bank reform

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Wobbly Numbers. Wobbly Economy?

Just as we enter the big debate over cutting the deficit we are getting a string of mixed signals about the economy. It isn’t as robust as it should be, especially in view of the inevitable negative impact resulting from austerity measures. We don’t have a great deal of room to maneuver, which makes the task of cutting sensitive. Unfortunately sensitivity is in short supply. So I am concerned we may be about to shoot ourselves in the foot.

Let’s begin with the better news. The index of leading indicators rose 0.4% in March. I don’t usually focus on this index since it is simply an aggregation of other data, but it is widely used as a bellwether for activity, so we should note it’s continued rise. As usual the devil is in the details, and the problem hidden by the overall rise is the consumer confidence component. Expectations of improvement, as expressed by individual consumers, has taken a hit lately. This is largely due to the recent spike in food and fuel prices, but it also appears to be driven by nagging doubts about the strength of the recovery, and about howlittle what recovery we have experienced has seeped down into the lower reaches of the economy. Average people are still skeptical. Rightly so, given the very meager improvement in wages. The headlines and the media may be excited by the enormous profit gains being reported, but those numbers are meaningless unless they are translated into household level gains as well. Right now that is not happening either fast or sufficiently enough to turn the tide of expectations. On the contrary, the laggardly nature of employment improvement and the continued woes in real estate cast a pall over the near term.

Business may be booming. But so what?

Just how booming is more questionable after today’s release of the Philly Fed’s measure of manufacturing activity. The sudden drop in the index to a five month low of 18.5 in April, from March’s 43.4 caught us all by surprise. The drop may be partly explained by the fact that March’s reading was the highest since 1984, and thus may have been a distortion of reality that April countered. Even so, the drop seems sharp enough to cause concern. In particular the damage to the score coming from a 22 point drop in new orders should make us worry about the sustainability of our recent run of growth. I don’t think this signals an outright reversal, but what momentum was there may have vanished. We may have arrived early at the second phase of the recovery during which growth continues, but at a slower pace.

If so, this is not good news for employment. And that, in turn, will disrupt the political theater as we approach the next election.

On the employment front: today’s report on new claims for unemployment assistance was disappointing. You may recall that last week we saw a sudden jump in claims back beyond the 400,000 level analysts harp on a sign of returning health in the labor market. The excuse given last week was that there were statistical quirks in the end of first quarter data gathering that would unwind this week. Well not quite. Claims did drop, back to 400,000 from 413,000, but remain stubbornly high. My own rule of thumb is that we need claims to be down around the 325,000 mark before we can call the labor market robust. Obviously we are a long way from there. And progress is still annoyingly halting.

One last thing to bear in mind: the Fed is fast coming up to the end of its existing monetary easing program. Its QE2 series of asset purchases will end in a month and a half. That opens up the debate about what to do next. Should it continue with easy money? Or should it begin to tighten?

Naturally the hawks are circling and calling for an earlier tightening. They point to the spike in consumer prices as evidence that there is more inflationary bias in the economy than is healthy, and that, since growth is now assured, we should shift towards an anti-inflationary stance.

As you can tell from my earlier comments I am not so certain about the economy’s growth pattern. Further, my view is that inflation is only a surface phenomenon at present – wages are the real driver of long term inflation, and they are flat – and that austerity budgets will slow the economy from what already appears to be a weak path. Add this all together and there is no justification at all for a tightening. None.

Indeed if we look at the simple Taylor rule often used to indicate the target level of interest rates, we should be calling for substantial easing. The target rate at present is still negative at between -4% and -5%. Since we cannot get negative rates from our current position the only alternative would be to re-up and go for QE3. In the current political environment I doubt that will happen. So the best we can hope for is neutrality for the rest of this year and at least a postponement of a rate hike until next year. Maybe not even then. The irony, of course, in this discussion is that one way to get negative rates would be to allow inflation to rise so a close to zero nominal rate is turned into a sharply negative real rate. But the hawks want to go in the opposite direction. Why? To curtail the very inflation that would have helped. This is truly messed up policy making.

If this is the best scenario we can hope for we are in trouble. Why?

Because all those wobbly indicators, the persistence of high unemployment, a rotten real estate market, distortions in global inflation and trade balances, tightening fiscal policy, and now an end to easy monetary policy combine to suggest slower growth and rising risk.

This is, I am afraid, the price we pay for weakness in 2009/2010 when the opportunity for clear and bold policy was spurned for a muddle through approach on fiscal policy. When the inevitable fiscal burden of cleaning up the mess foisted on us all by the banks caught everyone’s attention, and started a panic – wrongly – over short term budget and debt problems, we were never going to be able to go back and take a second, better, shot at stimulus. Policy has taken on a patchwork texture since, with small side deals taking the place of grand, coordinated, head on attacks on our problems.

So timidity at the top, and a determination to preserve rather than reform the financial system, no matter how rotten it is, has led us into this sideways motion. Neither accelerating nor, yet, declining.

Today’s data confirm that this recovery is just not very strong.

For that, we have only ourselves to blame.

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Rating Agency Two Step

Standard and Poor’s has just announced that it is watching the US very carefully. So carefully, in fact, that it might be forced to downgrade the US debt rating if not for some serious effort to deal with the budget deficit. That deficit, presumably, would cause damage to S&P’s clients. Those would be the big banks and other financiers. Yes. Those financiers who drove a hole in our economy and created the very budget gap that S&P now decries.

Am I alone in finding this more than a little disgusting?

Why should we pay one whit of notice to a rating agency who connived at the activities that led us to today’s problems?

Are they suddenly worthy? Are they suddenly so respectable and fiscally astute that they can tell us about the US bond rating? If so, this is a remarkable recovery for a firm that as recently as a few years ago thought Mortgage Backed Securities were just hunky-dory. AAA hunky-dory.

First off I think the entire budget debate is overblown. We have been running huge deficits for years. Ever since Bush decided to defund the government. S&P should have warned us back then. Perhaps it was politically motivated to keep quiet. The long term crisis, such as there is one, began the day Bush and the Republicans voted to execute a reckless fiscal policy. The rating agencies either were sleep back then, or didn’t think it noteworthy. The fundamental shift in our stability was a result of defunding. The crisis that was abetted by S&P and its fellow financial system hacks merely added a cyclical veneer to it. The deep problem stems from defunding and health care. With defunding running ahead at present.

This sudden urge to decry imbalances in the budget smacks of covering up the trail of gross negligence and venality that the rating agencies were guilty of as they fed at the derivatives trough. Their credibility was shot through then. It remains suspect. They are not competent to stand in judgement of fiscal policy.

Besides, as more than one more sane commentator has pointed out, there is absolutely no evidence in the real world credit markets of a move against the US. Our bond rates are low. Margins are good. Funding is abundant. Offerings are oversubscribed. Where is this crisis? In whose overzealous and ideologically driven mind does the crisis exist?

And why should the poor and elderly of America pay for this dreamt up problem by having austerity stuffed down their throats, while the very bankers and rating agencies who caused the problem remain unpunished?

When will someone stand up for the rest of us against these frauds?

Oh. wait. That would be the same Obama who caved in on economic stimulus and bank reform.

Oh well.

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Bank Reform Fades Away … With a Thud

There it is. Sitting on my computer desktop, pristine and unopened. The vast 650 odd page Levin report on Wall Street and The Financial Crisis. OK I had to open it to see how many pages it was, but that’s it. At this point we can all throw our hands up in despair and move on with our lives. The big banks, notwithstanding their protestations to the contrary, soundly defeated any chance of thorough reform. They are bigger than ever. They are meaner than ever. And they are just as incompetent as ever. I add this last comment because thus far there has been no evidence that all those rotten risk managers who brought us to our knees have been fired. The same is true for the traders who gorged themselves on toxic paper. The same is true for the executives who paid themselves handsome bonuses whilst overseeing the disaster. Unfortunately the same is true of the economists who dreamt up the horrible fiction that undergirds the structure of modern day finance.

Oh well.

It takes, at least for me, a heroic effort not to gag over the anemic response throughout the world to the enormous and outrageous destruction that the banks managed to get away with.

The have been no significant legal proceedings. The old guard is still safely ensconced applauding itself. The regulators still act as if they in the thrall of the bankers whose lives they should be making as miserable as the bankers made ours. And politicians hope desperately that no one notices how they caved into the lobbying and associated flood of money the banks deployed in order to maintain their ability to hold us all to ransom.

Which they continue to do.

Why is this so hard to understand?

Banks as big as Citi or JP Morgan are simply too big for our economy. They are even bigger, relatively and absolutely, than before. We are thus even more devoted to propping them up. Instead of breaking them up, punishing the mangers and shareholders, and restructuring our banking system to make it less expensive to subsidize, we went in the other direction. We made future bail outs more expensive and provided an even greater amount of subsidy. Were it not for the recent efforts of the Sheila Bair and others to”ring-fence” higher risk activities nothing of lasting value would have come from the crisis.

Yes, the banks now have more capital. So what? They remain huge, complex, largely opaque monstrosities with so convoluted organizational and tax structures that half of their own upper management hasn’t a clue what goes on. They move money around the globe, into and out of each other’s balance sheets to such a degree that untangling one, were it to fail, would bring the entire lot down. It is the ultimate blackmail gambit: I am just too important for you to let me go down because I would take you with me. So get out of my face and let me play. Oh. And don’t call me rude names. That upsets me.

If you add in the Vickers report in the UK, the total amount of pages devoted to making clear the farcical ineptitude of our expensive bankers runs to almost a thousand pages. It is sad that all that investigative effort is for nought. At least so far. I suppose the problem is that the reform effort took place before the full expose was available to embarrass the bankers. After all what is the point to publishing a huge report two full years after the crisis and during a period when our attention is focused on the debt and deficits left in the banker’s wake?

And for all you who think I am just being sour: remember that bank crises are regular features of our economy. There will be another one soon. Banking is inherently unstable and bankers are hopeless at being sensible, careful, thoughtful, or fiscally responsible. They like to gamble. Taking risk is part of banking. Gambling need not be. There is a difference, fine though that difference might be. So as we speak our brave bankers are busy creating the next crisis. Who knows exactly what it will affect?

This knowledge should have led to a more drastic reform, and to a more speedy publication of the facts surrounding the last crisis. It should have led to a decisive movement to stop the banks blackmailing us. It should have led to deeper investigations into the conflict of interest that lies at the very heart of the system. It should have led to serious efforts to bring executives to account, publicly, for their evident failures. It should have jolted shareholders out of the soporific indifference the way in which management squandered vast sums of capital.

Then again maybe not.

Given the way in which modern capitalism works none of this should be surprising.

Shareholders do not own the companies anymore They simply own, and trade stock. That’s a huge and material difference. Modern stockholders have no long term commitment to the businesses underlying the stock. They have abdicated responsibility. This severance of ownership from management allows managers to take enormous risks. Indeed it encourages them to take such risks since the shareholders are not driven by long term, but by short term profits and the resultant stock price movements. So pumping up revenues this year, or even this quarter, at the expense of next year’s or next quarter’s is the game managers have embraced and play so well. In banking this is a recipe for disaster, as it is everywhere, but more so in banking. It places the emphasis on the more volatile aspects of finance, and detracts from those aspects where a long term view, and steady credit evaluation play a key role. The economy suffers as money is syphoned off into gambling and away from long term investment because bankers can make more profit playing in the casino world of trading than in the more humdrum world of lending.

Very few of our top bankers ever set foot inside a bank branch. And most only have contact with small business when their assistants order flowers to decorate their second/third/fourth homes.

This is the lamentable state of our banking system.

Something we failed to fix. Something we will all come to regret soon.

But we sure wrote big reports. Like the Levin report sitting on my computer desktop. Going nowhere.

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Round Two

The problem with caving in to a blackmailer is that they are inevitably emboldened to try again. Usually the second extortion effort raises the stakes for both sides. This is where we are with the budget. Obama caved in last week in order to keep the government functioning. In the process he acquiesced to a long litany of right wing demands. The cuts agreed to include all sorts of completely irrelevant attacks on various aspects of long standing social programs. The Republicans littered the proposal with cuts that are minor in dollar terms, but hugely significant to their culturally extreme voter base. So the lunatics won round one. They are now back for more.

The start to round two was signaled yesterday when the Republican leadership announced that it will allow the US to hit its debt ceiling. This is expected to happen sometime in mid-May. After that deficit spending will have to be met either by cutting spending, as the Republicans expect and hope, or simply by printing the money needed – i.e. not through borrowing, an approach I have yet to see endorsed by anyone in our elite on either side of the ideological divide.

This will get ugly. Really ugly.

Let’s all acknowledge the serious nature of what is about to go on. The right has set the game up for themselves: this debate is one they precipitated by deliberately defunding the federal budget by cutting taxes back in 2001 and 2003.They undermined our fiscal stability by enacting tax cuts that deprived Washington of money. At the same time they enacted big increases in government spending. They were the very epitome of recklessness. Yet the voters still perceive them as conservative. The left has failed miserably by not being able to persuade voters of the enormous risks associated with those tax cuts. If – a big if – we are on the road to ruin it is because of Republican fiscal strategies, not purely because of unaffordable programs.

Consequently, we are now discussing what America will look like for the next fifty years. Will there be one America with a solid middle class and relatively less inequality? Or will there be two Americas with the current sharp divide widened further? A top one percent, and then the rest? Please keep this in mind as we debate what to do.

The greatest feature of our economy over the last thirty years has been the systematic attack on democracy by the wealthy. They have used every trick to undermine equality. They have accumulated unprecedented power and wealth by emphasizing notions of freedom and individualism that resonate well with voters, but play to the hand of only the strong. That is to say the wealthy themselves.

The long term failure of the American economy to maintain its post-war growth path opened the door to the revival of these and other anti-social ideas. They took strongest root in the aftermath of the 1970’s stagflation when the wealthy were abetted by zealous and ideologically motivated economists who wanted to overthrow Keynesianism. They subsequently infected business with shareholder value strategies that shortened investment horizons and undermined competitiveness. They fueled the great cost cutting and offshoring movement of the past three decades. They encouraged the steady decline of all forms of collective action to protect the weaker elements of society. They encouraged absurd risk taking in finance. They undermined social programs aimed at lifting the poor. They reduced taxes for themselves. They resisted shareholder control of management. They set up interlocking boards of directors so that like minded people sat in judgement of CEO’s. They neutered all criticism. And they homogenized the world view of our media and elite so that there is no alternative taught in “respectable” or “serious” schools nor reported in the mainstream press.

In short they took power and then censored and gutted or suborned the opposition.

Most of this long list has happened in the past thirty years. Cumulatively the effect has been astonishing. America is now the most divided nation in the industrial world. More so than it has been for a very long time. And it is arguably the least stable because its democracy has been subverted.

In short America was taken over, silently and effectively, by a very small group who now runs the place for itsown benefit.

But even the very rich cannot pull off a coup of this sweeping nature without accomplices. This was the cause of the uneasy alliance the wealthystruck with the populist wing of the Republican party. A wing that grew in power in the aftermath of the contests over desegregation and women’s rights. It is easy to forget just how much hatred was stirred to the surface by the prolonged debate over the Civil Rights Act. It’s echo is in today’s right wing disgust at Obama’s very presence in the White House and the pervasive doubt, within the extremist camp, of his place of birth. The alliance is structured this way: the rich want to rent seek and amass wealth. The populist/libertarians want to roll the clock back to a past era where government didn’t interfere. And by interfere the more extremist Republicans mean the government should no be able to limit their ability to discriminate.

Yes, this fight is that basic.

Yes, it is that venal.

Yes, America is that divided.

And, no, some people have never forgiven government for ending discrimination. For them it was an intrusion into their liberty.

It was, I think, Amartya Sen who said that there are no famines in democracies. The great fight over establishing the safety nets in the industrialized nations was a reflection of this effect of democracy. Voters look after themselves. Sooner or later they will force politicians to make sure that most people are safe from economic disaster. This is why democracy is in opposition to capitalism. The one spreads the wealth. The other concentrates it.

That we, in America, have so weak a safety net, and that we have so many people without health care coverage is testimony, by extension of Sen’s observation, to the weakness of our democracy. Money talks in our politics. The agenda is set by the wealthy. The majority have to accept what little they can get.

It is this pernicious context that now puts a boundary around what is, and what is not acceptable in the debate over the deficit. Our elite assumes the deficit is an existential problem for the nation because it is an existential problem for them. So they have forced us into this discussion. And the libertarians are along for the ride. It is the rentier class who would lose from inflation – which erodes the value of debts – so the Fed watches inflation like a hawk and ignores, relatively, unemployment. This is also why financiers warn about credit markets and debt levels: their assets are at stake, so they force us to act against our own interests in favor of theirs.

In his speech today, Obama presented his view of how to deal with the deficit. He told us that no sensible solution can avoid raising revenues. That means increasing taxes and broadening the tax base by eliminating the plethora of avoidance schemes and loopholes that reduce it. So he proposes allowing the Bush tax increases to go into effect for the top tier of income earners. Also, it is important that any cutting extends to include offense spending. The Pentagon’s long term burden on our budget is unsustainable. It needs reduction. Obama agrees.

The big nut, however remains health care, which means Medicare. The Republicans have done us all a favor by admitting publicly that they want to eliminate Medicare. That was the thrust of the ridiculous plan presented by Paul Ryan last week, and which was vividly attacked by Obama today. The voucher scheme proposed by Ryan is designed to move the burden of health care costs onto the elderly. This effect results from the way in which the voucher’s value would rise independently of, and slower than, health care costs. So a gap would open up that would have to be filled by the elderly themselves. Or, of course, they could forgo treatment. This attack on Medicare opens space for the Democrats to respond to the voter’s fondness for the program. Poll after poll suggests that voters do not want Medicare abolished. Indeed, and ironically, the most vehement opposition to cutting costs in Medicare comes from self-confessed Republican supporters.

One point to keep in mind is that the Republican voucher scheme does nothing to control health care costs themselves. It simply shifts the burden out of the government budget into private budgets. Obama, in contrast has attempted to roll back the steady rise in costs by pushing through his reform law last year and, today, by calling for the beefing up of oversight of Medicare spending and using its market power to force lower prescription costs.

Neither the Ryan plan nor the Obama plan will be passed into law of course They are merely the opening salvo in what promises to be a very hot and protracted war.

Which brings me back to my theme: this is a test of our democracy. If the wealthy win the debate, as they certainly did during the talks over finance reform, we should expect to continue towards a more divided nation. The stakes are high for the wealthy. They will spend a great deal to buy the necessary votes to force the burden of austerity onto the poor, elderly, and sick. Obama’s willingness, and ability, to lead the resistance is crucial. His speech today was encouraging. But his track record is worrisome. He talks a good game, but then negotiates badly. This time he needs to stare down the extremists. He cannot, he must not, he should not, give in to their extortion efforts again. If they want to use the debt ceiling as hostage, then let them. Let’s have the fight that they keep asking for. Make it clear who wants what. Then dig in.

Round two is all about the future of the middle class. It is beleaguered and in retreat. It is suspicious and confused. It is angry. It does not need pretty talk. Nor does it need to be betrayed by weakness in the face of the attack from the wealthy. It needs a strength Obama has so far failed to demonstrate. And it needs an articulation of why this fight is so important. In short, it needs leadership.

Perhaps even more than this: if we lose round two, the cause of democracy will be set back even further.

Inequality must end. The major portion of austerity should fall on those who led us down the fiscal path we have travelled. The responsibility is theirs. They should pay the cost for fixing the mess their policies caused.

Obama has set a partisan tone with his speech. He has set up the fight. Can he carry through?

I wonder.

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The 2012 Election, A Health Care Debate?

America’s interminable election process kicks into gear once again. We are hardly over the 2010 mid-term election cycle and we are already plunging into next year’s presidential election campaign. It never ends. Which is why our governance is frayed around the edges. With everyone constantly running for election our representatives hardly have time to give thought to major issues let alone ponder creative solutions. Every action. Every appearance. Every sound bite. And every smile is geared to the next election. Getting sensible legislation enacted is entirely secondary.

Thus today’s announcement from Obama that he is running for re-election next year immediately ends any chance of getting much done and plunges us instead into the usual pablum riddled world of positioning, wriggling around, and avoidance of controversy. Apparently he is telling those of us who backed him last time around that major changes takes time to solidify. Presumably this implies he has made such changes, and now wants to protect this legacy by sitting out the next four years to abate the Republican efforts to undo it.

I am not going to waste your valuable time by expressing my evaluation of the extent of the change, or its relationship with his promises. Suffice to say I am one of those who view Obama as a timid, bland, and very ordinary president who failed to roll back the Reagan/Bush legacy in any meaningful or lasting manner.

The worldview of our elite remains free market, low tax, and pro-business domestically, coupled with a pugnacious and militarist foreign policy. We are still engaged in a variety of foreign wars. We have returned, predominantly, to pre-crisis economics. And we are actively discussing downsizing government at both the state and federal levels, despite the questionable need to do so. This is a conservative agenda. It is not a progressive agenda.

The exception, of course, is health care.

And this is now the focal point of the fight.

The health care reform passed last year is weak and riddled with inconsistencies. It leaves too much latitude for the insurance companies and fails to restrain costs as much as it ought. It elides the central issues of limiting unnecessary service, producing better outcomes, and injecting efficiency into our hopelessly inefficient system. It succeeds in broadening coverage and restraining costs. Indeed the best way to evaluate it is as a long term cost reduction program: by that token it is serviceable.

Yet it is under constant attack from the right. And its various compromises make it an easy target fro disgruntled doctors, consumers, and anyone else whose lives will be altered by its multitude of effects.

The Republican backlash has been irrational and intentionally false. There has been talk of rationing, death panels, and all sorts of other nefarious government coercion. There has been nothing by way of an alternative.

Until today.

With the unveiling of the Republican plan for Medicare, the battleground for 2012 is now clear. The details are still sketchy, which is a constant feature of all Republican plans, but the general scope is discernible. The GOP wants to abolish Medicare as a defined benefit program and replace it with a defined contribution plan. The will limit the government’s cost, but undermine service drastically.

The essence of the GOP plan is that they eliminate Medicare as an entitlement. That entitlement status implies that the government provides coverage despite costs, and thus the consumer has no worry about whether procedures fall inside or outside the plan. This is why it is analogous to the old defined benefit retirement plans that have now disappeared.

In the new GOP version, elderly people would receive vouchers they could use to purchase private insurance. The level of service they would receive would then depend on the plan they sign up with, and thus fall prey to all the usual issues related to private insurance. More to the point: the value of the vouchers would be decoupled from the rise in cost of services, so eventually the cost of plans would fall more on the ability of the consumer to pay. The clear implication is that many elderly would quickly see a deterioration in the plan they could afford, and thus the services they could purchase. The rich would be relatively immune. The poor would see their health care quality diminish rapidly. This intention is confirmed by another component of GOP plan: the elimination of Medicare, which is the health care plan for the poor. This plan would be replaced by simple transfer of annual federal grants to each state. Then each state would be responsible for providing whatever care it could from those grants. An early understanding of the size of the grants suggests the intention is to reduce, vastly, the level of service the poor receive.

As an exercise in budget outlay reduction the GOP plan seems to have validity. By gutting health care for the elderly it reduces federal costs. It does nothing to restrain health care costs in general. There are no plans to rein in the excesses of the private sector, or to reduce the trajectory of increasing cost of services. Coupled with the tight control proposed on the value of vouchers this means, inevitably, that there will be a widening gap between what the government helps pay for, and the actual market driven cost of service. Hence the diminished service prospect I mentioned above.

So the battle lines are drawn. The Republicans seem to be saying they want to eliminate Medicare and replace it with a subsidy for the private sector. That subsidy will cover some, but not all, of an elderly person’s costs. So, inevitably, their level of service will go down. This is especially true of high cost end of life procedures that the private sector will have a hard time pricing efficiently at any premium less than exorbitant.

How Obama reacts to this will play a large role in defining his campaign. The vigor with which he resists will either energize or demoralize the base of his support. His track record is very poor so far. His two major reforms have been in health care and finance. Neither were radical. Both were fudged before the fight in order to mute opposition. In neither case was the opposition calmed. So in both cases Obama managed to negotiate away principled positions before the negotiations even began. He has a depressing habit of caving in before the fight, as his current attitude towards deficit reduction, and the supposed need for budget cuts shows so vividly.

A vapid president running for re-election against one of a bunch of extreme right wingers intent on trashing America’s already threadbare safety net is not an appetizing prospect. It does, however, highlight the extent of the rot in our discourse, and the impoverished nature of our policy thinking. Never could our lack of leadership be more evident. I hope I have missed something. Otherwise, whoever wins, our economy is not in good hands.

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