KCRW's Left Right & Center SHOW 9.19.08

I am an investment manager who was not entirely surprised by this week's events, having seen warnings of the crisis in the balance sheets of the troubled companies and read dire predictions in the commentary of such great investors as David Einhorn, William Gross and (of course) Warren Buffett. I was amused, however, to hear that the only commentator on LRC to get the economic facts right concerning the financial crisis was the liberal on your show (kudos Mr. Scheer), a most unusual occurrence indeed. If only conservatives like Mr. Blankley had educated themselves properly on the functioning of capital markets rather than perpetuating falsehoods, you might not be discussing this financial meltdown at all.

First, the facts... The housing crisis, like a raging fire required fuel and a catalyst. The fuel was interest rates kept too low for too long by a Republican run and influenced Fed, which allowed housing prices to rise quickly and steadily and prompted lenders to become too lax with their standards (e.g., alt-A loans of ten times gross income to people without so much as a pay stub). The catalyst were the deregulatory laws authored by Senator Graham, et. al. and passed by a Republican Congress, which facilitated the creation of a sub-prime market and the proliferation of collateralized mortgage and debt obligations that propagated these bad loans into the portfolios of investment banks, municipal governments and sovereign wealth funds. Once the initial fire was raging, it wasn't long before adjacent markets suffered, like the money market funds that were rescued late Thursday night.

Contrary to the facts, the Republicans are spreading false memes that the liberals are somehow responsible for the financial meltdown because they supported government charters for Freddie and Fannie that allowed the lending giants to take on more leverage than i-banks like Bear, Lehman and Morgan Stanley (i.d., 40x leverage ratio versus 30-35x). Yet Freddie and Fannie were restricted from taking on sub-prime debt and the anticipated losses associated with their loans are generally regarded by bank analysts as running at one-half those of the private market players. Hence, the toxic waste grew far worse outside the government-chartered entities, and players like Freddie and Fannie could hold higher leverage ratios because of lower risk; Mr. Miller's comment that the GSE's leverage was higher is wrong because it ignores their lower risk.

The other false meme is that the liberal-inspired regulations to broaden housing by forcing banks to lend to minorities in inner cities, for example, which is also false because these regulations were implemented much earlier and were not a cause of the reckless alt-A loans that proliferated mostly in the sprawling middle class developments of Riverside, CA, Henderson, NV and the like. While it is understandable that the Republicans would like to revise history to avoid culpability, it is hard not to blame their party for the majority of the crisis, with the remaining blame clearly resting on the overstretched borrowers themselves rather than the Democrats.

Worst of all were Mr. Blankley's comments about pension funds demanding 8% and Wall Street's "creativity" and "productivity" meeting that demand and, therefore, supplying the great American lifestyle. Trading paper for paper or engineering exotic securities so complicated that MIT PhD's in stochastic calculus cannot understand them (much less Mr. Blankley) will not make the economic equivalent of purses out of sow's ears. And Warren Buffett warned about this in 2003. Mr. Blankley's comments are the blueprint of a crisis, not the explanation of American prosperity; they also are proof that he hasn't learned anything during this last week. As Buffett and others have repeatedly explained, the rates of return accorded pension funds will only come through GDP growth and productivity gains, which requires savings and rational investment--not financial engineering of the sort that produces CDO's, CMO's and other toxic waste on AIG, Lehman and other's balance sheets.

Republicans and other conservatives appear foolish pontificating about risks of state overreaction and calling out the government as filled with "crooks and clowns," having just watched the free-marketeers sack and burn Rome. This crisis came about because of the laissez-faire dogma of the GOP and the willingness of Republicans to deliver minimal taxes, interest rates and regulatory oversight at all times and at all costs. And it calls into question the overly simplistic and religious-like devotion to free-market dogma that people like Mr. Blankley share. Economies and markets, like all complex systems, will confound all theories to describe them, including those architected by the likes of Milton Friedman or Friedrich Hayek. More humility and honesty is required. Unfortunately, until people like Mr. Blankley and other Republicans begin to focus on facts rather than dogma and start to recognize past mistakes, the messes on Wall Street and in Washington, D.C. will undoubtedly be repeated.

In the interest of fair and balanced blogging, let me close with a criticism of the more liberals participants on your show...and a prediction. Mr. Paulson, Mr. Bernanke and their respective teams might have an enormous amount of capital markets experience, but they are not "foxes guarding the hen house." Their actions are dictated by real exigencies in the market and transcend politics. They showed a committment to avoid government bailouts when it wouldn't trigger a global meltdown in confidence (e.g., Lehman) but also a pragmatism when moral hazard was the lesser evil. They should be unequivocally commended for their courageous and rapid response. Moreover, while many are rightly concerned about the ultimate cost to the taxpayer of the present fiasco, I would point to bond legend Bill Gross' recent comment that the government will make a prince's ransom off their 80% equity stake in AIG. The debt that the government is taking over is priced so far below intrinsic value that I, like Mr. Gross, am very confident that the tax payer will end up not with a loss in this bailout but with a very handsome return over the next three to five years.

One speaker was trying to imply that the current crisis is the result of deregulation ('Glass-Stiegel was repealed'). Another was trying to say it was too much regulation ('liberal government pushing home ownership on the poor'). Each of them is so attached to their ideological predispositions that neither can see around their respective pair of rose colored glasses.

With the demise of pensions and

two thoughts on this week's podcast:

1) it sure looks like's Sarah Palin's 15 minutes of fame is about over. Too bad it had to be at the hands of the greatest financial crisis in this nation's recent memory.

2) Matt's last point about the fall-out of this financial crisis on the next administration's agenda (re: inability to advance social programs & the environment), is salient. Although improbable, I do see a small opening for new progress. How?

a) We can no longer afford our for-profit, fee-for-service health care approach that leaves too many seeking care in our public emergency rooms. Universal coverage through a nationally comprehensive health insurence pool is not only humane and decent, but substantially cheaper! We've run out of time for this 'around the margin's' health care reform debate.

b) We can no longer afford subsidies to oil companies to make off-shore drilling and other unprofitable dry-land drilling economical. The free market must now rain on energy!

We’re honored by Bob Scheer’s breadth of knowledge and political history. He is a national treasure and should be shared. I don’t know how he feels about it or how his schedule is, but I think he would make a good complement to the round table panel on This Week with George Stephanopolous. They need balance to Will, Radatz, Donaldson, Roberts, to which Brazile is mismatched. Though I do consider ABC somewhat a “mini-fox” and hostile territory, it may explain why Zarkaria and Van Den Heuvel and Arianna make fewer appearances (possibly by viewer blog campaigns to bounce them). Meet the Press is still number 1, but viewership on This Week needs exposure beyond what they currently offer.

This crisis reflects capitalism and deregulation run amok, starting with

1. The idea that debt is equivalent to wealth.

2. The idea that you can finance consumer spending and run the economy by means of consumer debt.

3. Concentrating the world’s wealth in the hands of the wealthiest few, who don’t need to spend it on things and so they start looking for investments with higher and higher yields. Too much money chases not enough real wealth, essentially bidding up the price to ridiculous levels, first in dot coms, then in housing. Where will it go next?

4. An incentive system that paid loan originators off the top to make bad loans and then sell them “downstream” to investors without accountability. Most of the loot was gotten away with by mortgage salespeople and secondary market securitizers, who took advantage of borrowers and investors alike.

5. Paying originators large sums out of proportion to any work they did, up front, to make bad loans and get paid regardless of whether the loan is good or bad.

6. The innovation of securitization, which inflates the value of assets by separating them from the activitities of the loan makers, then divides the proceeds in incomprehensible ways among “waterfalls” of “tranches” that are then swapped, collateralized and no one understands what all. This allowed brokers and originators to get rid of bad loans with impunity until the bubble burst. This is essentially a Ponzi scheme attempting to thrust unsustainable levels of short term profit into a long term future. The inventors may have been the smartest guys in the room, but the urban proletariat would not have invented these complex securitizations, and that would have been a good thing.

7. A corporate system that allows shell corporations to be conduits that lack financial responsibility to make good for the wrongs they’ve done. Mortgage lenders and brokers just go bankrupt leaving their loans behind.

8. Loan products and investment products that are too complicated to understand, leaving people to rely on trust, faith and fantasy in a world where trust was neither wanted nor forced.

9. A dysfunctional morass of laws and regulations that allowed the lending industry to get away with it. Most of it is at the federal level and is politically attributable to Republicans, although Democrats went along, and to our money driven political system that leaves those of modest means helpless when pitted against the wealthy.

Blankley is full of garbage when he blames it all on the pension funds by which working people who aren’t cashing in on the Bush tax cuts hope to have money to survive in retirement. Pension funds are also victims of Wall Street’s scams. He and the Republicans are also full of it blaming the Community Reinvestment Act for somehow requiring banks and other mortgage lenders make bad loans. These lenders chose to make them and really never claimed or cared much about CRA credit, often because the kept their subprime lender as a separate entity and ran segregated credit markets. Similarly Fannie Mae and Freddie Mac, despite some problems, were not the real abusers, as most subprime loans and abusive terms were not eligible for Fannie and Freddie.

We should not blame the victims. Despite the claim that lenders went out to homeless shelters and street people giving mortgages to people who don’t deserve help, most borrowers are only guilty of believing the experts, not being able to understand complex documents that confuse lawyers and are only understood by insiders, and having too much optimistic faith in the future. Most could have handled a decent mortgage loan but were handed a bad one.

Who we need to bail out are all the homeowners who were talked and tricked into making bad loans by the sophisticated, unregulated and commission driven mortgage industry. America's homeowners are as important to the success of America and America's economy as all these market players. And what good comes from foreclosing on millions of homes and destroying the lives of millions of families, along with their neighbors and their communities? Legislatures and regulators must be criticized for waiting too long to act and for being too protective of the secondary mortgage market, which too many saw as a goose laying golden eggs. But to restore confidence in the economy, the government should buy the bad loans at a deep discount and then modify them (at least for owner occupants rather than speculators) to get rid of “toxic” features. They need to eliminate all the upward rate adjustments from the initial “teaser rates,” reduce loan principals to the real appraised value rather than the bogus appraisals the originators purchased and eliminate other predatory features. This needs to be done on a mass basis as neither borrowers nor industry can handle intense case by case examinations. Once loans are modified to sustainable terms, they can be sold to the private sector and the taxpayers can recover much of their costs, as was done with Home Owners' Loan Corporation during the depression.

Since the securitization eggs may sometimes be too complex to unscramble, we also need to allow bankruptcy courts to modify untenable loans and save peoples homes, eliminating an industry loophole. Congress also needs to fund the staffing of loan modifications, provide counselors and lawyers for homeowners assistance, and keep an eye on the process so it’s not just giving a blank check to the lending industry in one last big ripoff .

Hi ec. I read your post and was wondering if you'd mind answering a few questions. Saying that I don't know much about the economy might be an understatement, so please don't get frustrated with me if you think that the questions aren't very good.

1. In March there was Bear Stearns. In July there was IndyMac. Lehmann Brothers, Merril Lynch and AIG all happened on the same weekend. Was this all a product of the conservatorship of Fannie and Freddie a week earlier? How did the one cause the other if it did?

2. If it is mostly investment banks that will be hurt if the government doesn't throw $700B at the problem, then why would the 'whole credit apparatus seize up' (as it was described by one pundit)?

3. If the reason for the present plan is that not doing it would cause some sort of systemic damage to the economy, then what would the justification be for helping homeowners who overextended themselves? If the government buys up the 'toxic' loans, then doesn't that take the homes in danger of foreclosure out of the system which would be affected? Apparently rescuing lenders is a neccesary evil, but why is rescuing the homeowners? Is the idea of rescuing homeowners only politically motivated? Is it just about a sense of fairness rather than the economy at large? Am I missing something here?

The following is going around the internet. I don't know much about economics, so I ask the LR&C panel and anyone else who might know, is this "We Deserve It Dividend" an economic hoax or a viable option (...I hope the latter!)? thanks, Victor

From: glaciergroup@cox.net
To: glaciergroup@cox.net
Subject: How to spend $85,000,000,000,000 - A pretty good Idea
Date: Wed, 24 Sep 2008 09:02:04 -0700

I'm against the $85,000,000,000.00 bailout of AIG. Instead, I'm in favor of giving $85,000,000,000 to America in a We Deserve It Dividend.
To make the math simple, let's assume there are 200,000,000 bonafide adults in the U.S.
Our population is about 301,000,000 +/- counting every man, woman and child. So 200,000,000 might be a fair stab at adults 18 and up..
So divide 200 million adults 18+ into $85 billon that equals $425,000.00.
My plan is to give $425,000 to every person 18+ as a
We Deserve It Dividend.
Of course, it would NOT be tax free. So let's assume a tax rate of 30%. Every individual 18+ has to pay $127,500.00 in taxes. That sends $25,500,000,000 right back to Uncle Sam. But it means that every adult 18+ has $297,500.00 in their pocket. A husband and wife has $595,000.00.
What would you do with $297,500.00 to $595,000.00 in your family?
Pay off your mortgage - housing crisis solved.
Repay college loans - what a great boost to new grads
Put away money for college - it'll be there
Save in a bank - create money to loan to entrepreneurs.
Buy a new car - create jobs
Invest in the market - capital drives growth
Pay for your parent's medical insurance - health care improves
Enable Deadbeat Dads to come clean - or else
Remember this is for every adult U S Citizen 18+ including the folks who lost their jobs at Lehman Brothers and every other company that is cutting back. And of course, for those serving in our Armed Forces.
If we're going to re-distribute wealth let's really do it...instead of trickling out a puny $1000.00 ( "vote buy" ) economic incentive.
If we're going to do an $85 billion bailout, let's bail out every adult U S Citizen 18+!
As for AIG - liquidate it. Sell off its parts. Let American General go back to being American General. Sell off the real estate. Let the private sector bargain hunters cut it up and clean it up.
Here's my rationale. We deserve it and AIG doesn't.
Sure it's a crazy idea that can "never work." But can you imagine the Coast-To-Coast Block Party! How do you spell Economic Boom?
I trust my fellow adult Americans to know how to use the $85 Billion
We Deserve It Dividend more than I do the geniuses at AIG or in Washington DC.
And remember, The Birk plan only really costs $59.5 Billion because $25.5
Billion is returned instantly in taxes to Uncle Sam.

By the way, 200,000 includes the illegals who just by being here politicians of both parties seem to agree that they have the same rights as LEGAL citizens.

Lastly, and you can do the math on this - how about giving us the $700 BILLION to $1 TRILLION they are talking about?

John McCain is trying to distract voters from the real issues. And he's willing to take the low road by making cheap personal attacks and lying outright about Barack and his record. -Obama mailer

John McCain is running the most negative and dishonest campaign in modern presidential history. He has demonstrated that he'd rather lose his integrity than lose this election. -Move On mailer