HBO's Too Big to Fail: Searching for Heroes in All the Wrong Places

May 24, 2011Tim Price

too-big-to-fail-movieHBO's financial crisis drama struggles to make viewers feel for the Wall Street titans who wrecked the economy.

too-big-to-fail-movieHBO's financial crisis drama struggles to make viewers feel for the Wall Street titans who wrecked the economy.

The most obvious challenge in adapting the story of the 2008 financial crisis to the screen is that there are plenty of Wall Street villains for the audience to jeer at, but no heroes to be found. The creators of HBO’s Too Big to Fail (based on the book by Andrew Ross Sorkin) obviously ran head-first into this problem. In their desperate search for a sympathetic protagonist, they appear to have settled for Treasury Secretary Hank Paulson, portrayed in the film by Academy Award winner William Hurt.

It’s a testament to Hurt’s acting ability that he just about pulls it off, playing Paulson as a tragic man of principle who doesn’t want to bail the banks out, honest, but is constantly beset and betrayed by turncoat bankers, obstinate politicians, and meddling British regulators. Many’s the scene where Paulson is shown weeping softly in front of a bathroom mirror, vomiting with anxiety at the thought of a global financial collapse, or wandering the streets of Manhattan like the male lead in a rom-com during the obligatory post-break-up montage. Contrary to the popular perception of Paulson as a Wall Street crony who exploited taxpayers to bail out his old pals at Goldman Sachs, the film argues that he was a stalwart public servant who did what had to be done with his back against the wall.

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Among the many talented actors sharing the screen with Hurt are Billy Crudup, whose Timothy Geithner comes off as Paulson’s handsome boy sidekick, and Paul Giamatti, who plays Ben Bernanke to quivering, wooly-bearded perfection. What you won’t see during the movie’s one hour and forty-five minute running time is any major character with less than a seven-figure net worth. Oh, they’re around, as in the scene where Geithner runs into some commoners during his morning jog and bums himself out thinking about how ill-prepared they are for the impending economic disaster. But this movie is Wall Street’s story, told almost exclusively from Wall Street’s perspective. As a result, many important details of the crisis and its origins are elided. There is one stand-out scene where Paulson and his staff discuss the insanity of unregulated derivatives and the exploitation of homeowners by subprime lenders, but when asked why there weren’t laws in place to prevent all this, Paulson’s too-pat answer is “Nobody wanted it.”

Ultimately, Too Big to Fail is a highly watchable account of how powerful men with too much money and too little self-awareness brought the world to the brink of financial ruin. But as a historical document, it devotes far too little attention to the conservative push for deregulation that allowed events to spiral so far out of control, or to the impact of the crisis outside the glass towers of Wall Street. Watching it in isolation, one would be forgiven for thinking that 2008 was simply a very stressful year in the life of Hank Paulson rather than the turning point in an ideological battle that has been developing since the days of the New Deal. For a more in-depth look at the origins of the crisis, you should check out Roosevelt Institute Senior Fellow Jeff Madrick's fascinating new book, The Age of Greed: The Triumph of Finance and the Decline of America, 1970 to the Present, which hits shelves on May 31st.

Tim Price is a Communications Officer at the Roosevelt Institute.

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The Victims of Insider Trading

May 17, 2011Jeff Madrick

He who pays the most money for inside information makes the most money. The rest lose.

Nothing surprises me much more than when I read that trading on insider information is a victimless crime. In the wake of the conviction of hedge fund giant Raj Rajaratnam, the claim has come up time and again. In fact, it is entirely untrue. The victims are all those who sold Raj a stock or other security at a lower price than they might have if they had the same information he had. In other words, the victims are pensioners, mutual fund investors, bank trusts holders, and on.

He who pays the most money for inside information makes the most money. The rest lose.

Nothing surprises me much more than when I read that trading on insider information is a victimless crime. In the wake of the conviction of hedge fund giant Raj Rajaratnam, the claim has come up time and again. In fact, it is entirely untrue. The victims are all those who sold Raj a stock or other security at a lower price than they might have if they had the same information he had. In other words, the victims are pensioners, mutual fund investors, bank trusts holders, and on.

It’s like what happened in the 1800s when some insiders knew the railroad had planned to build a track through a certain territory. They bought land from unsuspecting farmers, ranchers and maybe even the federal government on the cheap. That activity disgusts us. Same with stocks when the fund managers know about good earnings news to be reported the next day or a merger announcement to come.

What the details of the Rajaratnam scandal also shows is that he who pays the most money for inside information also makes the most money. Money begets money, the big get bigger. That’s a pretty good example of what’s happened over the past thirty years in American finance.

Now, when you can leverage that money up -- borrow to the hilt at low rates -- inside information really pays off. Many hedge fund managers don’t make money for the insights but for their sheer chutzpah. Meantime, market integrity is out the window.

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Wall Street’s always had some kind of advantage over the rest of us. The pros could often call someone up at a company to get an edge. But passing on outright inside information -- the kind that will move a stock price one way or the other substantially -- should clearly be illegal.

One of the more interesting facts about hedge funds is that, according to those who measure risk statistically by deriving ‘betas’ and ‘alphas,’ they do better on average than the amount of risk they take suggests they should. Mutual funds on average do not.

Some interpret this as proof of how astute the hedge funds are compared to other investors. The data could also be interpreted another way. That given their size and wealth, they have more information about company strategies and results, takeovers, and the trading patterns of the market. They may even be able to push prices their way and bail out before others catch on. Cornering markets can be against the law. How often does “mini-cornering” -- momentary attempts to buy enough supply to determine a quick price change -- go on? That’s perhaps the main reason why they do better than the risk they take suggests they should.

This is seedy stuff and there is no simple way to prevent it adequately. If such practices are common, it makes good sense for investors who have the money to sign up with hedge funds and get a piece of their unfair advantage.

On the other hand, some hedge funds are totally honest. How can we tell which ones make it on smarts, good instincts and genuine preparation? Only if the government aggressively cleans up the act. Fear of prosecution is perhaps the only effective weapon.

Meantime, good money flows to funds, often unwittingly, who exploit and take advantage—and that only distorts the efficient allocation of capital in America.

Roosevelt Institute Senior Fellow Jeff Madrick is the author of The Case for Big Government.

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The Myth that Banks are Solvent

May 12, 2011Marshall Auerback

If we keep pretending banks are just waiting for regulators to get out of the way, we'll keep implementing the wrong policies.

If we keep pretending banks are just waiting for regulators to get out of the way, we'll keep implementing the wrong policies.

Banks will likely have too much cash by 2019 as a result of the Basel III global banking rules, UBS AG Chief Executive Oswald Grübel said Thursday. "In the next 10 years, at the end of 2019, we will have overly liquid, overcapitalized banks," he said, addressing a business audience at a conference. "However this also means we won't have a lot of growth." Mr. Grübel was discussing changes in the global balance of power and what the possible consequences would be. The CEO has said that investment banking could shift to the U.S. and Asia if stricter capital requirements are enforced in the U.K. and Switzerland. The basic economic tenet, however, remains that "power goes where the money is," he said.

This is consistent with the fallacy that the banks are basically solvent and able and ready to extend credit if only these darn regulators would get out of the way. As James Galbraith has argued, the problem is said to be no more serious than some clogged plumbing. A bit of Draino in the form of government handouts and guarantees should be sufficient to get credit flowing again. Most major banks are not insolvent, this story goes, but rather have a temporary liquidity problem induced by malfunctioning financial markets. Time will allow market mechanisms to restore the true, higher value of "legacy" assets. Once the banks are healthy, the economy will recover.

Nonsense. Private debt loads remain too high, income and employment continue to fall, and delinquencies and foreclosures continue to rise. Assets are overvalued event at current depressed prices. Many financial institutions (probably including most of the big ones) are hopelessly insolvent, holding mountains of toxic waste that will never be worth anything.

So why are we busy implementing policies that simply maintain a credit-based economy? All around the world, policymakers continue to foster the fiction that all we have a temporary illiquidity problem, not a problem of excessive leverage, excessive debt, and a legacy of assets that were vastly overvalued based on economic scenarios that had no chance of coming to fruition. Given the inappropriate premises under which policy makers in the U.S., the U.K., and the euro zone have dealt with the leverage of financial institutions, it's obvious that problems will continue to languish if the administration does not change its course of action. This will heavily constrain the global economy's capacity to recover and will lead to multiple Japanese style "lost decades" around the globe.

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The whole boom of the last 25 years was predicated on financial deregulation, massive fraud, and a huge build up of private debt as a consequence of inadequate fiscal policy to generate full employment and rising incomes. Growth was based on household borrowing and the continuation of negative saving trends (that is, household deficit spending). A good place to start recovery efforts, therefore, would be to change this method of economic growth by promoting employment, rather than capitulating to the siren songs of the bankers whose recklessness got us into this mess.

In a much saner world, we would be in the midst of a government-led investment push, much like the Space Race or the Manhattan Project, to drive new energy technologies forward by scaling up production and innovation, both apt to lower unit cost points. There would also be a concerted effort to establish the new infrastructure required. (After all, highways were constructed in part for national defense purposes, and railroads and canals had their share of public subsidization.) But with the ease of capture so visible, no such effort led by the government could be trusted enough to be supported, especially by a citizenry that has become one of fragmented (and anxious) consumers. Deficit austerians in government fail to understand that a budget deficit is essential for stable economic growth if the contribution of net exports (the difference between exports and imports) is not strong enough to sustain domestic demand while the private domestic sector is trying to save.

We need to put an end to these ridiculous policy responses. We not only require substantially increased supervision and regulation of the financial sector, but must also put a stop to the practices that brought on the crisis in the first place. If left alone to deal with the current problems, market mechanisms will push management and owners of insolvent institutions to ramp up losses and engage in yet more fraudulent accounting, leading to an even bigger crash down the road.

Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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The Poor Get Swiped by Swipe Fees, the Rich Make Bank

May 4, 2011Bryce Covert

Banks are fighting off an amendment to cap interchange fees even though it would curb a wealth transfer from poorest to richest.

This week's credit check: Consumers overall pay up to $48 billion more a year because of swipe fees. Low-income households end up paying $23 because of them while high-income households receive $756 every year.

Banks are fighting off an amendment to cap interchange fees even though it would curb a wealth transfer from poorest to richest.

This week's credit check: Consumers overall pay up to $48 billion more a year because of swipe fees. Low-income households end up paying $23 because of them while high-income households receive $756 every year.

Whenever I bring up the predatory bank practices that keep people stuck in debt, usually the first push back I get is that credit cards can be useful. Cards with rewards are a way to get things in return for spending money; if you open an account with cash back or rewards programs, some people point out, and you pay down your balance every month, you're basically getting something for nothing from your card company (unless of course the account has an annual fee). On the surface this is true, but dig a little deeper and it's not quite that simple. Strictly speaking, the money to finance these goodies comes from merchants big and small who are charged outsized fees every time a card is swiped, fees they have literally no power to negotiate over or change whatsoever. But the reality is that the costs get passed on further to consumers -- all consumers, in a very regressive way.

Zach Carter and Ryan Grim have written a fantastic, long-read article on the battle over swipe fees raging on Capitol Hill. Because this is a little-covered fight, here are the basics: as part of the Dodd-Frank financial reform bill, a cap was to be put on how much a bank can charge a merchant each time it swipes a customer's debit card. (Banks successfully lobbied to keep credit cards out of the picture altogether, so those fees will continue either way.) That charge is called an interchange or swipe fee. Banks used to charge merchants about 44 cents per transaction, but under the new rules that would be capped at 12, costing the big banks about $14 billion in fees per year. (As RJ Eskow points out, compare that profit loss to the $20 billion in bonuses banks gave themselves last year.) But since the date for implementation of this rule has neared (it was supposed to be finalized on April 21 and in effect by July 21), it has been pushed back and is now under heavy attack from -- you guessed it -- Wall Street lobbyists.

One major takeaway from Carter and Grim's article is that the current fight is in many ways between big corporate interests and other big corporate interests -- i.e. the Wal-Marts and Targets vs. the Bank of Americas and Citigroups. But beyond that fight, there's another battle that we think very little about: these fees pit rich against poor.

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Steve Pearlstein explained how we got to a point that card companies can fleece merchants and consumers: "Visa, Mastercard and American Express now account for more than 90 percent of the market. And with that much concentration comes the power to charge higher prices than would be possible in a market with many competitors." Our interchange fees in the US are higher than in any other industrialized country. And those higher prices are passed on to consumers through higher prices on the products that the overcharged merchants sell. These price hikes amount to up to $48 billion more a year that we pay on gas, groceries, entertainment, you name it. The banks claim that they need to charge fees to balance out the risk of lending through credit cards, but since we're only focused on debit cards in this debate -- which don't lend to customers, but merely let them access the money sitting in their own bank accounts -- that point would appear moot. Not to mention that a debit transaction only costs a few pennies. One of the banks' claims is that this cap will kill small banks and credit unions -- which ignores the fact that Dodd-Frank exempted those with less than $10 billion in assets. Not to mention that of the $16 billion in fees, half of that -- $8 billion -- ends up at just 10 banks.

But when these costs get passed on in the form of higher prices for the things we want and need, it turns out that the poor pay up while the rich make off with rewards. Carter and Grim's article points to a February 2010 paper that found that 56% of fees are passed on to consumers, "raising costs for the average household by about $230 a year." That amounts to "two weeks worth of groceries or the monthly heating bill" for a family living below the poverty line. But it gets worse for low-income families. From their article: "[W]hile swipe fees cause higher prices for everyone, affluent consumers get some of that money back in the form of rewards. The result is an effective transfer of wealth from poor shoppers to wealthier consumers." In fact, the Boston Fed has found that, "On average, each cash-using household pays $151 to card-using households and each card-using household receives $1,482 from cash users every year." Some cash holders might be those who refuse to use plastic, but a lot of those are likely to fall into the category of the unbanked. The study further found:

Because credit card spending and rewards are positively correlated with household income, the payment instrument transfer also induces a regressive transfer from low-income to high-income households in general. On average, and after accounting for rewards paid to households by banks, the lowest-income household ($20,000 or less annually) pays $23 and the highest-income household ($150,000 or more annually) receives $756 every year.

As Carter and Grim point out, this fee cap isn't likely to stop banks from issuing debit cards, and there doesn't seem to be any good reason for them to start charging fees left and right to make up for the profit loss. As they quote Senator Dick Durbin, sponsor of the amendment that sought to cap the fees in the first place, as saying, "There is no need for you to threaten your customers with higher fees when you and your bank are already making money hand over fist. And there is no need to make such threats in response to reform that simply tries to spare consumers." It's even less defensible when the fees are so clearly a wealth transfer from the poorest to the richest.

Bryce Covert is Assistant Editor at New Deal 2.0.

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The Rise and Fall of Our Economic Royalists?

May 2, 2011Jon Rynn

fat-cat-150Today's "robber barons" use race as a distraction from real economic problems.

fat-cat-150Today's "robber barons" use race as a distraction from real economic problems.

In a recent column in the NYTimes, Charles Blow sounds like he has taken a page from FDR’s famous “economic royalist” speech. Talking about what he calls “the right’s flimsy fiscal argument," Blow claims that:

It all loses traction as more Americans begin to see the far right for what it truly is: a gang of bandits willing to sacrifice the poor and working classes to further extend the American aristocracy -- shadowy figures who creep through the night, shaking every sock for every nickel and scraping their silver spoons across the bottom of every pot.

At another low point in American economic history, during the 1936 Democratic National Convention, FDR decried the domination of a small economic elite:

For out of this modern civilization economic royalists carved new dynasties. New kingdoms were built upon concentration of control over material things. Through new uses of corporations, banks and securities, new machinery of industry and agriculture, of labor and capital -- all undreamed of by the fathers -- the whole structure of modern life was impressed into this royal service…

It was natural and perhaps human that the privileged princes of these new economic dynasties, thirsting for power, reached out for control over Government itself. They created a new despotism and wrapped it in the robes of legal sanction. In its service new mercenaries sought to regiment the people, their labor, and their property…

For too many of us the political equality we once had won was meaningless in the face of economic inequality. A small group had concentrated into their own hands an almost complete control over other people's property, other people's money, other people's labor, other people's lives. For too many of us life was no longer free; liberty no longer real; men could no longer follow the pursuit of happiness.

There is one big political difference between the world that Roosevelt faced and the one we are witnessing: the South has switched from being constrained by a bigger, and more progressive, Democratic Party, as it was in FDR’s day, to our situation now, in which the Southern conservatives are the dominant force in a Republican Party purged of its more moderate elements. The new economic royalists use this conservative base to pursue their agenda.

The American political party system has always been affected by the conservative political culture of the South. As we acknowledge the 150th anniversary of the Civil War, focus of a fascinating series in the NYTimes, it is useful to recall that what the South was attempting to establish when it seceded to form the confederacy was a state based on racism and the establishment of a permanent economic elite. The NYTimes series puts to rest any lingering doubt that the South was fighting for anything different. In a speech of March 12, 1861, the Vice President of the Confederacy, after describing Thomas Jefferson’s ideas concerning the evil of slavery, declared:

Our new Government is founded upon exactly the opposite ideas; its foundations are laid, its corner-stone rests, upon the great truth that the negro is not equal to the white man; that Slavery, subordination to the superior race, is his natural and moral condition. This, our new Government, is the first, in the history of the world, based upon this great physical, philosophical and moral truth.

Unfortunately, after this “republic” had been eliminated, there was no general land reform -- as occurred in a very beneficial way for the development of South Korea, Japan, and Taiwan after World War II -- and so the same political culture that had flourished before the Civil War remained, bruised but intact.

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Meanwhile, the Republican Party, which had been founded to stop the expansion of slavery outside of the South, had won the Civil War, and so the newly emerging industrial captains -- robber barons, as they were called, turning eventually into the economic royalists of FDR’s speech -- allied with the Republican Party, which eventually became the dominant political party of the economic elite. In a very peculiar turn of events, the party of the cities, the Democratic Party, also remained the party of the Southern “royalists." Thus the “middle party," the Republicans, were flanked to their right by the Southern wing of the Democratic Party and to their left by the Democrat’s Northern wing.

After World War II, the Republicans created their own far-right wing in the form of McCarthyism and anti-Communism. At the same time, the combination of the two contradictory wings in the Democratic Party became unsustainable, particularly since the Civil War was finally ended by the civil rights movement and the Voting Rights acts of the middle 1960s. Lyndon B. Johnson thought that this would lose the South for the Democrats -- and the Republicans complied by pursuing a “Southern Strategy” to capture it. But this may eventually lead to the Republican’s undoing if Charles Blow is correct that the “flimsy” arguments of the current incarnation of the Republican Party could be their self-destruction.

This progressive outcome may be the result of generational change, combined with overreaching against programs for seniors. The major theme of Blow’s piece was not simply the rapaciousness of our new economic royalty, but that race in America has been used to distract much of the white electorate from real issues of power and wealth. Exhibit A is the Trumped-up “debate” about Obama’s birth certificate (pun intended). It may be that younger Americans, less permeated with racist ideas, will reject these distractions. In addition, by alienating seniors, many of whom may have retained some old-time racist attitudes, the Republicans may have, thankfully, lost some of the advantages of their implicitly racist arguments.

According to my calculations, the 112th Congress has 94 Republicans in the House from the South out of 242 total Republicans in the House, and there are 16 Southern Senators out of 47 Republicans. This means that instead of being a large minority within a majority liberal party, the Southern conservatives are a large minority, indeed the backbone, of the conservative party -- and this pulls the entire Republican Party far to the right. It can no longer even hold on to its moderates.

Since, as Charles Blow points out, a rather large majority of the American public is center and center-left, and certainly not far right, then the far right is “losing traction," in Blow’s words. There are several implications:

First, the progressive potential of the Voting Rights Act, and of an undercurrent of progressive politics that has existed in the South since at least the Populist movement, must be encouraged, so that the conservative political culture of the South is challenged.

Second, probably the best way to expunge the last traces of the old extremist Southern political culture is to put forward a political agenda that can excite and unify progressive forces -- for example, by advocating a jobs-centered program.

Third, we need to understand that race has always been used to divide Americans, and that now is the time to unite them around the job of rebuilding the country.

Finally, by pursuing these goals, we can create a political culture and program that will cut the base of support for the economic royalists, both inside and outside of the South.

We should bear in mind Roosevelt’s words from 1936:

Better the occasional faults of a Government that lives in a spirit of charity than the consistent omissions of a Government frozen in the ice of its own indifference. There is a mysterious cycle in human events. To some generations much is given. Of other generations much is expected. This generation of Americans has a rendezvous with destiny.

Jon Rynn is the author of the book Manufacturing Green Prosperity: The power to rebuild the American middle class, available from Praeger Press. He holds a Ph.D. in political science and is a Visiting Scholar at the CUNY Institute for Urban Systems.

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Mark Schmitt Discusses: Did Obama Save Capitalism?

Apr 29, 2011

In a Bloggingheads video excerpted by the New York Times, Roosevelt Institute Senior Fellow Mark Schmitt tackles an important question with James Pinkerton of Fox News: Did Obama save capitalism? Mark's simple answer is yes, "and everybody ought to just bow down about that, particularly people on Wall Street." But perhaps it wasn't quite the same thing as what FDR did after the Great Depression. "It's not like you have an alternative waiting in the wings," i.e. socialism or fascism, "which to a greater degree there was during the time of FDR," he says.

In a Bloggingheads video excerpted by the New York Times, Roosevelt Institute Senior Fellow Mark Schmitt tackles an important question with James Pinkerton of Fox News: Did Obama save capitalism? Mark's simple answer is yes, "and everybody ought to just bow down about that, particularly people on Wall Street." But perhaps it wasn't quite the same thing as what FDR did after the Great Depression. "It's not like you have an alternative waiting in the wings," i.e. socialism or fascism, "which to a greater degree there was during the time of FDR," he says.

More specifically, Obama "saved the financial sector and he saved the auto sector," Mark points out, and our economy doesn't have much left if you let those two collapse. But the White House hasn't done everything right -- "the range of people they're listening to and the ways they're thinking about the economy should be broader," he notes. There are some problems that are out of their hands to some extent, like outsourcing and globalization. But "unless you have a way to explain to people what they're going through and how it can change and how we can get back to having more of a middle class country... then I think you've got a very tough political problem as you move into a more prosperous period," Mark concludes.

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Watch the full Bloggingheads episode below, covering topics such as Obama's Trumanesque election strategy, the GOP field, and the similarities between ObamaCare and RyanCare:

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QE2: The Slogan Masquerading as a Serious Policy

Apr 27, 2011Marshall Auerback

Bernanke's QE2 program has hurt savers, done nothing for banks, and eviscerated middle class living standards.

Bernanke's QE2 program has hurt savers, done nothing for banks, and eviscerated middle class living standards.

The U.S. Federal Reserve signaled the end of its controversial $600 billion bond-buying program as planned. And not a moment too soon. This was probably the most over-hyped event since the launching of the Titanic. Frankly, I'm not surprised by the lack of impact of QE2. I've always regarded it as a slogan, rather than a policy, and contended that its effects were oversold and predicated on a fundamental misunderstanding of basic monetary operations. The Fed introduced a program whose central thesis was that the unprecedented central bank intervention would reboot bank lending. Yet three years later, total bank loans are lower than they were before the Fed undertook quantitative easing.

The inability of monetary policy initiatives to do anything more than stabilize a very shaky financial system was always clear from the outset, if only policy makers truly understood what the problem was. There wasn't a shortage of credit nor were interest rates punitive with respect to intended borrowing. People just didn't want to borrow because the economy was collapsing and they were carrying too much debt.

As Stephen Randy Waldman has noted, the mainstream belief that quantitative easing would stimulate the economy sufficiently to put a brake on the downward spiral of lost production and increasing unemployment was nonsensical and based on a completely wrongheaded understanding of basic monetary/banking operations. He quotes from Winterspeak:

People believe that fractional reserve banking, in some weird way, has banks taking deposits, multiplying it (through what seems like a strange and fraudulent process), and then making a larger quantity of loans. In fact, banks make whatever loans they think make sense from a credit perspective, and then borrow the money they need from the interbank market to meet their reserve requirements. If the banking sector as a whole is net short of deposits, it can borrow the extra money it needs from the Fed. If you think this is a weird and pointless regulation you are correct. Canada, for example, has no reserve requirements and yet seems to have a banking sector. The quantity banks can loan out is constrained by capital requirements and credit assessments.

Reserves, then, are like a bank's checking account at the Fed. A bank can lend those reserves only to another institution that is allowed to hold reserves at the Fed. Banks do lend reserves to one another in the fed funds market, but since banks already have more than a trillion dollars in excess reserves, there is no need to give them more in order to encourage them to lend to one another.

Those who point to the success of QE2 make the following observations: In the US, growth accelerated after the implementation of QE2  from a 1.7% annualized pace in the second quarter to 2.6% in the third quarter and 3.1% in the fourth quarter. Inflation expectations ceased falling and began rising back to normal levels. Confidence rose. And the pace of hiring improved meaningfully. In both February and March, private firms added over 200,000 jobs. Since the Fed's policy began, the unemployment rate has fallen a full percentage point.

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But just because a rooster crows first thing in the morning doesn't prove that this is what causes the sun to rise. These are two separate occurrences with no underlying causation. The very deficits now decried so loudly by the deficit hawks and ratings agencies are likely what engendered recovery, not QE2.

So what has QE2 actually achieved? Little in the way of positive impact, but much in terms of its deleterious impact by fomenting additional speculative activity, notably in the commodities complex -- gas and food prices. Obviously, with other determinants of aggregate demand in question, commodity prices and the gasoline price in particular now matter. The price of gasoline is almost as high as it was at its brief peak in May-July 2008. In the past, increases in expenditures on gasoline could be managed by consumers because they had access to credit. That is certainly less true today. Rising fuel prices could tip the economy towards greater weakness. As it now stands, the U.S. economy has been growing around trend (2.7%) and the first quarter was probably below that. Tipping the economy towards weakness would bring growth way below the current optimistic above trend consensus.

Though it cannot be proved, in the minds of many the current wave of speculative and investment demands is tied to the Fed's emergency measures of ZIRP and QE. Within the Fed itself, a number of inflation hawks have reflected this belief, notably Dallas Fed President Richard Fisher and former Kansas President Tom Hoenig. If so, this inadvertent adverse consequence of QE means that the Fed might be hoisted on its own petard.

In sum, whether one wants to focus on the bank reserves or the deposits created by QE2, it does not increase the "ability" of banks to create loans or the private sector to spend that did not exist before. In both cases, the effect of QE2 is to replace a longer-dated treasury with shorter-term investments within private portfolios, which on balance reduces income received by the private sector. Whether or not that increases spending would depend on whether the private sector wishes to borrow more or to reduce saving out of current income (things they can do anyway with or without QE2). Again, it makes little sense to encourage households and firms to increase debt or to reduce saving within the current context of record private sector debt. But the current prevailing deficit hysteria is, perversely, encouraging precisely that state of affairs.

Ultimately, QE2 screwed savers by robbing them of income through the Fed's treasury purchases, undermined banks' earnings by in effect swapping a higher yielding treasury with bank reserves that today yield a mere .25%, and eviscerated the living standards of the middle class by helping to spike the speculative punch bowl in the commodities space. Not a bad trifecta for a Fed Chairman who claims to be doing everything in his power to prevent us from becoming the next Japan but who in fact is hastening our arrival at that very destination.

Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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What Should the Financial Sector Do? Mike Konczal on The Breakdown

Apr 22, 2011

Financial crisis. Housing crash. Bailouts. Foreclosure fraud. If there's one industry that's been consistently in the news over the past two years, it's the financial sector. So what exactly does it do? What should it do? Roosevelt Institute Fellow Mike Konczal went on The Breakdown with The Nation's Chris Hayes to answer these questions.

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Financial crisis. Housing crash. Bailouts. Foreclosure fraud. If there's one industry that's been consistently in the news over the past two years, it's the financial sector. So what exactly does it do? What should it do? Roosevelt Institute Fellow Mike Konczal went on The Breakdown with The Nation's Chris Hayes to answer these questions.

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Mike explains that the financial sector serves two major functions: it handles the payment system -- cash, checks, credit cards -- and matches borrowers and lenders. There are a lot of people "with money in their metaphoric mattresses" looking to lend to someone, and "the financial sector sits in between them," he says. Just after the banking reforms of the New Deal, the sector used to be more localized than what we have with our mega banks. "The financial sector was more more a partner or an input to a business, so it didn't quite run the economy," he points out. "Shareholder value wasn't quite the primary goal of what businesses did." Not to mention that many businesses were profitable and "the real economy often financed itself." Banks weren't as focused on the bottom line; "they were much more long-term greedy."

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Then the deregulation of the 80s hit, and now we have a sector dominated by the big banks. Wall Street is in charge of lending to the real economy, not the local bank. So "they exert a disproportionate amount of influence on the way the real economy goes," Mike says. "You see a lot more debt... You see debt as almost an ideology." And the values of our economy completely shift. There is now "much more emphasis on how the stock market is doing than how unemployment or wages are doing." So was it worth all of this? Did we get the bang for our buck that banks promised deregulation would bring? "Post-1980s growth is slower," he points out. "So it's not clear that we got this great deal for financializing our economy."

What do we do about it? One of the solutions is to go back to local lending, and another is changing the cultural cache of the sector. We also "need to reemphasize the government as a counterweight to the financial sector," Mike says.

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From Repayment to Revolution, Fighting Back Against the Banks

Apr 20, 2011Bryce Covert

How some consumers have decided to take matters into their own hands.

This week's credit check: One man paid his debt off in 650,000 pennies. Another woman refused to make any payments on her 30% APR.

How some consumers have decided to take matters into their own hands.

This week's credit check: One man paid his debt off in 650,000 pennies. Another woman refused to make any payments on her 30% APR.

So you're swamped in debt. Maybe you, like 13.5 million Americans, are out of a job. Maybe you're struggling to make ends meet with wages that have stagnated over the past 30 years -- and even fallen in the past ten. Maybe you hit one of the three big causes of financial insecurity: major medical events, divorce, or a job loss. Or maybe you didn't realize your 30-page, indecipherable credit card agreement included terms that would allow your company to hike up your interest rate to over 20% for missing a payment.

Whatever the reason, what can be done about it? Some of the solutions people are turning to range from reasoned to revolutionary.

Back in 2009, Ann Minch, a loyal Bank of America customer of 15 years who was in good standing, got notice from her bank that they would be jacking up her interest rate to 3%. When she called to negotiate, they simply referred her to debt consolidators even though she doesn't have a budget problem. So she started the Debtor's Revolt, refusing to pay her bank a single cent until they brought her rates down -- which they eventually did, accepting her offer of paying a 12.99% APR.

Patrick Rodgers of Philadelphia figured out how to foreclose on his bank. In 2009, his homeowners' insurance provider was forcing him to take out a $1 million policy on his home, so he wrote to his mortgage lender Wells Fargo requesting itemized information on his loan. Over the course of the next year he sent four letters with no response. Meanwhile, his bank insisted on forced-place home insurance that cost $2,400 a year. So he read up on the law and took the bank to court under the Real Estate Settlement Procedures Act, which requires a mortgage company to acknowledge written requests within 20 business days. When the bank still didn't respond to the $1,173 judgment, he won a default judgment and placed a sheriff's levy against the bank's local mortgage office.

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Thirry Chahez, owner of a cake shop in California, was fed up with paying his bill altogether. He decided to give his bank some payback by paying off his $6,500 in credit card debt in pennies. He loaded the crates containing 650,000 pennies into his van and drove them over, only to find out that his pennies weren't good enough for his lender, even after he put them in coin rolls. Eventually, after being bounced from branch to branch with no one interested in accepting his pennies, they were accepted at a branch with a large vault.

The best way to get out from under your bank's thumb is to pay off your balance altogether, even if you're not up for cashing out with pennies. A new startup called ReadyForZero promises to help consumers find the debt-free solution that works for them, be it consolidation, bankruptcy, or just planning out payments. Co-founder and CEO Rod Ebrahimi told me the idea started when his girlfriend had graduated from grad school with $20,000 in credit card debt on top of her student loans and was struggling to make payments. He sat down and looked over her financials and realized she was perfectly capable of paying off her debt herself without a debt management company. That idea has since spread to a service that helps anyone pay down debt on their own -- particularly helpful in an economy where few can make ends meet. The company will look into your financial situation and bring the solutions for paying down debt to you, helping advise on which makes the most sense while automating the process. Its tenants are education and control, but Ebrahimi pointed out, "Education isn't enough. It's so confusing that even if you're looking out for yourself you still don't know the nuances of each option." So you can sign up for this free service that can help make sense of the mess.

But even if you're not ready to part ways with your card just yet, there's one more solution you can consider: the Move Your Money campaign, the brainchild of Arianna Huffington, filmmaker Eugene Jarecki and Roosevelt Institute Senior Fellow Rob Johnson. Rather than giving your fees, interest and other payments to one of the behemoth banks that dragged the economy into crisis and recession, Move Your Money encourages consumers to open up bank accounts with smaller credit unions who don't share the blame. It's one way to at least put your mind at ease.

Bryce Covert is Assistant Editor of New Deal 2.0.

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What Does S&P's Revised Credit Rating Mean for the U.S.?

Apr 18, 2011Marshall Auerback

The ratings agencies' poor track record and flawed logic speaks for itself.

So ratings agency Standard & Poor's revised the U.S. rating outlook to negative from stable after affirming its sovereign rating at 'AAA/A-1+' sovereign credit ratings. Why people give credibility to the organization that gave us "triple AAA rated" subprime toxic garbage is beyond me. And take a look at the history: Debt downgrades had no impact on Japan when Moody's and S&P tried to pull the same stunt with them.

The ratings agencies' poor track record and flawed logic speaks for itself.

So ratings agency Standard & Poor's revised the U.S. rating outlook to negative from stable after affirming its sovereign rating at 'AAA/A-1+' sovereign credit ratings. Why people give credibility to the organization that gave us "triple AAA rated" subprime toxic garbage is beyond me. And take a look at the history: Debt downgrades had no impact on Japan when Moody's and S&P tried to pull the same stunt with them.

In November 1998, the day after the Japanese government announced a large-scale fiscal stimulus to its ailing economy, Moody's Investors Service began the first of a series of downgradings of the Japanese government's yen-denominated bonds, by taking the Aaa (triple A) rating away. The next major Moody's downgrade occurred on September 8, 2000.  Then, in December 2001, Moody's further downgraded the Japan government's yen-denominated bond rating to Aa3 from Aa2. On May 31, 2002, Moody's Investors Service cut Japan's long-term credit rating by a further two grades to A2, or below that given to Botswana, Chile and Hungary. Well, over a decade later and this has had no discernable impact on Japan's ability to borrow at the rate the Bank of Japan sets, NOT the ratings agencies or the "bond market vigilantes".

As economist Bill Mitchell has noted,

"the agencies continually claim that they are providing an indicator of the 'probability that the issuer will default on the security over its life...' So when considering sovereign debt as opposed to corporate debt, the agencies are suggesting that as the public debt to GDP ratio rises, the risk that the government will become insolvent rises. And their logic must be that default follows sovereign insolvency even when the sovereign debt is denominated in the government's own currency. It doesn't take long to realize that this logic is no logic."

Rating sovereign debt according to default risk doesn't really make sense. While Japan's economy was struggling at the time, the default risk on yen-denominated sovereign debt was nil given that the yen is a floating exchange rate.

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The only difference today is a political one. If the U.S. government chooses not to raise its debt ceiling (in itself a wrong-headed, self-imposed limit which constrains the effective use of fiscal policy), then there is a problem. But this is a legal, as opposed to an operational problem.

There are two considerations used by all ratings agencies when determining the credit worthiness of a government. They are ‘ability to pay' and ‘willingness to pay.' The ability of the US to make timely payment of $US is never in question. But willingness to pay is in doubt. Paying is obligated by law, and yet not paying is continuously and openly being discussed as a viable option by the same legislators tasked with making the final decisions. That's what is happening today.

The debt ceiling itself is a foolish idea. Yes, we have a speed limit in cars, but we don't design the automobile to shut down when the car exceeds, say, 65 miles per hour on the highway. If we did, we might have considerably more car pile ups and serious fatalities. But somehow, this is how we conduct our fiscal policy. And now we're paying the price as we continue to underestimate the deflationary impact of global austerity measures. The austerity route, despite a lot of demonstrably flawed arguments floating around, is harmful to our fragile economy, as the current case of the U.K. clearly shows.

Marshall Auerback is a Senior Fellow at the Roosevelt Institute, and a market analyst and commentator.

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