And, whatever the reality of lobbying, pressure, and idea exchange here, the optics (as they say in the message spinning business) don’t look great.

From The Baseline Scenario:

"Did Goldman Sachs Just Win Big?

with 2 comments

On p.A4 of today’s WSJ, Deborah Solomon and Jon Hilsenrath report more detail on the Treasury’s “Bad Bank” funding plan. On first (and third) read I’m not impressed, but we’ll go through all the available details and report back later.

For now, I just have one question. Isn’t this essentially the same plan that Goldman Sachs has been shopping around for the past month or so? There’s nothing necessarily wrong with that, of course. But it would be a huge win for Goldman and Lloyd Blankfein - explaining, for example, the confidence displayed in his recent FT article.

And, whatever the reality of lobbying, pressure, and idea exchange here, the optics (as they say in the message spinning business) don’t look great.

Written by Simon Johnson

March 3, 2009 at 9:29 am"

Me:

From Zero Hedge:

“Bill Gross En Route To Becoming 4th Branch of Government
Posted by Tyler Durden ”

http://zerohedge.blogspot.com/2009/03/bill-gross-en-route-to-becoming-4th.html

After eight years of Petronian Crony Capitalism, I’m shocked that such vulgar pandering to lobbying is still going on in plain sight. It suggests, not that things will stay the same, but actually get worse in the future.

As Burke said, in a quote much admired by Paine:

“Corrupt influence, which is itself the perennial spring of all prodigality, and of all disorder; which loads us, more than millions of debt; which takes away vigor from our arms, wisdom from our councils, and every shadow of authority and credit from the most venerable parts of our constitution.”

He was addressing, if I’m not mistaken, the King using money to influence the Parliament. Now we have other rulers. The mere fact that government is going to spend more money and raise a few taxes tells us nothing about how things might really change in the future.

But the Obama administration needs to signal that it means business

From Andrew Leonard:

"The cure for Wall Street: A dose of socialism

"For better or worse, Obama's 'honeymoon' period is now over," declared economist Tyler Cowen on Wednesday morning. Cowen based his pronouncement on the news that Senate Democrats are acknowledging that they don't have the votes to ram through their version of the stimulus plan.

It may be hasty to dance on the stimulus plan's grave just yet. There was always going to be haggling in the Senate over the precise makeup of the bill. The fact that a couple of days ago the price tag for the bill was rising, and now there are reports that it may be slashed, doesn't tell us a whole lot about what will happen next week, or whenever the Senate finally votes on a proposal. (And there had better be a vote -- if Democrats don't force a real filibuster on a bill to restart the economy, one does despair that they will ever show any backbone on any issue.)

But if you really want to hear the sound of Obama's "honeymoon" shattering against a brick wall, hie yourself over to Naked Capitalism, where Yves Smith is apoplectic over the latest details on how the Obama administration plans to deal with the financial crisis on Wall Street.

The Obama Administration is as obviously and fully hostage to the interests of the financial services industry as the Bush crowd was. We have no new thinking, no willingness to take measures that are completely defensible (in fact not doing them takes some creative positioning) like wiping out shareholders at obviously dud banks (Citi is top of the list), forcing bondholder haircuts and/or equity swaps, replacing management, writing off and/or restructuring bad loans, and deciding whether and how to reorganize and restructure the company.

Smith's ire was provoked by a Washington Post story that outlined a three-pronged approach to the financial bailout, the details of which are supposed to be announced by Treasury Secretary Geithner next week. According to Binyamin Appelbaum and David Cho, the Obama administration plans to set up a "bad bank," which will take some of the worst performing "toxic assets" off the balance sheets of banks, will continue to expand a loan guarantee program that backstops banks against further losses, and finally, will inject additional capital into troubled institutions.

Given the current popularity of Wall Street with the rest of America, the plan as described is certain to inflame sentiments. Thus the move by the Obama team to enforce pay caps on executives at banks that get large dollops of government aid. A more obvious attempt to provide political cover for the trillions of additional taxpayer dollars to be funneled to the malefactors that drove the U.S. economy off the cliff could hardly be imagined.

(Perhaps worth noting: A Bloomberg News report on the emerging plan differs somewhat from the Post's take, describing Geithner and Obama economic advisor Lawrence Summers as eager to minimize the bad bank strategy, on concerns that is too expensive and too difficult to implement, in favor of a more robust debt guarantee plan, which would presumably be implemented in return for lending commitments from the banks.)

So what should be done instead? There's hardly any unanimity among the critics of the current approach. Some advocate full nationalization of the banking sector, while others are already decrying Timothy Geithner as a heavy-handed "statist." Some Republicans appear to be inching toward letting the market solve the problems of how to value the "toxic assets" currently sabotaging the bottom lines of ailing banks -- a strategy that would undoubtedly mean the bankruptcy of some of the biggest financial institutions in the world amid gigantic financial losses.

There are no easy, cheap or obvious solutions. But it might be instructive, at this point, to review Sweden's experience with bank nationalization in the early 1990s. As described last week in the Economist, Sweden's approach included three steps. 1) Sweden instituted a "blanket guarantee of all bank liabilities." 2) After passing a law allowing the government to nationalize failing banks, regulators followed through in two cases. 3) Sweden also set up its own "bad bank" to "dispose of bad loans" at the two nationalized banks. (Sweden was also prepared to help recapitalize the rest of the banks but eventually found that step unnecessary after the success of the first three.)

Bad banks and loan guarantees -- not so different from what little we know of what Geithner is cooking up, is it? Except there's one element missing -- direct action that proves the government has teeth. A line needs to be drawn. Sweden may only have nationalized two banks, but that may have been enough to signal its determination to deal with the crisis.

One can only wonder what would happen if the Obama administration decided to make an example of one of the worst offenders on Wall Street, by biting the bullet and nationalizing one of the big boys.

The candidates are obvious: Citigroup or Bank of America. Both banks have proven that their strategy of swallowing up everything in sight is a liability to the economic health of the United States -- and the world. Both deserve to be broken up into smaller pieces, their management is begging to be given walking papers, and their profitable units should be sold off at the first opportunity to the highest bidder on the market. The millions of mortgages sliced up into various toxic assets held by those banks could then be modified directly by the government that would now own them, relieving pressure on millions of underwater homeowners.

We don't need to nationalize the entire banking sector. But we probably do, like Sweden, need to guarantee the health of the entire financial system, and find some way to ease "toxic assets" off of balance sheets, along with targeted, strategic nationalization. Both during his confirmation hearing, and in conversations thereafter, Timothy Geithner said that government policy needed to be direct, forceful and swift. Nothing would be more direct than marching into the offices of Citigroup, telling CEO Vikram Pandit to pack his bags, and restructuring the bank from top to bottom.

Again, it won't be easy, and it still will be hugely expensive for taxpayers. Shareholders and bondholders will scream bloody murder, and lobbyists will descend on Washington to call in their chips. But the Obama administration needs to signal that it means business, if it is to accomplish any of the items on its ambitious agenda. Pay caps for executives may be popular, but they won't solve anything. We need more.

― Andrew Leonard"

Me:

Nationalization

I'm in agreement. Nationalization sends bankers to the loo, and the fear of it causes them to hoard money. Imagine that, if you dare. However, we might have to take over more than you think because of the toxic assets. Although I believe that it would be much cheaper in any case, if it ever gets out that we gave a huge payoff to the banks to avoid nationalization, the Burkean fears I have of this mess causing a run on pitchforks sends me to the loo.

some thoughts on the perils of strong party identification

From Will Wilkinson:

"Parties, Government Capture, and Poverty

by Will Wilkinson on February 3, 2009

Nancy Rosenblum’s apology for partisanship put me in mind of some thoughts on the perils of strong party identification in the section on inequality and democracy in my forthcoming Cato paper.

[T]he danger of “capture” in democratic politics is not primarily a matter of systemic conflicts of economic interest between those occupying different strata of the income distribution. Rather, the problem is that political power in democracies flows to those able to put together winning electoral coalitions, and this ability necessarily involves maintaining the loyalties of special interests whose demands may not be in the public interest.

[...]

[W]e’re unlikely to make real progress in improving the quality of public policy if otherwise sophisticated minds continue to be surprised by the fact that the party promising security may leave us less secure, or that the party promising to lift up the poor may leave them stranded. Strong partisan identification is dangerous because it can pressure even the best and brightest into accepting that the policies best for the electoral success of their favorite party — a fragile and contingent consortium of often conflicting interests — will somehow turn out best for the country.

[...]

It is not enough for the privileged and the powerful to wish with their whole hearts to make ours a society in which all people have a real chance to make the most of their liberties and lives. Our democracy has to deliver the policies that can actually make this happen. But just as special interests can capture democratic coalitions, our coalitional minds can be captured by democratic politics. What the poor need is not party faith, but good faith in the effort to find policies that really deliver.

That “our coalitional minds can be captured by democratic politics” is my main concern about partisanship. Party ID can become a powerful social signal of moral rectitude. But electoral dynamics provide strong reasons to believe that each major party must rule out of bounds some policies that would be best for the poor. Perversely, the more strongly a particular party ID signals care for the poor, the more protected will be large factions within the party whose interests oppose the poor. This is how our coalitional minds reason: Because the success of the party is so important to the welfare of poor, and these factions are so important to the successes of the party, their interests are ipso facto important to the welfare of the poor. And so their actual antagonism to policies in the interests of the poor becomes most invisible to those most eager to communicate their solidarity with the poor through party identification. Our need to signal care can produce viciously careless results."

Me:

Dr. Johnson now said, a certain eminent political friend of ours [Burke] was wrong, in his maxim of sticking to a certain set of men on all occasions. "I can see that a man may do right to stick to a party," said he; "that is to say, he is a Whig, or he is a Tory, and he thinks one of those parties upon the whole the best, and that to make it prevail, it must be generally supported, though, in particulars, it may be wrong. He takes its faggot of principles, in which there are fewer rotten sticks than in the other, though some rotten sticks to be sure; and they cannot be well separated. But, to blind one's self to one man, or one set of men (who may be right to-day and wrong to-morrow), without any general preference of system, I must disapprove."
Boswell: Journal of a Tour to the Hebrides

I used to be more of a Johnson man, although even he is not negating parties entirely. Now I'm a Burke man. The reason is that being in a party habituates one to compromise. Believe me, in order to be a Democrat, I have had to learn to compromise. This can facilitate compromise between the parties in order to ensure the slow and steady movements of political change, as opposed to uneasy lurches. As Burke says:

"All government—indeed, every human benefit and enjoyment, every virtue and every prudent act—is founded on compromise and barter."

Edmund Burke (1729–1797)
Second Speech on Conciliation with America (1775)

A very popular president goes out of his way to earn Republican support, doesn't get it, and nonetheless passes his bill.

From Free Exchange:

"Stimulus strategery

Posted by:

Economist.com | WASHINGTON

Categories:

Political economy

OBVIOUSLY, there are good reasons to be sceptical of the stimulus plan. I happen to think that the balance of the arguments out there weigh in favour of the plan—strongly so, in my opinion—but reasonable people can disagree. It's no wonder that economists on the right and the left can be found on both sides of the issue, though there is a clear partisan lean—conservatives are more likely to voice scepticism, and progressive leaning economists are more likely to support a larger plan.

But that's the economists. They needn't ever fear coming face to face with voters looking to decide their fate (thank goodness!). Republican legislators, on the other hand, are coming off an historic political rout. In a nation that's suddenly, and overwhelmingly, Democratic, in which an extremely popular Democratic president faced with a major economic calamity has sought, seemingly in good faith, to build bipartisan support for his stimulus package, even dropping Democratic priorities from the bill (to the chagrin of progressive groups) to try and recruit GOP members to his side.

And every last Republican member of the House of Representatives voted against the bill, which passed all the same.

Now, I understand that the Republicans that survived the November election are the ones that come, for the most part, from very conservative, very safe districts. They can afford to spurn the president, for the most part. But just from a simple strategic standpoint, how does this make sense? A very popular president goes out of his way to earn Republican support, doesn't get it, and nonetheless passes his bill. To me this suggests one thing and one thing only—Barack Obama shouldn't give two figs about what the GOP caucus has to say on any issue, large or small, for the remainder of this Congress' duration.

The GOP may already have determined that their best hope is to aim for a good year in 2010, but there are two long years, during which a lot of critical policy decisions will be made, before that time. Republicans may have just rendered themselves irrelevant in those debates. That doesn't strike me as the kind of thing that's likely to please one's constituents."

My turn:

Don the libertarian Democrat wrote:

"A very popular president goes out of his way to earn Republican support, doesn't get it, and nonetheless passes his bill."

You are correct. The bill is a compromise of spending and tax cuts. The GOP is saying that only a plan totally based on their ideas is acceptable, which is a farce.

Burke said the following:

"All government, indeed every human benefit and enjoyment, every virtue, and every prudent act, is founded on compromise and barter. "

This GOP is a farce.

1/29/2009 5:56 AM GST

"For those who fear nationalization of our financial system, the destination seemed just over the horizon. "

William Gross on Pimco:

"2008 was the year when the United States led the charge of bailout nations, lending and literally guaranteeing trillions of dollars of private liabilities in an effort to avoid the advent of another Great Depression. Nothing, with the possible exception of George Bush’s IQ was the subject of greater debate. To begin with, the rescue plan itself was controversial even amongst its implementers: Congress voted against it, then a week later voted for it; Treasury Secretary Paulson designated it “TARP” (short for “Troubled Asset Relief Program”), then a month later did a 180°, refusing to buy subprime mortgages and asserting his right to change his mind because the facts themselves had changed. But the broader question reached beyond politics and into the realm of the dismal science itself. Was it necessary and productive to mutate 21^st

century American-style capitalism into a thinly disguised knock-off of the New Deal?( WE HAVE A WELFARE STATE BILL. )

Better, some thought, to have followed the advice of early 1930s Treasury Secretary Andrew Mellon: “Liquidate labor, liquidate stocks, liquidate the farmers ( LIQUIDATE CAPITALISM. DOES ANYONE BELIEVE THAT AVERAGE CITIZENS WILL STAND STILL FOR THIS PURGATIVE? )– purge the rottenness from the system.” The Mellons of the world argued that bailouts were akin to pouring gasoline on a fire, adding trillions of dollars of new debt to a domestic and global economy that had broken down because of, because of, well, because of – too much debt. ( HOW ABOUT TOO MUCH SOCIAL UNREST? )

Wall Street( THE INVESTOR CLASS ), the Fed, and Newport Beach took the other side. Those steeped in economic history felt that the Great Depression and more recently the “lost decade” in Japan had both experienced a “liquidity trap,” a monetary black hole where lenders, savers, and ultimately consumers were frightened into stuffing their money into a mattress rather than circulating it in classic capitalistic fashion. Sensing a freezing of credit markets ( A CALLING RUN ) following the default of Lehman Brothers, policymakers decided it was better to become a bailout nation than a sunken ship.

The debate, of course, can never be resolved. You can’t prove a negative nor recreate history to show what might have been. What we do know, however, is that even with U.S. and indeed global bailouts, almost every major economy entered recessionary territory in 2008 and that the “D” word, while unmentionable in official policy circles, was nevertheless on the tip of their tongues and at the forefront of their contingency plans. As we closed the year, “quantitative easing” was the publically acknowledged future policy of the Federal Reserve, which in short meant “buy assets, support Wall Street, and in the process, hope that some of it might trickle down to labor and the farmers.” Ben Bernanke is no Andrew Mellon. There may be rottenness in the system, but our Chairman surely doesn’t believe in starving a cold, or pneumonia for that matter. The Fed’s willing accomplice was the United States Treasury and the FDIC, extending not only $350 billion of TARP money but literally guaranteeing three quarters of the liabilities of U.S. banks. For those who fear nationalization of our financial system, the destination seemed just over the horizon.( SILLY )

Still, while such a transformation is, to put it mildly, undesirable, the policies are necessary.( I AGREE ) As outlined in these pages, the U.S. and many of its G-7 counterparts over the past 25 years have become more and more dependent on asset appreciation. Under the policy-endorsed cover of technology and somewhat faux increases in financial productivity, we became a nation that specialized in the making of paper( INSN'T PAPER A THING? ) instead of things, and it fell to Wall Street to invent ever more clever ways to securitize assets, and the job of Main Street to “equitize” or, in reality, to borrow more and more money off of them. What was not well recognized was that these policies were hollowing, self-destructive, and ultimately destined to be exposed for what they always were: Ponzi schemes, whose ultimate payoffs were dependent on the inclusion of more and more players and the production of more and more paper. Bernie Madoff? As with every financial and economic crisis, he will probably go down as this generation’s fall guy – the Samuel Insull, the Jeffrey Skilling, of 2008.

But Madoff’s scheme has a host of culpable look-alikes and one has only to begin with the mortgage market to understand the similarities. Option ARMs or Pick-A-Pay home loans allowed homeowners to make monthly payments that were so small they did not even cover their interest charges. Two million mortgagees either chose or were sold this Ponzi/Madoff form of skullduggery( I AGREE ), believing that home prices never go down and that shoppers never drop. One can add to this the trillions in home equity/second mortgage loans that extracted “savings” in order to promote current instead of future consumption, and one begins to realize that Bernie Madoff and our cartoon’s Wimpy had company all these years.

What about the shabby performance of the rating agencies? Were they not equally at fault for perpetrating a giant charade that was bound to end in tears? Of course( I AGREE ): Aaa subprimes structured like a house of straw; Aaa monoline insurers built like a house of sticks; Aaa credits like AIG, FNMA, and FHLMC where only a huff and a puff could expose them for what they were – levered structures dependent upon asset price appreciation for their survival. Ponzi finance.

I will go on. Municipalities with begging bowls now extended for over a trillion of Federal taxpayer dollars, based their budgets and their own handouts on the perpetual rise in home prices, the inevitable upward slope of sales taxes, and the never-ending increase in employment and personal income taxes. To add injury to insult, they conveniently “balanced” their books with a host of accounting tricks that Bernie Madoff could never have come up with in his wildest imagination. Now, with cash flow insufficient to meet current outflows, they are proving my point that we have met Mr. Ponzi and he is us – all of us: auto companies that siphoned sales dollars to make labor peace instead of research and design expenditures; hedge funds that preposterously billed investors for 2% and 20% of nothing; a President and politicians who thought they could fight a phony war for free and distract the nation’s attention from $40 trillion of future social security and health care liabilities. Ponzi, Ponzi, Ponzi.( ENOUGH WITH PONZI )

Still, future policymakers must confront the reality that is, not the one that should have been. And investors must do likewise, casting aside personal philosophies for a clear-headed view of the future horizon. PIMCO’s view is simple: shake hands with the government; make them your partner by acknowledging that their checkbook represents the largest and most potent source of buying power in 2009 and beyond. Anticipate, then buy what they buy, only do it first: agency-backed mortgages, bank preferred stocks, and senior bank debt; Aaa asset-backed securities such as credit card, student loan, and auto receivables. These have been well-advertised PIMCO strategies over the past 6 months but there are others in clear sight. An Obama administration will quickly be confronted by the need to provide those hundreds of billions of dollars to states and large municipalities. Their requests total nearly a trillion dollars and to think California or NYC would be allowed to fail is, well – unthinkable. Municipal bonds then, selling at historically high ratios relative to U.S. Treasuries, offer attractive price appreciation potential, or at the very least a defensiveness with high carry that a 2½% 10-year Treasury cannot.

Here’s another thought. While TIPS or inflation-protected securities cannot logically be a recipient of Uncle Sam’s checkbook over the next 12 months, they can benefit if and when the government’s efforts to reflate begin to take hold. 2½% real yields cannot possibly be maintained unless deflation as opposed to inflation becomes the odds-on favorite. What bond investors know as “breakeven inflation rates” are currently signaling a future where the U.S. CPI averages -1% for the next 10 years. Possible, but not likely. As an additional strategy, global bond investors should recognize the value in high-quality investment-grade corporate bonds in many markets. Yields of 6%+ for intermediate maturities are still common and readily available.

There is legitimate concern as to the ultimate destination and outcome of our “bailout nation.” Realistically, quantitative easing, a two-trillion-dollar expansion of the Fed’s balance sheet, and the near certainty of future budget deficits approaching 6-7% of GDP should alert bond investors to once again become vigilant as was the case in the 1980s and 90s. Vigilantes we should be, but that is a battle to be fought in the Treasury market where low yields offer little reward and increasing risk. For now, our Ponzi-style economy and its policy remedies encourage bond investors to mimic Uncle Sam and its global compatriots. Buy what they buy, but get there first. Andrew Mellon would surely have disapproved. Liquidation was his game. Wimpy? Well, he’s gonna have to start paying for those burgers on Monday, even in a bailout nation.

William H. Gross
Managing Director"

Is it possible for the Investor Class to realize that an economy is made up of people? I'm not sure. Forget Mellon, and read Edmund Burke.

"Two-thirds of Britons want the rich to face punitive tax rates not seen since the 1980s"

Some people might worry about why I'm such a Burkean. I seem to worry about how fair the system seems to citizens, whether or not crimes are prosecuted, pissing on high wages for workers, conflict of interest, etc. Here's why from the Guardian:

"Public wants taxes that hurt the rich

Credit crunch provokes backlash against bankers

• Gaby Hinsliff, political editor
• The Observer, Sunday 4 January 2009
• Article history

Two-thirds of Britons want the rich to face punitive tax rates not seen since the 1980s, according to a new poll which suggests that the recession has hardened attitudes towards the wealthy( REALLY. WHO KNEW ? ).

Bankers are now seen second only to footballers as being overpaid, while seven in 10 think that ordinary workers should sit on remuneration committees setting executives' pay to ensure that high salaries are deserved.

The findings - in a poll for the think tank the Fabian Society, to be published this week - suggests that the credit crunch has provoked a backlash against the rich, with the public seeking retribution for alleged mistakes made by City figures( MY MY ).

The findings will encourage Labour MPs who want Gordon Brown to go further in next spring's budget and rebalance the tax system in favour of more modest earners( BETTER GET GOING ).

His gamble in pledging to introduce a top rate tax of 45 per cent for those earning more than £145,000 is backed by three-quarters of those polled, while 69 per cent would support Labour introducing a higher top rate of 50 per cent for those earning more than £250,000.

Tax has not been that high in the UK since 1988, when Margaret Thatcher brought the top rate down from 60 per cent. Neil Kinnock's threat to introduce a 50p tax rate in the 1992 election is widely held in New Labour circles to have cost him Middle England's support.

However, the Fabian report found new demand for forcing the wealthy to contribute more, with 70 per cent of those polled by YouGov agreeing that "those at the top are failing to pay their fair share towards investment in public services"( DEAR ME ).

Louise Bamfield, senior research fellow at the Fabian Society, said the public had previously considered footballers and business "fat cats" overpaid but had largely accepted it as a fact of life. That had now changed. "There is a shift to a new group of people - bankers and traders - and the sense that not only have they been paid too much but what they have been paid has had a direct negative consequence on other people( SILLY ME. TO WORRY ABOUT SUCH PERCEPTIONS. )," she said.

"People had assumed that this group were more than competent( PROVEN WRONG CHAPS ) and it must have been deserved. There is now a feeling that these people have been responsible for others losing their jobs( WELL NOW )."

However, she said the anti-rich backlash had not greatly benefited those at the bottom. Focus groups conducted alongside the poll found that while there was sympathy for those losing their jobs, people still expected them to find work as quickly, despite the recession. Those polled significantly underestimated the cost to the Exchequer of tax avoidance by the wealthy and over-estimated the cost of benefit fraud. They blamed the government for failing to stop tax dodges rather than individuals, but saw benefit fraud as the fault of the individual( IT IS ).

The findings may explain why Labour's poll ratings have increased; 55 per cent of the public blame reckless lending by the banks for the credit crunch( THAT'S MY VIEW ), while fewer than a quarter think the government was mainly responsible.

Labour's private polling suggests that two-thirds of Britons blame America for starting the credit crunch - the argument that Brown uses( HE LOVES TO PISS ON EVERYONE BUT BRITAIN ), to the frustration of Conservative MPs who argue that he left the economy overexposed. Bamfield said the poll suggested Brown had pitched his tax rise correctly. More than half of respondents wanted not only to see bonuses reduced, but for executives of failed companies to repay past bonuses as penance for mistakes( HERE'S WHERE I AGREE WITH THE SKEPTICAL CPA. I SIMPLY DON'T YET ACCEPT HIS SOLUTION )."

Who would think that citizens, instead of just accepting calls for them to suck it up and accept a recession or depression, might want to alter the Social and Political Culture instead? A Burkean.

The Place Of Government Guarantees In Avoiding Bank And Calling Runs

I want to briefly talk about the causes of this crisis before the silly explanations like lack of regulations and complex investments win day, as they surely will, guaranteeing that this system will go on and even implode again in the near future, although hopefully not to the this extent.

I want to ask a simple question: Does FDIC Insurance on individual accounts help prevent bank runs? Bank Runs being a result of depositors running to the bank to get their money out before the resources of the bank run dry, leaving a number of depositors to lose their money. If you think that FDIC Insurance is stupid, illegal, unconstitutional, a gift to moral hazard, doesn't help stop bank runs, and should be gotten rid of, then my points going forward won't matter to you. I do, however, address this position at the end of the post.

Now, our current crisis is a Calling Run. As the credit rating of a business goes down, investors or creditors that can demand money from the business do so, forcing the business to sell assets or borrow to fund these calls, which leads to a further deterioration of the finances of the business and a further downgrade, which leads to more calls... Now, if better regulations and higher capital standards are all that is needed to stop runs, why do we need FDIC Insurance? Surely higher capital standards and better regulation should suffice to stop a Bank Run. You see my point.

In the current crisis, the flight to Treasuries was in lieu of an explicit government guarantee concerning their assets. Investors fled into explicitly guaranteed, and hence liquid investments, since they can be priced, and even fled from implicitly guaranteed investments. In other words, investors fled to an equivalent of the FDIC. Simply put, you need government guarantees about losses to stop a run. Regulations and Capital Standards won't suffice. Well, they could, but they would be incredibly onerous and high, making them impractical, so, in effect, you need government guarantees to stop runs.

In the current crisis, it has all been about the extent and particulars of government guarantees. Certainly the gyrations of government actions have led to problems, but only in the sense of not making the extent of the guarantees explicit and particular. Anyone who believes that we could stop this crisis without government guarantees, like US Treasuries, is wrong.

From my analysis, it's clear that regulations and capital standards are not sufficient to stop a run. They might have effected this crisis in some manner, but explaining the crisis by seeing what has just occurred and writing laws that might have prevented it is of very little use, and has no real explanatory power. It's a help going forward, but, taken too particularly, it will result in a set of rules and laws that very smart people will manage to elude.

What to do then going forward?
1) Put in some sort of FDIC Insurance for these investments
2) Accept that runs might occur, and do your best to preclude them and be prepared for them
On 2, I say," good luck". Wishful Thinking at its worst. This is what will happen naturally.
On 1, what can we do? I suggest Bagehot's Principles. We need a LOLR I'm sorry to say in the modern world. All that we can do is make the guarantees explicit and adhere to firm standards going forward. But there is no practical solution without LOLR guarantees. They should be robust enough to preclude Calling Runs. One solution would allow some minimal use of FVA as opposed to MTM in supervised cases, with a government guarantee.

For libertarians, I'm sorry. This is the best that we can do for you. However, by averting Runs, we can avoid the kind's of crises that usher in enormous government intrusion. That should prove sufficient to the practically minded.

Finally, to the FDIC abstainers, a Burkean response. We don't have the FDIC for James Grant. We need it for:
1) Our actual Investor Class, which feeds on government guarantees and intervention.
2) Much more importantly, and let me put this in terms that the Investor Class can understand, in order to stave off social rebellion. A system that leads to mass unemployment, low wages, a very wealthy upper class, is not stable. Telling average workers to accept the pain of recessions and depressions is going to eventually lead to trouble. They don't have to. In other words, some people believe that we live in a world where such events as rebellions cannot occur. Of course, some people live in a world where depressions cannot occur. As a good Burkean, I know that isn't our world, and the bonds of civil society must allow compromise in order to stave off societal dislocations.

"that banking regulation is necessary because of moral hazard that results from deposit insurance "

Here's a strange exchange:

"[Eric Posner, December 27, 2008 at 6:58pm] Trackbacks

Have a lousy Christmas, with a note on banking regulation.

Some people are offended if you say “happy holidays” and others are offended if you say “merry Christmas.” Some people are offended if you are offended by one greeting or another, and some people are offended by efforts to explain why some people are offended when other people are offended by one greeting or the other. Makes one’s head spin. So let’s change the subject.

Megan McArdle disagrees with “a very common” point I made in an earlier post: that banking regulation is necessary because of moral hazard that results from deposit insurance (both formal FDIC insurance and the informal insurance where authorities end up compensating creditors not covered by the FDIC program). Yes, it’s a very common point, but it turns out to be wrong, she says:

Almost everything in the world has negative and/or positive externalities. But despite this, we do not intervene to subsidize everything with good negative externalities, or punish everything with bad. That's because things with substantial negative externalities often contain sufficient punishment to deter the individual; likewise, things with positive externalities often carry enough reward to produce a socially optimal amount. For example, if I am a bus driver, the negative externality of my suddenly jerking the steering wheel to the left and driving the bus off a cliff is much higher than the cost to me--many lives against my one. But my own life is very valuable to me. The threat of its loss is enough to deter such behavior 99.9999% of the time.

The problem with this example is that in the real world the bus driver has a continuous range of options as to how much care to take. Suppose, for example, that he slept badly the night before and knows that he will not be able to drive very attentively. He may well decide to drive even though he would not if he fully internalized the risk of harm to the passengers. We have all done this, and all kinds of laws and regulations, with the tort system as an overall backstop, attempt to deter people from acting in this way. McArdle continues:

Bankers take risk in order to make money, and they control risk in order to avoid losses. But the losses they are most interested in are not to their shareholders. Rather, they are worried about the loss of their jobs. As long as the bank regulators fire any managers who put the bank in receivership, I can see no difference between an unregulated private system without deposit insurance, and a system with. That isn't to say that there is enough regulation in either situation. But if there is a problem, it is that bankers have a socially less-than-optimal risk appetite, or that the punishment for driving a bank into insolvency is insufficient. The moral hazard from deposit insurance doesn't much enter into it.

In a world with bank insurance but without regulation [corrected, thx to traveler456], I would start up a Posner bank, ask you for a deposit, and then use your money to buy lottery tickets. If I win the lottery, I pay you back; if I don’t, I dissolve the bank and you go to the government for your funds. I wouldn’t bother to hide my investment strategy from you; you wouldn’t care because you would be paid in any event. I would set up hundreds of banks and give the managers a salary that they would receive if and only if they collect deposits and use them to buy lottery tickets; otherwise, they are fired. (Corporate law junkies will point out that the government will pierce the corporate veil and go after my lottery winnings, but in the real world, with thousands of shareholders and not-lottery but still risky investment schemes that unfold over decades during which dividends are paid and the money spent, that’s not so easy.) McArdle continues:

The moral hazard for depositors may be large. But I doubt it. Most depositors are not capable of determining whether a bank is faulty or sound, and they weren't in 1830, either.

This can’t be true. In the nineteenth century, elaborate efforts were made to keep track of bank risk. Merchants discounted bank notes after consulting books that compiled risk estimates. The notes of larger and more stable banks were discounted less. Since people often made payments with bank notes, they must have had a sense of how risky different banks were, and taken the risk into account when making deposits, to say nothing of common memory about which banks have stayed in business and for how long. Today, people don’t pay attention to bank risk because of deposit insurance; but people certainly think about risk when they make uninsured investments, for example, when they buy stocks or corporate bonds or, for that matter, stereos and personal computers. She concludes:

The reason that deposit insurance requires tighter regulation is that the government wants to minimize the cost to itself--not society, for whom the losses would be the same whether the government or the bank paid them. I think this is wise, for many reasons. But not because of moral hazard.

The argument here seems to be that we should distinguish the perverse incentives of depositors and of bankers. Depositors have a perverse incentive to ignore the riskiness of a bank; ironically, the government does little to counter this incentive aside from capping the insurance payout (and not very credibly). One could imagine a different system where the government tried to regulate depositors the way insurance companies normally regulate insured parties—by demanding that the insured bear some of the risk with a copayment or deductible and take other actions to minimize the potential loss.

Instead, the government goes after the banker. This would be like an insurance company trying to regulate the activity of people who impose risks on insured parties rather than on the insured parties themselves. Imagine that I have health insurance and the insurance company tries to shut down the local polluter so as to minimize its expected insurance costs. Our system of banking regulation resembles this approach.

But moral hazard is the right term. Economists use the term moral hazard to refer to the perverse incentives that arise when a principal pays an agent to act in a certain way that benefits the principal where the agent would rather act differently, but cannot observe the agent’s action, so the agent acts in a way that ends up hurting the principal relative to a baseline of optimal behavior. There are various ways of mitigating moral hazard: one is to share risks, but another is to confine the agent’s choice set. That is what government banking regulation does. It reduces moral hazard by depriving insured depositors of the option of investing in a risky bank, which would presumably offer a high interest rate or other advantages."

I'm not sure that I follow this debate. Presumably, FDIC Insurance is in place to prevent a Bank Run. This has to do with the fact that banks do not have enough cash on hand to satisfy the claims of all of its clients if they came in all at once to withdraw their money. Regulation exists to make sure that the banks, among other things, keep enough capital on hand to be solvent. We've just seen a Collateral or Calling Run. Moral Hazard would be the consequence of the Bailouts, in that Investors would increase their risk in investing, in that they would expect to be Bailed Out by the government if their investments go sideways.

If a bank is guaranteed by taxpayers, it makes sense to have it limit its risk. This is because the government should take a much more conservative approach with the taxpayer's money, which should should generally used to supply goods and services to and for the taxpayers. The benefit to society of the FDIC is limiting the dire consequences of bank runs.

I agree that for explicitly government guaranteed financial institutions, we should have regulations to minimize possible losses. Moral Hazard will apply when a case comes up of a bank becoming or getting close to being insolvent. It should immediately be seized in order to keep Moral Hazard intact. Moral Hazard needs actions, not simply words, in order to be effective.

In our current crisis, Moral Hazard played the most important role, in that it was ineffective, and applying it at the point of the crisis, as Lehman showed, would have caused a financial meltdown. Why? Because past government actions, including the S & L Crisis, showed that the government would intervene in a financial crisis. One could even include Fed actions in this brief. The investors and markets were counting on this government intervention, and invested accordingly. As well, the poor record of prosecuting fraud, etc., caused many people to ignore the laws betting that they were unlikely to be discovered or prosecuted if they were. That's Moral Hazard. And, unfortunately for us, many of the people controlling actual money would have panicked even more were the government not to intervene, causing a possible meltdown.

Now, given Bagehot's Principle, that if the Fed exists, then it will be the Lender of Last Resort, and this should be taken into account in real world decisions, there will always be some presumption of a bailout. Therefore, the government will regulate these financial concerns, not just to avoid a bailout, but to avoid a crisis, which has social as well as economic side effects that we'd rather not face. Try looking at Iceland.

And that brings us back to the idea of a Central Bank. It exists because a significant segment of society does not trust bankers. The idea that average citizens are going to research the solvency of banks is not on. The reason we have these laws is because average citizens got enough power or were enough of a threat for government to realize that its existence depended upon these banking constraints. Lost totally in this quest for private banks, a purely silly one, is any Burkean sense of the nature of Politics and Political Economy. It is much more likely, in the real world, that government would control all of the banks than regulate or control none. In light of that fact, an intelligent and effective interest in limited government would attempt to compromise in such a way as to maximize liberty. As Burke might say, God spare us theorists. Whether on the right or left, they usually end up wreaking havoc in the name of their ideas.

"We care more about social comparison, status and rank than about the absolute value of our bank accounts or reputations."

From the NY Times, another Human Agency post:

"Why We’re Still Happy

By SONJA LYUBOMIRSKY

Published: December 26, 2008

"THESE days, bad news about the economy is everywhere( THIS IS ONE REASON FOR THE FEAR AND AVERSION TO RISK. SATURATION ).

So why aren’t we panicking( SOME PEOPLE ARE. NAMELY, INVESTORS AND EMPLOYERS )? Why aren’t we spending our days dejected about the markets? How is it that we manage to remain mostly preoccupied with the quotidian tasks and concerns of life? Traffic, dinner, homework, deadlines, sharp words, flirtatious glances.

Because the news these days affects everyone( I WOULD ADD THAT MANY PEOPLE SEE THIS CRISIS AS CALLING FOR PRUDENCE, FOR EXAMPLE, MORE SAVING, BUT NOT PANIC. THAT'S WHY THE CONTEXT OF THE TIME MATTERS. THIS IS NOT THE 1930s ).

Research in psychology and economics suggests that when only your salary is cut, or when only you make a foolish investment, or when only you lose your job, you become considerably less satisfied with your life( I WONDER WHY ? ). But when everyone from autoworkers to Wall Street financiers becomes worse off, your life satisfaction remains pretty much( NOT COMPLETELY ) the same.

Indeed, humans are remarkably attuned to relative position and status( THIS IS VERY BURKEAN, AND WHY WAGE INEQUALITY AND GOVERNMENT JUSTIFICATION MATTER ). As the economists David Hemenway and Sara Solnick demonstrated in a study at Harvard, many people would prefer to receive an annual salary of $50,000 when others are making $25,000 than to earn $100,000 a year when others are making $200,000.

Similarly, Daniel Zizzo and Andrew Oswald, economists in Britain, conducted a study that showed that people would give up money if doing so would cause someone else to give up a slightly larger sum. That is, we will make ourselves poorer in order to make someone else poorer, too( THAT'S NOT GOOD. IT SOUNDS LIKE THE ISRAELI-PALESTINIAN CONFLICT ).

Findings like these reveal an all-too-human truth. We care more about social comparison, status and rank than about the absolute value of our bank accounts or reputations( I AGREE ).

For example, Andrew Clark, an economist in France, has recently shown that being laid off hurts less if you live in a community with a high unemployment rate. What’s more, if you are unemployed, you will, on average, be happier if your spouse is unemployed, too.

So in a world in which just about all of us have seen our retirement savings and home values plummet, it’s no wonder that we all feel surprisingly( NOT TOTALLY ) O.K.

Sonja Lyubomirsky, a professor of psychology at the University of California, Riverside, is the author of “The How of Happiness: A Scientific Approach to Getting the Life You Want.”

My only disagreement is that the context of the crisis matters to this kind of response. However, I also sense, again, that the wealthy and investor class are the people panicking in this crisis, not the rest of us. From my point of view, this is because the uncertainty of the government's response largely impacted the investor class, who, while braying endlessly about the free market, are total devotees to government intervention in their interests, which this crisis came close to wiping out.

"against the predations of the powerful, but also as a shield against would-be Robespierres with their reigns of terror."

I have similar feelings as Jesse's Cafe Americain, but a different analysis:

"The Predator Class ( I SIMPLY DON'T SEE THESE PEOPLE AS ANYTHING BUT SINCERE BELIEVERS IN GOVERNMENT INTERVENTION AND LARGESS, WHATEVER THEY CLAIM )

Its interesting to read this essay from early 2006 today in the light of what we have seen in the intervening period. A number of people who might have dismissed this out of hand back then might see a little more truth behind the rhetoric today.

So, how can the political system reform itself? How can we reestablish checks, balances, countervailing power, and a sense of public purpose? How can we get modern economic predation back under control, restoring the possibilities not only for progressive social action but also—just as important—for honest private economic activity? Until we can answer those questions( WE MIGHT WANT TO TRY AND DO SOMETHING AS WELL ), the predators will run wild.

It is something to think about for the New Year, for all parties involved. FDR was denounced as a 'traitor to his class' at the time( SPOT ON ), but in reality he was one of the most insightful of leaders. If one views outcomes in other contemporary governments from 1916 to 1940, and considers what a Huey Long administration might have been as an example, the New Deal seems like a wise and appropriate political move for all involved.

Why are people so reluctant to believe that sociopaths and narcissists can use the power of the pen to prey on people? Because they are well spoken and organized? We would contend that these are the most dangerous of the emotionally warped with a need to acquire, dominate and control, because they are smarter and more calculating than the impulse murderers, burglars, rapists, thieves, and pedophiles.

There is a need for economic law and enforcement as there is a need for the less cerebral, hairy knuckled criminal law and enforcement( VERY TRUE ). The notion that people become naturally good, rational and well-adjusted because they are wearing a suit is ludicrous, especially to anyone who has worked with many of those who move in the upper echelons of money and power( I AGREE. VERY UTOPIAN. UNBURKEAN ).

Some of the scariest people we have ever met were articulate and pathologically driven borderline psychopaths with a need to acquire political and economic power. It is the focus of their illness that makes them powerful. They are not distracted by the diffusion of emotional responses that color most people's actions. They have a need, and the will to satisfy it, no matter what it takes.

As an aside, we have met many kind and gentle and thoughtful people in all walks of life, rich and poor. It is not the office that makes the person; it is their character. Class prejudice is mistaken and unjust, and there is always someone less fortunate than you who might view you as the object of their anger, no matter who you might be. The hypocrisy and injustice of prejudice and 'class warfare' knows few limits( I AGREE ).

There will always be those at the extremes who need to 'take it to the limit,' with a well stocked foreign retreat in case things get ugly. But for most of us, restoring a sense of justice and order and putting the nation back into some kind of working balance will be high on the priority list, if not for ourselves, then for our families. Violence does not work, ever. The Constitution is a restraint that works both ways, against the predations of the powerful, but also as a shield against would-be Robespierres with their reigns of terror( VERY BURKEAN ).

It is going to take a lot of hard work, and time. Its been a long time coming, it will be a long time gone( I AGREE ). But it has been done before by those who created this nation, and it can be done to restore it again.

We are not doomed. Our situation is not hopeless. But the system is badly out of balance( TRUE ), and will have to be restored by meaningful reform. There will be inflation and selective defaults, real justice and show trials, innovation and false starts, disproprotionate suffering, uncertainty and even some level of conflict. But eventually the accounts will be squared and we will gather ourselves together an move forward. The sooner we start, the sooner it will be over."

I believe that we've started, but the going will be rough.

"“For the first time in my life I have sympathy with the Bolsheviks; with the French revolutionaries who put up the guillotine.”

A Burkean view of what happens if a society doesn't have a thriving Middle Class on the FT:

"Iceland gives Christmas frosty reception

By Sarah O’Connor in Reykjavik

Published: December 23 2008 20:14 | Last updated: December 23 2008 20:14

On the ground floor of one of Reykjavik’s gleaming office buildings, a well-dressed crowd shuffles and waits. Tinny Christmas songs blare from a small hi-fi by the door.

As numbers are called out one by one, people file into the next room where rudimentary shelves are filled with free tins, fish, clothes, books and wrapping paper.

Some 2,500 people have applied for Christmas relief packages from Iceland’s three main charities in recent weeks, a 30 per cent rise on last year, as growing numbers of the middle class lose their jobs in the wake of Iceland’s banking collapse.

Jon Omar Gunnarsson, a pastor at Hallgrimskirkja, Reykjavik’s main church, says applications to the Church Aid group have doubled.

“It’s mostly middle class people who have all these obligations, mortgages that are going up, many are losing their jobs ... they just can’t carry the burden alone,” he says.

Iceland is still reverberating after its economy crumpled in October in the face of global financial turmoil.

Inflation and interest rates are both at 18 per cent as the country struggles to shore up its currency, which plunged after its three banks collapsed. It has borrowed $10bn from the International Monetary Fund and others which it needs to repay, meaning taxes are rising even as recession deepens."

So, they have:

1) Interest rates at 18%

2) A Falling currency

3) Borrowed $10 Billion from the IMF

4) Higher taxes

5) A recession

"The charities believe more people need help but are too ashamed to ask.

“We should just forget about Christmas, just cancel it,” says Sigridur, 57, waiting for her number to be called.

“My husband lost his job, I don’t have one either – I am recovering from cancer. We cannot even pay for the house.”

Sigridur and her husband are considering moving to Norway where there are jobs in construction. “We would just post the house key back to the bank.”

Asa, 44, will give her children Christmas presents provided by charity this year. “You have to take off your pride,” she says. “It’s very difficult to do it.

“There will be a lot of people who leave this country, just go away. Think of the future here for the children. When they are 95 they will still be paying for this( YIKES ).”

Although growing, the number of people needing food aid is still small. Many of those who have lost their jobs will continue to get paid until February. The government, which owns the three main banks, has promised mortgage holidays for people who cannot meet repayments. But even those who have not been badly hit are changing their lifestyles. This Christmas, people are giving each other books, home-made trinkets and practical presents such as warm socks.

Last year’s must-haves, flat screen televisions and games consoles, are on the list of things people here call “so 2007”.

For many, Christmas brings a welcome distraction from the crisis. But others find it impossible to get into the seasonal spirit.

Sitting in an old fisherman’s cafe by the port, Orn Svavarsson shakes with rage. He sold his health food business three years ago when he was 54 and, like many of his countrymen, put the money into the stock market. It has been wiped out.

“The Icelandic people are too lazy,” he says. “Why don’t we go to the airport and block it until we get answers?

“For the first time in my life I have sympathy with the Bolsheviks; with the French revolutionaries who put up the guillotine.”

Note well the last sentence. If Icelanders should come to lose confidence in the social system as well as the economic system, then things could actually get ugly.

"Neither gives a reliable figure for the future cost currently being incurred and it is not obvious which is better. "

David Friedman makes a good point about wages and the Big Three:

"The one problem I can see with estimating the labor cost per hour using current expenditures for both current and past workers is that the number of employees and their terms of employment change over time. If, as seems likely—I haven't checked—the number of employees is substantially less than it was in the past, then dividing current pension payments by the current number of workers gives too high an estimate for the per worker cost being incurred for pensions to current workers. On the other hand, if pension terms now are more generous than they were for many of the currently retired workers, that would bias the numbers the other way. Similarly for medical costs--if we assume they will be higher in the future than they are now, then using current costs paid underestimates future costs currently incurred.

All of those are details and none of them were mentioned in Eric Boehlert's column. At the simplest level, and assuming the companies aren't trying to include both pension costs incurred and pension costs paid, which would be double counting, he is wrong. What he regards as a blatant deception is a better estimate for the real cost per hour of employing auto workers than it would be if corrected in the way he wants it to be."

However, the point he is making applies to the total money that the company pays on wages and compensation. It might well be that those costs need to adjusted downward to save the company. It is also possible that Bankruptcy would do that.

On the other hand, it doesn't address the issue of each individual worker's compensation, since a reduction in total compensation could take many forms. I do not believe that the UAW workers are wealthy. That seemed to be the point of much of the criticism of the worker's wages. In other words, why have sympathy for such well off workers?The workers know that their company can go bankrupt, that they can be laid off, that they might have to accept lower compensation, that they might never receive their pension money, etc. Being a UAW member doesn't preclude hardship.

How you view the issues of wages in this situation depends on what you want to know or to show. If you want to show that worker's compensation is too high, then you can make that point by looking at total wages. If you want to know what workers earn, you can look at their current wages and benefits. That's all that they are sure that they are going to get. I can agree that wages might need to come down, but I do not believe that these auto workers are wealthy or greedy.

The argument that these workers are wealthy is, from a Burkean perspective, dangerous. This system exists because people accept that it is either fair or reformable. When enough people start believing differently, things could go very sideways. I don't want to bet on things working out. It is one thing to claim that a company needs to cut labor costs, it is another to belittle the wages and aspirations of individual workers.

"Cerberus will be back to ask for more taxpayer dollars, and will continue to avoid responsiblity for repaying them. "

I have a different take on this than James Henley on Postive Liberty. I believe that the Automaker's Bailout is happening precisely to ward off posts like his:

"Not so widely reported in the auto bailout story is the link between Bush and principals of Chrysler owner Cerberus Financial Management. Amost immediately after stepping down as Bush’s Secretary of the Treasury, John Snow became chairman of Cerberus. Former Republican Veep Dan Quayle, who has been lobbying hard on this issue, runs one of Cerberus’s investment units. And Cerberus has just received a $4 billion loan from the government, thanks to Bush’s decisiont to tap the Troubled Asset Relief Program (TARP) funds. This decision is troubling on multiple dimensions.

First, the hint of crony capitalism just can’t be waved away by noting that Bush also made a loan, a bigger one, to GM. GM’s failure is a more serious issue than Chrysler’s by far, because it employs far more people, not just directly, but because of its larger production level, indirectly as well. And the death of Chrysler is not likely to be wholesale–the Jeep brand remains a valuable commodity that Cerberus could sell to recoup at least some of its loss, and thereby keep some of their production plants going.

Second, we once again see the president making decisions that bypass the legislative process and distort the purposes of legislation he himself has signed. The TARP money was authorized by Congress for the purpose of bailing out the financial markets. However good an idea it may be to also bail out the auto industry, the people’s representatives have chosen not to do so. But Congress’s decisions no longer matter to presidents. The evisceration of representative democracy continues apace, and we all collectively yawn as legislative power continues to shift away from the legislative branch to the executive branch.

Third, Cerberus may have gotten what they most wanted, the ability to avoid responsibility for the loan if Chrysler doesn’t survive. They originally asked for $7 billion, curiously similar to the $7.4 billion they paid Daimler to acquire Chrysler just last year. Although that was $30 billion less than Daimler paid for Chrysler nine years earlier, most observers still couldn’t figure out why Cerberus thought it was a good deal, even at the fire sale price. The amount Cerberus asked led to the suspicion that they were looking for the taxpayers to cover the upfront price of their bad business decision.

But that’s not the really bad part of it. One of the reasons Congress balked at giving Chrysler a loan was that Cerberus did not want to open their books. The suspicion remains that Cerberus’s coffers are capable of providing the funding needed, but Cerberus closely guards its figures and wasn’t willing to make them public in order to disprove that notion.

But that’s not yet the really bad part of it. Another reason Congress balked was that Cerberus wanted Chrysler alone to be responsible for repayment of the loan. That way, if Chrysler still went under, Cerberus would be wholly off the hook for the taxpayer money it begged for. A nice trick, if you can swing it, and it appears that Bush has allowed his former Sec Treas to do so. At least as reported so far, the details of the loan don’t hold Cerberus responsible for repayment. Yet again we see that Republicans, despite their long-standing claim, are not a party of fiscal responsibliity. If one group of them isn’t spending the public’s money like drunken sailors, another group of them will quickly step in to do so.

My prediction for the new year? Cerberus will be back to ask for more taxpayer dollars, and will continue to avoid responsiblity for repaying them. If only Carter had let Chrysler die 30 years ago."

The bailouts cannot be confined to simply a financial bailout. That already has plenty of charges of conflict of interest and cronyism. Many people see the Automaker's Bailout as a Jobs Bill, as opposed to a bailout of the employers. That is the reason the Fed and Treasury Department are working so hard to do something for the Automakers and Home Buyers. They need some Bailout money to effect the lives of Middle Class Citizens. Solely bailing out the Financial Sector will be perceived as Cronyism by Definition.

Also, if unemployment were to drastically rise after a failure to Bailout the Automakers, and bailing out the Financial Sector had failed to keep that from happening, that would be a disaster of enormous proportions for the Bush Administration.

By definition, the Big 3 are Bush Cronies in the minds of many people. That is why my bailout plan included replacing the management, even though their incompetence was more than enough reason. But the UAW and the auxiliary jobs associated with the auto industry are viewed as a Middle Class issue, and dearly important to some people, especially the ones who find the Financial Sector Bailout dubious.

The Cerberus connection should be investigated, in order to make sure that they did not receive special treatment in this bailout, but their power and connections with the Bush Administration are not enough to kill this deal. We are battling Deflation. Some people don't see that as a big deal, but I disagree. We do not know how to deal with deflation other than causing inflation, which is what we are trying to do now. Failure to bail out the automakers could be a second Lehman, and two Lehmans could send us into a Deflationary Spiral. Beyond a certain point, in order to get inflation, the result could actually be hyperinflation. We're not there yet, and we don't want to be.

This crisis has taxed all of our knowledge and expectations as it is. We cannot afford to move the battle to territory we have no real map or experience for. That could lead to not only economic, but social problems. Problems that this Burkean takes very seriously.

" Now how do you organise a new French Revolution? "

Bronte Capital and John Hempton also get it:

"Credit Agricole SA is a bank which obsesses me – and on which I have lost some loot.

The problem is that it is a bank with very good bits and very bad bits. And the good bits are excellent (and mostly outside Paris) – and the bad bits are atrocious.

Charlie Munger observed that if you mix turds with raisins you still have turds. Charlie was right and it shows in Credit Agricole SA’s stock price.

The bank is controlled by a bunch of regional mutual banks who – for reasons that are not apparent to me – have never got around to closing the bad bits. Those regional mutuals are in turn controlled by five million voting mutual certificate holders – a reasonable proportion of French households.

The super-bad bit is their investment bank. It’s a mathematical finance type investment bank in the French mould. As has been noticed by more than a few people – the market recently has not been too kind to mathematical finance.

I just want to extract the results – quarterly – for just investment banking business. Please click for detail...

These numbers really deserve looking at. The first observation is that revenue can go very strongly negative at an investment bank. That is nothing that Lehman et al have not discovered before – but the trading revenue was negative for several quarters in a row. You might conclude the traders were not much better as traders than say the average French farmer.

The second thing is that the costs line doesn’t seem to move much. Now when I was young and naïve – say 2006 – I thought the investment banks would have a very rough trot – but that the staff would take a fair bit of it in the hip-pocket. The argument being that the very high salaries were at risk – and you could at least assume that when time got rough for an investment bank the staff would be paid salary without bonus. Capital risks were lower than it would appear because at least variable expense would go close to zero.

Now I read lots of stories about how children are getting less allowance due to the credit crisis. Such stories always seem to wind up high in big-media’s “most read” and “most emailed” lists. And that is only because we – dear readers – are doing it to our own kids.

And if it is good enough for our kids it is surely good enough for our investment banker!

Anyway – it is noted that Wall Street bonuses remain stubbornly high – but this is France with all its equality and fraternity. And they can’t control this crap either.

But with numbers like these – if the investment bank were not owned by the rich French parent (Credit Agricole SA) then it would be bust – and the children (sorry investment bankers) would be out on the street.

But bust is better than it would have been in 1792. In those days – faced with a class as egregiously and hypocritically greedy as investment bankers they would have set up the guillotine in the Place de la Concorde and we would be treated to the public spectacle of mass beheadings.

These days of course it is easier. The French farmers and middle class all have a vote – its their mutual share. Executing a vote may be less grizzly than executing investment bankers – but it might be just as effective (though somewhat less theatrical).

Now how do you organise a new French Revolution?"

Hempton's not far wrong. Now you know why I sound like a certain Whig who's trying to prevent himself from having to write a book about Major Social And Economic Changes wrought by this crisis. Only, in this case, I'm getting more help from my own party than the opposition. This need not happen. It's a remote possibility as of now.

A True Burkean would be thinking about the Pragmatic and Effective Policy Decisions that will allow us to keep our system intact, and yet deal with the crisis before us. Paradoxically, we need more government intervention in the short run to prepare the possibility of less government intervention in the future. We also, and I know I'm sounding Quixotic here, need to root out Fraud, Negligence, Fiduciary Mismanagement, and Collusion, and deal with it strictly and publicly, in order to forestall a collapse in the belief among many voters that this system is worth preserving, and that this presevation will not come at their expense.

Do I agree with everything Burke says? No. I see him as a Whig with a distaste for Radical Change, which often strays very far from its stated goals. So say I. Political Economy and Politics dictate that we deal with this crisis in a way that both appears and is benefitial to all parts of the citizenry. I'm fine with looking towards Keynes for help, but a quick but focused glance towards Burke is seldom, if ever, amiss.

"The practical problem is that the institutions involved are probably too big to jail. "

Burke turned up in Jesse's Cafe Americain today, so we've got to feature it:

"Among a people generally corrupt, liberty cannot long exist."
Edmund Burke

Although Nassim Taleb makes some excellent points he is a bit narrow in his analysis because of his superior knowledge and experience in a highly specific area of the crisis, which in some ways is a broader cultural crisis.

There may be enough fraud involved in the US over the past twenty years for multiple prosecutions under the RICO statutes. Or it just may be the end result of a general breakdown in morals, from the top down by example perhaps.

One does find some institutions appearing as enablers at the heart of every crisis, from LTCM to Enron to the Accounting Frauds to the Tech Bubble to the Credit Bubble.

No, this was worse than the silence of the witnesses to the assault of Kitty Genovese that gave the label to the bystander effect.

In this case there were 'bystanders' who financially benefited from the assault and who not only kept quiet but actively intimidated and silenced other bystanders through ridicule and fear of retribution. But there are also many who simply did not care then and will not care once the markets rally once again. This is the sad commentary on a nation corrupted by easy money.

There were many bystanders who did call 911 and were ignored because those in the enforcement chain were either asleep on the job or had other competing interests.

The practical problem is that the institutions involved are probably too big to jail.

That is their strength, but ironically also their weakness."

I agree with Jesse, and made a similar point, which is that Taleb, and I'm a big fan, seemed to put actual culprits into the bystander dock.

I love "Too Big To Jail", although I do believe that, as the S & L Crisis had Charles Keating and a few others, there will be a few high profile prosecutions to make everyone feel fine with most of the guilty getting off.

I do not want that to happen, which is why, on my blog, as Taleb has done, only I don't have his smarts or expertise, I believe that I have shown that these investments are not that complicated, at least as to understanding the risk, and that fraud, negligence, fiduciary mismanagement, and collusion, should be vigorously prosecuted where they are found. That's the main reason that I don't like Systemic and Mechanistic Explanations. They have a bad habit of being used to exonerate criminals.

As long as I'm at Jesse's, I think I'll join Burke for a cup of java:

Café Americano

Spécialité Maison

"President Elect Barack Obama, who went to the mat for Lieberman"

From Joe Gandelman on The Moderate Voice:

"Joe Lieberman may have been a Democrat, he may now be an independent, and some progressive Democrats may think he is a closet Republican. But what is indisputable is that he is a survivor: he has come out of a meeting with Senate Democrats upset over his role in supporting losing GOP Presidential candidate Sen. John McCain with little more than a slap on the wrist.

He did so with a little help from a (perhaps former) friend: President Elect Barack Obama, who went to the mat for Lieberman, making it clear behind the scenes that he didn’t want to start off his White House term with Democrats stripping Lieberman of his committee chairmanship or making Lieberman so upset that he’d bolt to caucus with the Republicans.

Progressive Democrats will be and are livid. But Sen. Majority Leader Harry Reid argues that Lieberman is there when it counted on Democratic issues, and Lieberman vows its “the beginning of a new chapter.”

Here's my comment:

I thought that it was a wise political decision, and have been hoping for this. Good work.

Here was an earlier post:

"Wednesday, November 12, 2008

"Several top Democratic senators have launched a behind-the-scenes effort to save Sen. Joe Lieberman’s chairmanship"

I don't talk about these kind of issues much because so many other people do. But here goes:

"Several top Democratic senators have launched a behind-the-scenes effort to save Sen. Joe Lieberman’s chairmanship, despite calls from a Democratic base seeking retribution for Lieberman’s vocal support of John McCain’s presidential campaign.

Sens. Chris Dodd (D-Conn.), Ken Salazar (D-Colo.), Tom Carper (D-Del.) and Bill Nelson (D-Fla.) are all involved in the effort, according to top Senate Democratic aides. These four senators — along with other Lieberman allies — are reaching out to the rest of the Democratic Senate caucus to try to ensure Lieberman survives a secret ballot vote on whether to strip him of his chairmanship of the Homeland Security and Governmental Affairs Committee.

This effort, along with kind words from Majority Whip Richard J. Durbin (D-Ill.) last night about Lieberman, is giving the Connecticut senator some serious momentum heading into next week’s secret vote. Dodd’s involvement in saving his home-state senator is an extraordinary turn because Dodd backed Democratic candidate Ned Lamont in 2006 against Lieberman, who won the Connecticut Senate race as an independent. Dodd, however, had backed Lieberman in the Democratic primary and only switched support to Lamont when he became the Democratic nominee.

Also driving the effort to save Lieberman — an outcast with the progressive left — is the spirit behind Barack Obama’s victory.

“He’s got momentum, and we need to keep him in the caucus, and this fits into Barack Obama’s message of change and moving forward,” said one Senate Democratic aide familiar with discussions. “The message here is that we don’t want to start off a new era with retribution.”

I agree. Keep him where he is. It reminds me of Burke's treatment by the Whigs, which, well, really pissed me off. Lieberman is a Democrat. He was for the war. How many times have we heard the phrase "No litmus test", only to find out there's a folder of them that we have to pass before being a member of a party.

People like Lieberman, Friedman, and Hitchens, strike me as Democrats or leftists. Putting a hex on them because they supported the Iraq war seems wrong. It was a frightful mistake, but we might well make one ourselves someday out of the best of intentions.

"Several top Democratic senators have launched a behind-the-scenes effort to save Sen. Joe Lieberman’s chairmanship"

I don't talk about these kind of issues much because so many other people do. But here goes:

"Several top Democratic senators have launched a behind-the-scenes effort to save Sen. Joe Lieberman’s chairmanship, despite calls from a Democratic base seeking retribution for Lieberman’s vocal support of John McCain’s presidential campaign.

Sens. Chris Dodd (D-Conn.), Ken Salazar (D-Colo.), Tom Carper (D-Del.) and Bill Nelson (D-Fla.) are all involved in the effort, according to top Senate Democratic aides. These four senators — along with other Lieberman allies — are reaching out to the rest of the Democratic Senate caucus to try to ensure Lieberman survives a secret ballot vote on whether to strip him of his chairmanship of the Homeland Security and Governmental Affairs Committee.

This effort, along with kind words from Majority Whip Richard J. Durbin (D-Ill.) last night about Lieberman, is giving the Connecticut senator some serious momentum heading into next week’s secret vote. Dodd’s involvement in saving his home-state senator is an extraordinary turn because Dodd backed Democratic candidate Ned Lamont in 2006 against Lieberman, who won the Connecticut Senate race as an independent. Dodd, however, had backed Lieberman in the Democratic primary and only switched support to Lamont when he became the Democratic nominee.

Also driving the effort to save Lieberman — an outcast with the progressive left — is the spirit behind Barack Obama’s victory.

“He’s got momentum, and we need to keep him in the caucus, and this fits into Barack Obama’s message of change and moving forward,” said one Senate Democratic aide familiar with discussions. “The message here is that we don’t want to start off a new era with retribution.”

I agree. Keep him where he is. It reminds me of Burke's treatment by the Whigs, which, well, really pissed me off. Lieberman is a Democrat. He was for the war. How many times have we heard the phrase "No litmus test", only to find out there's a folder of them that we have to pass before being a member of a party.

People like Lieberman, Friedman, and Hitchens, strike me as Democrats or leftists. Putting a hex on them because they supported the Iraq war seems wrong. It was a frightful mistake, but we might well make one ourselves someday out of the best of intentions.

Principles For Breakfast

One thing about passing fifty years of age is that I now feel old enough to invoke what I call Samuel Johnson's Dictum. It is thus: If I invoke a view based on an author that I read in the past, and that view is not actually held by that author, I'm more than willing to claim the view as originating with me. The beauty of this Dictum is that it is self-referential. It is based upon my reading of Johnson and on Boswell, but I can't remember the actual references that led me to believe that Johnson believed something like this. In any case, I do.

Another of my motley list of nostrums is what I call Burke's Principle. Burke's Principle holds that there is a distinction between:
1) Political Theory: A theory of the perfect society, the good life, etc. Your general political philosophy.
2) Politics: The rather messy art of governing which involves dealing with what is possible on earth and compromising as the need arises.

Now, Burke once wrote a book about the French Revolution that caused a number of his fellow Whigs to be irked with him. One reason that some Whigs were bothered, not all, but some, was that, to put it in modern terms, on most issues Burke was to the left of them, and they didn't much like being lectured from the right by Burke.

Burke's response was that this response constituted a kind of bad faith. First of all, his views on this issue shouldn't call into question his being a Whig. Secondly, since Politics is the art of the possible and Political Theory was a general view of principles, these fellow Whigs were constantly confusing the two. Also, Burke thought that where he had expressed some far left views of Political Theory in private, it didn't do him a lot of good to have fellow Whigs trumpet his views in public merely to show that they were generally more conservative than he was. Like Johnson, Burke found charges of hypocrisy in Politics based on a misunderstanding of Politics.

One can see this today, in the fate of a few leftists that supported the war in Iraq. I didn't, but it does seem to me that Hitchens, Friedman, and Lieberman are being tossed out from Whigdom even though they are, well, Whigs. Lieberman is following a kind of Burkean trajectory in actual politics.

One other pet theory I have about finance, besides Bagehot's Principle, is the Spigot Theory. I might rename it. It applies to the low rate of interest or the sloshing pool of money explanations for the current crisis. Turn the tap too far, then you can't stop the tub from overflowing, even if you're a human agent standing right next to the tub. I call this a mechanistic explanation as opposed to an explanation based on human agency.

Now, I feel similarly about government incentives. When Fannie and Freddie tempted investors, this led to the housing bubble. I think that I'm going to call this the Cake As Gift Theory. I hand you a cake assuming that you have the good sense to eat it over time, and you gorge yourself and eat it at one sitting and get sick. Clearly I'm responsible for this by handing you the cake. Give you a gift or incentive, clearly I must assume that it will cause you to be irrational.

Anyway, a few rules that will help me going forward to explain things.

Oh, a final one. The Pragmatic Milton Friedman Principle. Friedman introduced a concept called the Negative Income Tax. He proposed it saying that it was a pragmatic compromise between the Welfare State and a basic libertarian position. I think that it committed him to my view of a weak notion of Positive Liberty, because, without that notion, even a compromise would be unprincipled. In other words, in offering the plan, he had to have some philosophical basis for assuming that it was acceptable or justifiable at all in his view. This one is useful for libertarians who make exceptions for their own deviations from what they call libertarianism, as opposed to their view of deviations by others, where they engage in the profound policy analysis of Burke's detractors; Namely, you're not a real Whig.

As for libertarianism, it is the view that personal liberty should be your guiding, although not only, principle in constructing a Political Philosophy. Please don't confuse it with politics. Burke wouldn't like it, or, maybe it's me.

"Obama was the true conservative, the Burkean"

Jeffrey Hart on why he voted for President Obama. He's a conservative. In my sense of conservative, I agree:

"Republican President George W. Bush has not been a conservative at all, either in domestic policy or in foreign policy. He invaded Iraq on the basis of abstract theory, the very thing Burke warned against. Bush aimed to turn Iraq into a democracy, "a beacon of liberty in the Middle East," as he explained in a radio address in April 2006.

I do not recall any "conservative" publication mentioning those now memorable words "Sunni," "Shia," or "Kurds." Burke would have been appalled at the blindness to history and to social facts that characterized the writing of those so-called conservatives.

Obama did understand. In his now famous 2002 speech, while he was still a state senator in Illinois, he said: “I know that a successful war against Iraq will require a US occupation of undetermined length, of undetermined cost, with undetermined consequences. I know that an invasion of Iraq without a clear rationale and without international support will fan the flames of the Middle East, and encourage the worst, rather than the best, impulses of the Arab world, and strengthen the recruitment arm of al Qaeda. I'm not opposed to all wars. I'm opposed to dumb wars.”

Burke would have agreed entirely, and admired the cogency of so few words. And one thing I know is that both Nixon and Reagan would have agreed. Both were prudential and successful conservatives. But all the organs of the conservative movement followed Bush over the cliff—as did John McCain."

This is a theme I'd like to develop more. In any case, it's why I'm not worried about President Obama's economic plans, and support him on so many others issues completely.