodity trading advisor, correlation coefficient, Daniel Kahneman / Amos Tversky, diversification, diversified portfolio, equity premium, estate planning, financial independence, fixed income, full employment, high net worth, Home mortgage interest deduction, implied volatility, index fund, Long Term Capital Management, Mason jar, mortgage tax deduction, passive income, pattern recognition, random walk, Richard Thaler, risk tolerance, risk-adjusted returns, risk/return, Robert Shiller, Robert Shiller, Sharpe ratio, too big to fail, transaction costs, Vanguard fund, yield curve

The short answers are no, perhaps, and yes. The first decade in the new millennium was a challenge for all investors. Unprecedented shocks caused extremes in market volatility over the period. The decade began with the deflation of technology and communication stock expectations, followed by two attacks on U.S. soil that lead to two wars fought halfway around the world, and finished with a housing price collapse that brought too-big-to-fail global financial institutions to their knees and massive government bailouts. The events of the past decade have shaken the foundations of investment knowledge and have forced people to rethink their own investment strategies from the ground up. People are questioning the validity of modern portfolio theory (MPT) that had become well indoctrinated into portfolios. Do the markets still operate efficiently?

Did the people in this country learn from Enron? No. Over the next decade, thousands of bankruptcies and near bankruptcies claimed the retirement savings of hundreds of thousands of rank and file employees who believed in those companies by purchasing their bonds. Some of those companies are household names, including General Motors, Lehman Brothers, AIG, Bear Stearns, and Chrysler. Will these bankruptcies of too-big-to-fail companies teach others to diversify their investments and lower their portfolio risk using asset allocation? Not likely. 8 CHAPTER 1 WHY PROFESSIONAL ADVICE DOES NOT ALWAYS HELP How do you learn about investing and at the same time avoid costly mistakes? One way is to hire a professional investment consultant, if you are lucky enough to find a good one. Hiring an advisor is a hit-or-miss proposition.

There was blood in the streets as investors slashed their stock holdings and tried to preserve what little they had left. Needless to say, both Dow 36,000 and Dow 100,000 can now be found at most flea markets priced at less than $1. By 2007, the S&P 500 had crawled back and was hitting new highs in October. Then an economic tsunami hit the U.S. housing market causing a domino effect that tore apart financial markets throughout the world. Too-big-to-fail financial institutions ruptured at their base. First Bear Sterns went under and then Lehman Brothers and AIG. The entire U.S. banking industry was in peril. How Behavior Affects Asset Allocation Decisions 277 The financial industry might have come to a screeching halt if not for the innovation of the Federal Reserve along with the Treasury Department. With Congress’s permission, hundreds of billions of dollars in taxpayer money was pumped into the banking system to stabilize the markets by providing liquidity.

 

pages: 357 words: 110,017

Money: The Unauthorized Biography by Felix Martin

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bank run, banking crisis, Basel III, Bernie Madoff, Big bang: deregulation of the City of London, Bretton Woods, British Empire, call centre, capital asset pricing model, Carmen Reinhart, central bank independence, collapse of Lehman Brothers, credit crunch, David Graeber, en.wikipedia.org, financial deregulation, financial innovation, Financial Instability Hypothesis, financial intermediation, Fractional reserve banking, full employment, Goldman Sachs: Vampire Squid, Hyman Minsky, inflation targeting, invention of writing, invisible hand, Irish bank strikes, joint-stock company, Joseph Schumpeter, Kenneth Rogoff, mobile money, moral hazard, mortgage debt, new economy, Northern Rock, Occupy movement, Plutocrats, plutocrats, private military company, Republic of Letters, Richard Feynman, Richard Feynman, Robert Shiller, Robert Shiller, Scientific racism, seigniorage, Silicon Valley, smart transportation, South Sea Bubble, supply-chain management, The Wealth of Nations by Adam Smith, too big to fail

Individually, these novel forms of credit seemed risky and perhaps illiquid—but another class of firms had appeared that specialised in parcelling them up into well diversified, and hence low-risk, bundles. Those who doubted the wisdom of all this were dismissed as economic Luddites—until the pyramid of credit developed the odd crack when interest rates spiked and a few of the smaller firms went under. Then came rumours that a really big fish was in trouble. It seemed inconceivable that the regulators would let it go: everyone knew that it was “too big to fail.” Yet the sanctimonious talk of the dangers of moral hazard emanating from the central bank was far from reassuring. And then, taking everyone by surprise, it happened. There was a full-blown run, and the central bank let it fail. All hell broke loose: a panic the like of which hadn’t been seen for decades. As financial markets tanked, credit seized up, and the economy capsized, moral hazard was suddenly the last thing the central bankers were worrying about.

But if they proved unable to synchronise their payments, the central bank would step in with liquidity support. And if their loans went bad and their equity capital was too thin, the taxpayer would backstop their credit losses. The consequences were, in retrospect, utterly predictable. Around the world, banks had grown in size, reduced their capital buffers, made riskier loans, and decreased the liquidity of their assets. More and more had become too big to fail. As a result, the level of credit insurance that sovereigns had implicitly been providing had ballooned. Only when the crisis had struck, and the policy-makers’ initial efforts to control moral hazard collapsed, had the true scale of the subsidy become clear. In November 2009, a year after the collapse of Lehman Brothers, total sovereign support for the banking sector worldwide was estimated at some $14 trillion—more than 25 per cent of global GDP.20 This was the scale of the downside risks, taxpayers realised, that they had been bearing all along—whilst all the upside went to the shareholders, debt investors, and employees of the banks themselves.

And the McFadden Act of 1927 placed effective restrictions on the size of banks by prohibiting National Banks from opening branches outside their home state. Both restrictions lasted right into the 1990s.11 And it is notable that it was the relaxation of these structural constraints on the activities and size of banks that contributed to the unmanageable size of the problem that was exposed by the 2007–8 crash. It was when the mid-century interlude of strict structural regulation ended that the age of “too big to fail” definitively arrived.12 Since the crisis, this historical experience has constituted the default framework for the flurry of legislative activity aimed at changing the structure of the banking sector itself. In early 2009, President Obama appointed an Economic Recovery Advisory Board, chaired by ex-Chairman of the Federal Reserve Paul Volcker, to make proposals on thoroughgoing reform of the financial sector.

 

pages: 332 words: 89,668

Two Nations, Indivisible: A History of Inequality in America: A History of Inequality in America by Jamie Bronstein

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Affordable Care Act / Obamacare, back-to-the-land, barriers to entry, Bernie Sanders, big-box store, blue-collar work, Branko Milanovic, British Empire, Capital in the Twenty-First Century by Thomas Piketty, clean water, cognitive dissonance, collateralized debt obligation, collective bargaining, Community Supported Agriculture, corporate personhood, crony capitalism, deindustrialization, desegregation, Donald Trump, ending welfare as we know it, Frederick Winslow Taylor, full employment, Gini coefficient, income inequality, interchangeable parts, invisible hand, job automation, John Maynard Keynes: technological unemployment, labor-force participation, land reform, land tenure, low skilled workers, low-wage service sector, minimum wage unemployment, moral hazard, mortgage debt, New Urbanism, non-tariff barriers, obamacare, occupational segregation, Occupy movement, oil shock, Plutocrats, plutocrats, price discrimination, race to the bottom, rent control, road to serfdom, Ronald Reagan, Scientific racism, Simon Kuznets, single-payer health, strikebreaker, too big to fail, trade route, transcontinental railway, Triangle Shirtwaist Factory, trickle-down economics, universal basic income, Upton Sinclair, upwardly mobile, urban renewal, wage slave, War on Poverty, women in the workforce, working poor, Works Progress Administration

Banks then packaged these “subprime” mortgages into instruments called collateralized debt obligations (CDOs), which were thought to be safe investments because generally, housing prices increased, and mortgage defaults were thought to be random. A housing crash in 2006, however, produced waves of mortgage defaults, showing that defaults were not random.11 The collapse of the housing market transformed CDOs into “toxic assets,” precipitating the failure of Lehman Brothers, one of the nation’s largest banks. This propelled the federal government to rescue other banks that were thought “too big to fail.” While the government had bailed out banks before, it was new and expensive for the government to rescue bank holding companies that had many assets not insured by the FDIC.12 Figure 8.1 Percentage Share of Income by Quintile, 1982–2006. (Computed from Edward Nathan Wolff, “Recent Trends in Household Wealth, 1983–2006: The Irresistible Rise of Household Debt,” Review of Economics and Institutions vol. 2 no. 1 (Winter 2001): 1–31, at 7.)

These show that while the average American is quite good at estimating how much people ranging from retail workers to surgeons earn, he or she underguesses executive compensation by a factor of almost 30. Americans polled guessed that the average corporate CEO earned $500,000 per year, when the actual average was around $14 million.23 Under the 2008 Troubled Assets Relief Program (TARP), federal dollars were used to bail out large firms and rescue banks that were “too big to fail.” Despite this use of public money, financial institutions argued that no further regulations of Wall Street were necessary.24 Large financial companies and automakers argued that to cut executives’ cash pay to $500,000 a year—even though the vast majority of executive pay is not paid out in cash—would leave executives inappropriately cash-poor. Although the Dodd-Frank Act of 2010 gives shareholders an advisory “say on pay” for top salaries, this advice is not binding, nor are employees represented on boards of directors, as they are, for example, in Germany.

Allard, “The Changing Face of Welfare during the Bush Administration,” Publius: The Journal of Federalism vol. 37 no. 3 (2007): 304–332, at 305, 309, 314, 318. 10. Edward Nathan Wolff, “Recent Trends in Household Wealth, 1983–2006: The Irresistible Rise of Household Debt,” Review of Economics and Institutions vol. 2 no. 1 (Winter 2001): 1–31, at 12. 11. Peter Temin, “The Great Recession and the Great Depression,” Daedalus vol. 4 no. 9 (2010): 115–130, at 118. 12. James R. Barth and Apanard Penny Prabha, “An Analysis of Resolving Too-Big-to-Fail Banks throughout the United States,” The Journal of Regional Analysis and Policy vol. 44 no. 1 (2014): 1–19. 13. Fabian T. Pfeffer, Sheldon Danziger, and Robert F. Schoeni, “Wealth Disparities Before and After the Great Recession,” Annals of the American Academy of Political and Society Science no. 650 (2013): 98–123. 14. Branko Milanovic, Haves and Have-Nots: A Brief and Idiosyncratic History of Global Inequality (New York: Basic Books, 2010). 196; Michael Tavel Clarke, “After the Welfare State: The New Marxism and Other Rough Beasts,” American Quarterly vol. 61 no. 1 (2009): 173–184, at 182; Michael Kumhof, Romain Ranciere, and Pablo Winant, “Inequality, Leverage and Crises,” American Economic Review vol. 105 no. 3 (2015): 1217–1245; Barry Z.

 

pages: 162 words: 50,108

The Little Book of Hedge Funds by Anthony Scaramucci

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Andrei Shleifer, asset allocation, Bernie Madoff, business process, carried interest, Credit Default Swap, diversification, diversified portfolio, Donald Trump, Eugene Fama: efficient market hypothesis, fear of failure, fixed income, follow your passion, Gordon Gekko, high net worth, index fund, Long Term Capital Management, mail merge, margin call, merger arbitrage, NetJets, Ponzi scheme, profit motive, quantitative trading / quantitative finance, random walk, Renaissance Technologies, risk-adjusted returns, risk/return, Ronald Reagan, Saturday Night Live, Sharpe ratio, short selling, Silicon Valley, too big to fail, transaction costs, Vanguard fund, Y2K, Yogi Berra

If anything, they will get bigger due to performance and organic growth, but they will never be able to remain true to total return objectives if they overscale as their growth depends on their ability to be nimble and dynamic. What are the implications of this finding on the global market? As hedge funds are smaller than mutual funds and large banks, their investments have less of a direct impact on the overall move of the market. Moreover, as “small enough to fail” institutions, a hedge fund blowup generally does not require government intervention and taxpayer dollars, whereas “too big to fail” banks require such intervention. That being said, the tremendous growth in the hedge fund industry—which has slowed down a bit since the 2007 to 2009 economic crisis—has often been described as the Achilles’ heel for many funds and their bottom lines. Why? More funds equals an increasing amount of hedge fund dollars crowding similar trades and utilizing similar strategies, which equals diminished ability to execute trade and increase performance.

All of this said, hedge funds did suffer tremendously from 2007 to 2009. With heavy losses occurring in the credit market, many hedge funds were losing money at an alarming rate. The culprit behind their demise: leverage. Some funds got caught in overleveraged positions (Think = Sowood Capital), while other funds desperately needed access to leverage but were unable to borrow money because of the fear and panic imposed by the collapse of too-big-to-fail Lehman Brothers. To add insult to injury, the government stepped in and imposed restrictions on short selling—taking the bread and butter tool from an industry whose very livelihood depended on it. By the end of 2008, approximately 1,500 hedge funds were forced to sell their portfolios or shut down, while others lost tremendous amounts of capital and some legendary managers even lost their stellar reputations.

 

pages: 147 words: 45,890

Aftershock: The Next Economy and America's Future by Robert B. Reich

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Berlin Wall, declining real wages, delayed gratification, Doha Development Round, endowment effect, full employment, George Akerlof, Home mortgage interest deduction, Hyman Minsky, illegal immigration, income inequality, invisible hand, job automation, labor-force participation, Long Term Capital Management, loss aversion, mortgage debt, new economy, offshore financial centre, Ralph Nader, Ronald Reagan, school vouchers, sovereign wealth fund, Thorstein Veblen, too big to fail, World Values Survey

E-mails from officials at the New York Fed instructed executives at AIG not even to disclose the payments in its public filings with the Securities and Exchange Commission. The inspector general concluded that the AIG deal “offered little opportunity for success,” and left taxpayers holding the bag. Paulson and Geithner defended the bank bailouts, arguing that Goldman and other major Wall Street banks were “too big to fail” because the rest of the financial system had become so dependent on them. Yet Paulson’s and Geithner’s subsequent actions made several of the big banks even bigger—providing Bank of America, Wells Fargo, and JPMorgan Chase additional subsidies in order to consolidate with other, weaker institutions. Furthermore, each bank was allowed to value its bad loans (most of which were unlikely to be repaid in full) at whatever price it wanted as long as it passed a so-called stress test conducted by Treasury officials, whose only information came from the banks themselves.

Proposed rules to constrain the trading of derivatives—bets made on changes in the values of real assets—were riddled with loopholes big enough for bankers to drive their Ferraris through. Yet Congress did not allow distressed homeowners to declare bankruptcy. Nor was there any enthusiasm in Congress or in the White House for using the antitrust laws to break up the biggest banks—a traditional tonic for any capitalist entity “too big to fail.” If it was in the public’s interest to break up giant oil companies and railroads a century ago, and years ago the mammoth telephone company AT&T, it was not unreasonable to break up the extensive tangles of Citigroup, Bank of America, JPMorgan Chase, Goldman Sachs, and Morgan Stanley. There was no clear reason why such large-scale banks were crucial to the U.S. economy or to the living standards of most Americans.

 

pages: 161 words: 44,488

The Business Blockchain: Promise, Practice, and Application of the Next Internet Technology by William Mougayar

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Airbnb, airport security, Albert Einstein, altcoin, Amazon Web Services, bitcoin, Black Swan, blockchain, business process, centralized clearinghouse, Clayton Christensen, cloud computing, cryptocurrency, disintermediation, distributed ledger, Edward Snowden, en.wikipedia.org, ethereum blockchain, fault tolerance, fiat currency, global value chain, Innovator's Dilemma, Internet of things, Kevin Kelly, Kickstarter, market clearing, Network effects, new economy, peer-to-peer lending, prediction markets, pull request, ride hailing / ride sharing, Satoshi Nakamoto, sharing economy, smart contracts, social web, software as a service, too big to fail, Turing complete, web application

In a new paradigm, some parts of central trust processes will be relegated to blockchains that can serve that trust function. If traditional “trust checking” has become a costly, friction-rich element of a given process or service, maybe the blockchain could offer a solution. The central question is: can the blockchain give us Trust 2.0, a better form of trust that does not always depend on central intermediaries who may have become too big to fail, too bureaucratic to see risk, or too slow to change? Here are seven principles that we will need to believe in, if we are to believe in the future of decentralized trust: It would be inaccurate to label blockchains as a tool for the disintermediation of trust. In reality, they only enable a re-intermediation of trust. Blockchains enable a degree of trust unbundling. The blockchain challenges the roles of some existing trust players and reassigns some of their responsibilities, sometimes weakening their authority.

., European, and Asian regulators dictated a consolidation of regulatory agencies, resulting in further centralization of post-trade in the over-the-counter derivatives markets, reducing that oversight to a single point of failure. The Dodd-Frank’s3 mandatory central counterparty clearing provisions were a heavy-handed policy that actually amplified systemic risk, instead of reducing it. As a result, central counterparty clearinghouses have become a new class of “too big to fail” institutions, whereas, ironically, they were previously more widely distributed. In a 2012 New York Times article titled “Stabilization Will not Save Us,” Nassim Nicholas Taleb, author of Antifragile and The Black Swan, opined: “In decentralized systems, problems can be solved early and when they are small.”4 Indeed, not only was the Web hijacked with too many central choke points, regulators supposedly continue to centralize controls in order to lower risk, whereas the opposite should be done.

 

pages: 828 words: 232,188

Political Order and Political Decay: From the Industrial Revolution to the Globalization of Democracy by Francis Fukuyama

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Affordable Care Act / Obamacare, Andrei Shleifer, Asian financial crisis, Atahualpa, banking crisis, barriers to entry, Berlin Wall, blood diamonds, British Empire, centre right, clean water, collapse of Lehman Brothers, colonial rule, conceptual framework, crony capitalism, deindustrialization, Deng Xiaoping, double entry bookkeeping, Edward Snowden, Erik Brynjolfsson, European colonialism, facts on the ground, failed state, Fall of the Berlin Wall, first-past-the-post, Francis Fukuyama: the end of history, Francisco Pizarro, Frederick Winslow Taylor, full employment, Gini coefficient, Hernando de Soto, Home mortgage interest deduction, income inequality, invention of the printing press, iterative process, knowledge worker, land reform, land tenure, life extension, low skilled workers, manufacturing employment, means of production, Menlo Park, Mohammed Bouazizi, Monroe Doctrine, moral hazard, new economy, open economy, out of africa, Peace of Westphalia, Port of Oakland, post-industrial society, Post-materialism, post-materialism, price discrimination, quantitative easing, RAND corporation, rent-seeking, road to serfdom, Ronald Reagan, Scientific racism, Scramble for Africa, Second Machine Age, Silicon Valley, special economic zone, stem cell, the scientific method, The Wealth of Nations by Adam Smith, Thomas L Friedman, Thomas Malthus, too big to fail, trade route, transaction costs, Tyler Cowen: Great Stagnation, women in the workforce, World Values Survey

What is perhaps more shocking, however, is what has happened since the crisis. Despite widespread recognition of the enormous risk posed by “too-big-to-fail” banks, the American banking sector became even more concentrated than it was in 2008. In the years following the crisis, Congress passed the Dodd-Frank Act that was supposed to solve this problem. But the legislation ignored simpler remedies, such as sharply raising bank capital requirements or putting hard caps on the size of financial institutions, in favor of a highly complex stew of new regulations. Three years after passage of the legislation, many of those detailed rules had not yet been written and would likely not solve the underlying too-big-to-fail problem even if they were. There are two fundamental reasons for this failure. The first has to do with intellectual rigidity.

But, as the scholars Anat Admati and Martin Hellwig among others have shown, large banks are very different from nonfinancial firms, due to their ability to harm the rest of the economy in ways not possible for a manufacturing company.2 The second reason for the failure is that the banks are very rich and powerful, and can hire a legion of high-priced lobbyists to work on their behalf. Despite enormous public anger against the banking sector and the taxpayer bailouts, these lobbyists have succeeded in blocking meaningful regulation that would have gone directly to the heart of the too-big-to-fail problem. Some legislators may have found the bankers’ arguments against new regulation persuasive based on their ideological beliefs; for others, the arguments were a useful cover to protect the stream of campaign contributions flowing from the banking sector.3 A third scenario links the Arab Spring to the protests that broke out in Turkey and Brazil in 2013. These two countries were leading “emerging market” economies, which had seen rapid economic growth during the preceding decade.

What emerged instead was the Wall Street Reform and Consumer Protection, or Dodd-Frank, Act, which, while better than no regulation at all, extended to hundreds of pages of legislation and mandated reams of further detailed rules that will impose huge costs on banks and consumers down the road. Rather than simply capping bank size, it creates a Financial Stability Oversight Council tasked with the enormous job of assessing and managing institutions deemed to pose systemic risks, which in the end will still not solve the problem of banks being too big to fail. Though no one will ever find a smoking gun linking bank campaign contributions to the votes of specific congressmen, it defies belief that the banking industry’s legions of lobbyists did not have a major impact in preventing the simpler solution of simply breaking up the big banks or subjecting them to stringent capital requirements.8 PASSIONS AND INTERESTS Ordinary Americans express widespread disdain for interest groups and their sway over Congress.

 

pages: 77 words: 18,414

How to Kick Ass on Wall Street by Andy Kessler

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Andy Kessler, Bernie Madoff, buttonwood tree, call centre, collateralized debt obligation, family office, fixed income, hiring and firing, invention of the wheel, invisible hand, London Whale, margin call, NetJets, Nick Leeson, pets.com, risk tolerance, Silicon Valley, sovereign wealth fund, time value of money, too big to fail, value at risk

Investors are human and prone to spasms of momo-isms. Momentum investing. I’ll invest in Pets.com because dotcom stocks only go up (because there wasn’t much liquidity and every growth fund piled in). I’ll make take on another sub-prime loan derivative in my portfolio because home prices can’t go down, (because the Fed is so accommodative with low interest rates and this whole housing finance monstrosity is too big to fail, or so went the thinking.) Momo-ism almost always leads to losses. As efficient as markets are, there are always misallocation all over the place. You can always find political entrepreneurs who create attractive profits even though they are killing the economic engine. Cable TV franchises are given (buy really) local monopolies, so they can charge whatever they want for cable service. Comcast is a classic example.

 

pages: 309 words: 78,361

Plenitude: The New Economics of True Wealth by Juliet B. Schor

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Asian financial crisis, big-box store, business climate, carbon footprint, cleantech, Community Supported Agriculture, credit crunch, Daniel Kahneman / Amos Tversky, decarbonisation, dematerialisation, demographic transition, deskilling, Edward Glaeser, en.wikipedia.org, Gini coefficient, global village, income inequality, income per capita, Isaac Newton, Joseph Schumpeter, knowledge economy, life extension, McMansion, new economy, peak oil, pink-collar, post-industrial society, prediction markets, purchasing power parity, ride hailing / ride sharing, Robert Shiller, Robert Shiller, sharing economy, Simon Kuznets, single-payer health, smart grid, The Chicago School, Thomas L Friedman, Thomas Malthus, too big to fail, transaction costs, Zipcar

When mainstream economists have addressed scale, they tended to interpret the growth in the size of production facilities and companies as evidence of superior efficiency, or what are termed economies of scale. This perspective typically ignored environmental impacts, such as the emissions associated with long-distance transport. If there was a worry, it was about such large concentrations of market and political power, one consequence of which is the “too big to fail” dilemma that has resulted in taxpayer bailouts of reckless financial institutions and failing automobile companies. Beginning in the late 1970s, a productivity slowdown and squeeze on corporate profitability led to questions about whether the mass production model had outlived its usefulness. Two MIT political economists, Michael Piore and Charles Sabel, began studying small-scale manufacturing, including a group of advanced, design-intensive manufacturing firms in the Emilia Romagna region of Italy that were achieving impressive results.

.: BEA environmental studies and climate change and consumption, consumerism carbon and product scores and clothing and, see clothing end of life (EOL) and environmental impact of expansion of fashion and material flows and population and storage and disposal issues in symbolic value and well-being and Container Store cooperatives copyrights coral reefs Costa Rica cost-benefit analysis cotton Craigslist Creative Commons creative destruction credit credit unions currency Daily, Gretchen Daly, Herman dams Dasgupta, Partha debt deforestation de Graaf, John Denmark, ecological footprint in Depression, Great desertification DICE (Dynamic Integrated Climate-Economy) digital fabricators discount rate-5n diseases droughts Dudley Street Neighborhood Initiative durable goods: department store index for prices of weight of dynamic efficiency Earth Institute Earth Restoration Corps Easterlin, Richard eBay ecocide eco-efficiency ecological commons ecological footprint hours worked and ecological modernization ecological optimism economy: aggregate growth and business-as-usual form of, see business-as-usual (BAU) economy climate change and community and energy efficiency and extra-market diversification and financialization and flexible production and human behavior and information exchange and Keynes and materials use and extraction and need for alternative form of physical capital and rebound effect and scale of production and efficiency of self-provisioning and service sector of shifting the conversation on time wealth and “too big to fail” dilemma and U.S., historical profitability of value as measure in world, growth of see also environmental economics ecovillages education efficiency Egypt Ehrlich, Paul electric industry electric vehicles electronics, consumer imports of material flow and multifunctionality and storage and disposal of see also specific products Elpel, Renee Elpel, Tom Empire of Fashion (Lipovetsky) employee-owned companies employment, see labor; unemployment end of life (EOL) energy: housing and price of rebound effect from efficient use of systems dynamics and taxes and use of see also specific energy sources energy economics environment ecological footprint in, see ecological footprint ecological optimism and economic activity and feedback loops and full-cost pricing and integrated assessment models and mainstream economics and planetary boundaries and restoration of UN assessment of (2005) water footprint and see also climate change environmental economics cost-benefit analysis and customization and household production and production possibilities curve and reciprocity and resale and reuse and sharing and trade-off view of -4n working less and see also economy Environmental Kuznets Curve (EKC) -3n Europe: cohousing in ecological footprint in health care in historical carbon emissions of materials consumption in passive solar building in population decline in product life extension policies in European Society for Ecological Economics EV1 electric car extensive growth extinctions extra-market diversification ExxonMobil fabrication laboratories (fab labs) cost of Factor e Farm Farm, The (Tenn.)

 

pages: 279 words: 72,659

Gaza in Crisis: Reflections on Israel's War Against the Palestinians by Ilan Pappé, Noam Chomsky, Frank Barat

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Ayatollah Khomeini, Boycotts of Israel, British Empire, desegregation, European colonialism, facts on the ground, failed state, friendly fire, ghettoisation, Islamic Golden Age, New Journalism, price stability, too big to fail

And it is unlikely that there will be any serious investigation of these atrocities, despite calls for an inquiry into war crimes by Amnesty International, Human Rights Watch, and the Israeli human rights organization B’Tselem. Crimes of official enemies are subjected to rigorous investigation, but our own are systematically ignored. General practice, again, and understandable on the part of the masters, who rigorously adhere to a variant of the “too big to fail” insurance policy granted to major financial institutions by Washington, which provides them with great competitive advantages in a form of protectionism that is protected from the usage of the unfavourable term protectionism. The United States is just “too big to hold to account,” whether by judicial inquiry, boycott and sanctions, or other means. The January 8 Security Council resolution called for stopping the flow of arms into Gaza.

In a report reviewing use of weapons in Gaza, AI concluded that Israel used U.S.-supplied weapons in “serious violations of international humanitarian law,” and called on “the U.N. Security Council to impose an immediate and comprehensive arms embargo on the Jewish state.”55 Though conscious U.S. complicity is hardly in doubt, it is excluded from the call for punishment by the analogue of the “too big to fail” doctrine. It is, however, a mistake to concentrate too much on Israel’s severe violations of jus in bello, the laws designed to bar wartime practices that are too savage. The invasion itself is a far more serious crime. And if Israel had inflicted horrendous damage by bows and arrows, it would still be a criminal act of extreme depravity. It is also a mistake to focus attention on specific targets.

 

pages: 246 words: 74,341

Financial Fiasco: How America's Infatuation With Homeownership and Easy Money Created the Economic Crisis by Johan Norberg

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accounting loophole / creative accounting, bank run, banking crisis, Bernie Madoff, Black Swan, capital controls, central bank independence, collateralized debt obligation, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, David Brooks, diversification, financial deregulation, financial innovation, helicopter parent, Home mortgage interest deduction, housing crisis, Howard Zinn, Hyman Minsky, Isaac Newton, Joseph Schumpeter, Long Term Capital Management, market bubble, Martin Wolf, Mexican peso crisis / tequila crisis, millennium bug, moral hazard, mortgage tax deduction, Naomi Klein, new economy, Northern Rock, Own Your Own Home, price stability, Ronald Reagan, savings glut, short selling, Silicon Valley, South Sea Bubble, The Wealth of Nations by Adam Smith, too big to fail

This means that others will have to pay for the government support while also facing tougher competition from businesses that are backed up by the government. All that will have been achieved is a redistribution of burdens, from those who were less competitive to those who were more so, and this will preserve old solutions and structures while making it more difficult for new businesses to expand and hire more people. What's more, centralization is a frequent outcome when politicians save the big fish-those that are too big to fail-at the expense of the little fish. The sum of inventiveness is constant, so clever executives now adjusted their operations to make efficient use of the new support systems. In July 2008, the housing industry received a bailout as the Federal Housing Administration was told to guarantee a further $300 billion of subprime mortgages. This would stabilize home prices while taking the heat off Fannie Mae and Freddie Mac, which sit on many of those mortgages.

Those who do not trust themselves should not go anywhere near the riskiest markets. No regulation has had greater effect on the risk taking of the banking sector than the lifeguard role of central banks (and now finance ministries as well). This has taught the major financial players to take hair-raising risks in the knowledge that they can privatize any gains and socialize any losses because they are far too big to fail. The dilemma, however, is that they would never have grown that big if they had not had that safety net. Present-day capitalism is sometimes attacked for being nothing but a "casino economy." But I know of no casino where the head of the central bank and the finance minister accompany customers to the roulette table, kindly offering to cover any losses. If there were such casinos, I am convinced that we would all be gambling much more, and much more wildly, than we do today.

 

pages: 353 words: 81,436

Buying Time: The Delayed Crisis of Democratic Capitalism by Wolfgang Streeck

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banking crisis, Bretton Woods, capital controls, Carmen Reinhart, central bank independence, collective bargaining, corporate governance, David Graeber, deindustrialization, Deng Xiaoping, Eugene Fama: efficient market hypothesis, financial deregulation, financial repression, full employment, Gini coefficient, Growth in a Time of Debt, income inequality, Joseph Schumpeter, Kenneth Rogoff, knowledge economy, labour market flexibility, labour mobility, late capitalism, means of production, moral hazard, Occupy movement, open borders, open economy, Plutonomy: Buying Luxury, Explaining Global Imbalances, profit maximization, risk tolerance, shareholder value, too big to fail, union organizing, winner-take-all economy, Wolfgang Streeck

If we trace the roots of the current fiscal crisis, we find that since the Second World War the most dramatic leap in indebtedness, which took place after 2008 (Fig. 2.1), has obviously nothing at all to do with a democratically empowered inflation of demand on the part of the electorate. If any inflated demands were in play, they came from banks that got into difficulties but managed to present themselves as ‘too big to fail’, as so important to the system that they deserved to be rescued politically, not least by their agents in the state apparatus such as Hank Paulson, the former boss of Goldman Sachs and treasury secretary under George W. Bush.5 In doing so, they played on the fear of people and governments about a collapse of the real economy, paving the way for a costly rescue-Keynesianism that had nothing to do with frivolous enrichment of the mass of voters with ownerless assets but was believed to be necessary for the prevention of collective impoverishment.

If crisis management is not to be the prelude to the next crisis, if post-crisis is not to mean pre-crisis, there will have to be another growth spurt – and one, as things stand politically, that can take place only under the aegis of neoliberalism, as a result of ‘reforms’ aligned to the remodelling of the state in the last few decades. This is why the governing central bank combines its beneficence with strict political conditions. Whether it can impose them is another matter, of course; governments, in particular, may also be tempted to speculate that they are ‘too big to fail’.4 Nor can anyone guarantee that supply-side policies will actually work: witness the four-year stagnation in the United States, the country where a combination of looser central bank money and neoliberal ‘flexibilization’ – like that now taking shape in Europe – had for decades brought only a pseudo-growth liable to implode in periods of crisis. And even if growth were to pick up again, it has long ceased to be the case, as in the Keynesian welfare state of old, that ‘a rising tide lifts all boats’.5 After the market-induced self-elimination of redistributive politics – however deceptive its methods may have been in the end – and after the forced self-limitation of governments to the protection of market freedom and property rights (especially in government bonds), even growth would ultimately not be capable of calming the distributive conflict inherent in a capitalist market society; rather there would be a growing danger that the long-term losers in the regime of cumulative advantage would finally realize they were being taken for a ride.

 

pages: 75 words: 22,220

Occupy by Noam Chomsky

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corporate governance, corporate personhood, deindustrialization, Howard Zinn, income inequality, invisible hand, Martin Wolf, Nate Silver, Occupy movement, Plutonomy: Buying Luxury, Explaining Global Imbalances, precariat, Ralph Nader, Ronald Reagan, too big to fail, union organizing

As a matter of fact, they were congratulating themselves on how marvelously they were running the economy. Well, of course, it collapsed as it had to, maybe 8 trillion dollars lost. For much of the population, that’s all they had. Many African Americans’ net worth was practically reduced to nothing, and many others, too. It’s a disaster. This kind of thing is going to happen as long as you have unregulated capital markets, which furthermore have a government insurance policy. It’s called “too big to fail”: if you get in trouble, the taxpayer will bail you out—policies that, of course, lead to underestimation of risk. Credit agencies already take into account the fact that it’s going to be rescued next time it goes bust. Well, that of course increases risk even further. If not housing, it’ll be something else, commodities or whatever. It’s a financial casino instead of a protected economy, and of course people get hurt who are not rich and powerful, the 99 percent. ‡‡‡ Rich Morin, “Rising Share of Americans See Conflict Between Rich and Poor,” Pew Research Center, January 11, 2012.

 

pages: 72 words: 21,361

Race Against the Machine: How the Digital Revolution Is Accelerating Innovation, Driving Productivity, and Irreversibly Transforming Employment and the Economy by Erik Brynjolfsson

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Amazon Mechanical Turk, Any sufficiently advanced technology is indistinguishable from magic, autonomous vehicles, business process, call centre, combinatorial explosion, corporate governance, crowdsourcing, David Ricardo: comparative advantage, easy for humans, difficult for computers, Erik Brynjolfsson, factory automation, first square of the chessboard, first square of the chessboard / second half of the chessboard, Frank Levy and Richard Murnane: The New Division of Labor, hiring and firing, income inequality, job automation, John Maynard Keynes: technological unemployment, Joseph Schumpeter, Khan Academy, Kickstarter, knowledge worker, labour mobility, Loebner Prize, low skilled workers, minimum wage unemployment, patent troll, pattern recognition, Ray Kurzweil, rising living standards, Robert Gordon, self-driving car, shareholder value, Skype, too big to fail, Turing test, Tyler Cowen: Great Stagnation, Watson beat the top human players on Jeopardy!, winner-take-all economy

While home ownership has many laudable benefits, it likely reduces labor mobility and economic flexibility, which conflicts with the economy’s increased need for flexibility. 17. Reduce the large implicit and explicit subsidies to financial services. This sector attracts a disproportionate number of the best and the brightest minds and technologies, in part because the government effectively guarantees “too big to fail” institutions. 18. Reform the patent system. Not only does it take years to issue good patents due to the backlog and shortage of qualified examiners, but too many low-quality patents are issued, clogging our courts. As a result, patent trolls are chilling innovation rather than encouraging it. 19. Shorten, rather than lengthen, copyright periods and increase the flexibility of fair use.

 

pages: 602 words: 120,848

Winner-Take-All Politics: How Washington Made the Rich Richer-And Turned Its Back on the Middle Class by Paul Pierson, Jacob S. Hacker

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accounting loophole / creative accounting, affirmative action, asset allocation, barriers to entry, Bonfire of the Vanities, business climate, carried interest, Cass Sunstein, clean water, collective bargaining, corporate governance, Credit Default Swap, David Brooks, desegregation, employer provided health coverage, financial deregulation, financial innovation, financial intermediation, full employment, Home mortgage interest deduction, Howard Zinn, income inequality, invisible hand, knowledge economy, laissez-faire capitalism, Martin Wolf, medical bankruptcy, moral hazard, Nate Silver, new economy, night-watchman state, offshore financial centre, oil shock, Ralph Nader, Ronald Reagan, shareholder value, Silicon Valley, The Wealth of Nations by Adam Smith, too big to fail, trickle-down economics, union organizing, very high income, War on Poverty, winner-take-all economy, women in the workforce

Wall Street Journal, April 28, 2008. 58 Martin Wolf, “Regulators Should Intervene in Bankers’ Pay,” Financial Times, January 16, 2008. 59 Jenny Anderson, “Atop Hedge Funds, Richest of the Rich Get Even More So,” New York Times, May 26, 2006; Jenny Anderson and Julie Creswell, “Top Hedge Fund Managers Earn Over $240 Million,” New York Times, April 24, 2007; Jenny Anderson, “Wall Street Winners Get Billion-Dollar Paydays,” New York Times, April 16, 2008. 60 Christine Harper, “Wall Street Bonuses Hit Record $39 Billion for 2007,” Bloomberg, January 17, 2008, http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aHPBhz66H9eo. 61 Robert Kuttner, The Squandering of America (New York: Knopf, 2007). 62 David Moss, “An Ounce of Prevention: Financial Regulation, Moral Hazard, and the End of ‘Too Big to Fail,’” Harvard Magazine, September–October 2009, 24–29. 63 Robert J. Gordon and Ian Dew-Becker, “Controversies About the Rise of American Inequality: A Survey,” NBER Working Paper No. 13982 (May 2008), 25. 64 Philippon and Reshef, “Wages and Human Capital in the U.S. Financial Industry: 1909–2006.” 65 Kuttner, Squandering of America, 77. 66 Philippon and Reshef, “Wages and Human Capital,” 30. 67 Lucian A.

Battle Royale 1 Emmanuel Saez, “Striking It Richer: The Evolution of Top Incomes in the United States (Update with 2007 Estimates),” August 5, 2009, http://elsa.berkeley.edu/~saez/saez-UStopincomes-2007.pdf. 2 Carmen DeNavas-Walt, Bernadette D. Proctor, and Jessica C. Smith, Income, Poverty, and Health Insurance Coverage in the United States: 2008 (Washington, D.C.: U.S. Census Bureau, September 2009), http://www.census.gov/prod/2009pubs/p60–236.pdf. 3 Lynnley Browning, “Ex-UBS Banker Pleads Guilty in Tax Evasion,” New York Times, June 20, 2008. 4 Andrew Ross Sorkin, Too Big to Fail: The Inside Story of How Wall Street and Washington Fought to Save the Financial System—and Themselves (New York: Viking, 2009), 489. 5 Barbara Sinclair, “Barack Obama and the 111th Congress: Politics as Usual?” Extensions (Spring 2009). 6 Barack Obama, “Renewing the American Economy,” March 27, 2008. http://www.nytimes.com/2008/03/27/us/politics/27text-obama.html?pagewanted=print. 7 Charles Homans, “The Party of Obama,” Washington Monthly, January 2010. www.washingtonmonthly.com/features/2010/1001.homans.html. 8 Lisa Taddeo, “The Man Who Made Obama,” Esquire, November 3, 2009. www.esquire.com/features/david-plouffe-0309. 9 Doris Kearns Goodwin, Team of Rivals (New York: Simon & Schuster, 2005). 10 Matt Bai, “Taking the Hill,” New York Times Magazine, June 2, 2009. 11 Ibid. 12 Ezra Klein, “The ‘Congressionalist’ White House,” The Washington Post, June 8, 2009. http://voices.washingtonpost.com/ezra-klein/2009/06/the_congressional ist_white_hou.html. 13 Rebecca Johnson, “On the Money,” Vogue, March 2010. 14 Dan Balz and Ronald Brownstein, Storming the Gates: Protest Politics and the Republican Revival (Boston: Little Brown, 1996), 118–26; Julian E.

As the Democrats expanded their ranks in 2006 and 2008, their scores in the House moderated somewhat. Through good times and bad, however, the GOP maintained its steady rightward march. 19 Sean Theriault, “Party Polarization in the 111th Congress,” www.apsanet.org/~lss/Newsletter/jan2009/Theriault.pdf. 20 Ibid; extension of remarks, published in the Legislative Studies Newsletter, American Political Science Association, January 2009. 21 Andrew Ross Sorkin, Too Big to Fail (New York: Penguin, 2009), 499, 504; Eve Fairbanks, “From the GOP’s New Guard, The Audacity of Nope,” Washington Post, October 5, 2008. 22 Theriault sees little rise in conservatism in the GOP Senate caucus after 2008, but he wrote assuming that Coleman would win and before Specter left the caucus. The Poole-Rosenthal scores reported January 4, 2010 show a considerable rightward shift. 23 William E.

 

pages: 402 words: 110,972

Nerds on Wall Street: Math, Machines and Wired Markets by David J. Leinweber

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AI winter, algorithmic trading, asset allocation, banking crisis, barriers to entry, Big bang: deregulation of the City of London, butterfly effect, buttonwood tree, buy low sell high, capital asset pricing model, citizen journalism, collateralized debt obligation, corporate governance, Craig Reynolds: boids flock, credit crunch, Credit Default Swap, credit default swaps / collateralized debt obligations, Danny Hillis, demand response, disintermediation, distributed generation, diversification, diversified portfolio, Emanuel Derman, en.wikipedia.org, experimental economics, financial innovation, Gordon Gekko, implied volatility, index arbitrage, index fund, information retrieval, Internet Archive, John Nash: game theory, Khan Academy, load shedding, Long Term Capital Management, Machine translation of "The spirit is willing, but the flesh is weak." to Russian and back, market fragmentation, market microstructure, Mars Rover, moral hazard, mutually assured destruction, natural language processing, Network effects, optical character recognition, paper trading, passive investing, pez dispenser, phenotype, prediction markets, quantitative hedge fund, quantitative trading / quantitative finance, QWERTY keyboard, RAND corporation, random walk, Ray Kurzweil, Renaissance Technologies, Richard Stallman, risk tolerance, risk-adjusted returns, risk/return, Ronald Reagan, semantic web, Sharpe ratio, short selling, Silicon Valley, Small Order Execution System, smart grid, smart meter, social web, South Sea Bubble, statistical arbitrage, statistical model, Steve Jobs, Steven Levy, Tacoma Narrows Bridge, the scientific method, The Wisdom of Crowds, time value of money, too big to fail, transaction costs, Turing machine, Upton Sinclair, value at risk, Vernor Vinge, yield curve, Yogi Berra

And worse, he got six more mortgages and set up four crack houses and two indoor pot farms, making no payments on any of those, either. (Something like this actually happened in Diamond Bar, California.) 297 298 Nerds on Wall Str eet Value of Mortgage Based CDO trillions billions millions squat Excellent OK Crappy Dreadful Quality of Borrower Figure 12.9 Oops. Greenspan was right. Garbage in, garbage out. Throw in 30-to-1 leverage and hope you’re too big to fail! Send U.S. taxpayers bill for $700 billion. This is an oversimplified, wise-ass version of a much more complicated story. But sadly, it is the low-tech version of Greenspan’s correct high-tech explanation: These guys should have known better. Tech Hall of Shame We’ve pinned part of the blame for the meltdown on three technological screw-ups: • One of omission—a lack of transparency that let the problem be ignored for too long. • And two of commission: • Creation of excessively complex, nearly incomprehensible derivative securities. • Creation of even more complex, more incomprehensible pricing models, driven by the wrong data.

Even more, they have a low likelihood of working and may cause more long-term damage than good since they are akin to moving around the limbs of a dead body to make it look alive. These governments do not have the expertise or resources to force the lending into areas of the real economy where it is needed most. Most likely, they will throw good money after bad investments (in order to avoid further write-downs), causing these banks to become an even bigger black hole of taxpayer money than in the TARP variations. Most damningly, it exacerbates the too-big-to-fail problem and will crowd out new, healthy private banks that may have otherwise emerged in the next few years. A Simple Structural Solution The $700 billion is a huge amount of money—more than the equity book values of Goldman Sachs, Morgan Stanley, JPMorgan, Citigroup, Washington Mutual, Bank of America, and Wachovia combined. This money should be used to capitalize new banks throughout the country.

Some people have suggested that the larger banks will use the TARP equity injections to buy weaker banks. Doesn’t this solve the problem? Larger banks’ buying weaker banks just defers and worsens the problem. If the weaker bank is insolvent and has negative equity (likely), then the acquisition will just infect the balance sheet of the stronger bank (making it potentially insolvent). We will then be left with a more structurally important bank being at risk—a bank that is possibly considered too big to fail. Also, as the balance sheets are merged, asset values will become further muddled and opaque, which will only increase market uncertainty. Bottom line: this is akin to placing a burning match under a flammable carpet and pretending that it is not there. Still Mad, but Ever Hopeful It took great deal of imagination, in a negative sense, to create the Great Mess of ’08, and we will need a great deal of positive imagination to get out of it.

 

pages: 289 words: 113,211

A Demon of Our Own Design: Markets, Hedge Funds, and the Perils of Financial Innovation by Richard Bookstaber

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affirmative action, Albert Einstein, asset allocation, backtesting, Black Swan, Black-Scholes formula, Bonfire of the Vanities, butterfly effect, commodity trading advisor, computer age, disintermediation, diversification, double entry bookkeeping, Edward Lorenz: Chaos theory, family office, financial innovation, fixed income, frictionless, frictionless market, George Akerlof, implied volatility, index arbitrage, Jeff Bezos, London Interbank Offered Rate, Long Term Capital Management, loose coupling, margin call, market bubble, market design, merger arbitrage, Mexican peso crisis / tequila crisis, moral hazard, new economy, Nick Leeson, oil shock, quantitative trading / quantitative finance, random walk, Renaissance Technologies, risk tolerance, risk/return, Robert Shiller, Robert Shiller, rolodex, Saturday Night Live, shareholder value, short selling, Silicon Valley, statistical arbitrage, The Market for Lemons, time value of money, too big to fail, transaction costs, tulip mania, uranium enrichment, yield curve, zero-coupon bond

The country had become politically unstable, a kleptocracy with rampant corruption. While many saw the writing on the wall, the arbitrage group was still holding on. They and a number of other trading desks remained enamored with the huge yields on Russian bonds and kept their 97 ccc_demon_097-124_ch06.qxd 7/13/07 2:43 PM Page 98 A DEMON OF OUR OWN DESIGN positions with the hope the country was “too big to fail.” And not just “too big”; the Russians had nuclear weapons. So, some argued, the West would have to bail them out. Dimon was not going to take that bet; he had pushed for months to get positions down, but got little cooperation. Finally, toward the end of June 1998, after having listened to Franklin’s optimistic assessment yet one more time, Dimon simply presented the decree. I was the one who ultimately had to track the arb group’s positions, so to make the message clear he swiveled toward me, held his measured hand in the line of sight between his eyes and mine, and repeated: “Down to this.”

Even with Hilibrand’s efforts, over time it became increasingly difficult to execute a trade without that trade revealing the new opportunity, and then before long the opportunity would vanish. 112 ccc_demon_097-124_ch06.qxd 7/13/07 2:43 PM Page 113 LT C M R I D E S THE LEVERAGE CYCLE TO HELL While opaqueness may have actually been beneficial in normal times, it was a different story when the firm was on the ropes. Short-term lenders have a stunted sense of risk-return trade-offs. Unlike commercial banks, whose creditors can look to the Federal Deposit Insurance Corporation (FDIC) or to the “too big to fail” doctrine, securities firms have no declared sugar daddy to deter runs. It is not a matter of simply paying a higher price if lenders perceive that their capital is at risk. In fact, waving a premium rate in front of them can be counterproductive; it makes them suspicious. Since no bank knew the other side of the position they were financing, they treated the position as an outrigh