Corporatist Pigs!

Via Mises.org:

Throngs of tweenies rushed to buy their copies of the June 2009 issue of Rolling Stone, eager to read about the adorable Jonas Brothers. As they flipped it open, questions rushed through their heads: “Are they on tour?” “Do they have girlfriends?” “What do they look for in a girl?”

What those girls weren’t asking themselves was “How was Goldman Sachs, the world’s most profitable investment bank, involved in creating the current financial crisis?” But that didn’t stop Matt Taibbi from answering that question in the same issue of Rolling Stone, in his article, “The Great American Bubble Machine.”

Interestingly, in a November 9, 2007, interview with Marty Beckerman of Reason, Taibbi actually described himself as “more of a libertarian than anything else.” Unfortunately, in keeping with Rolling Stone‘s dominant line, Taibbi’s attack on Goldman Sachs was quite antimarket. He coolly placed the blame for the US financial crisis on the shoulders of this lone company.

However, he did manage to illuminate the bank’s relationship with government regulators and the Federal Reserve. As the saying goes, “even a broken clock is right twice a day.”

…Taibbi first characterizes the corruption at Goldman Sachs as an inevitable result of “free markets and free elections,” then argues that it was made possible by “the aid of a crippled and corrupt state.” So, which is it? The free markets or the state-sanctioned corruption? These are entirely different arguments and they must be carefully treated as such.

I will be the first to argue against the state aiding and abetting corporations. Among the advocates of the laissez-faire system, there is a clear understanding that such aid is corporatism or corporate socialism.

Yet in all such schemes, the hand of government regulators is disguised so well that when the scheme fails, most people see the puppet but overlook the puppet master. Perhaps Taibbi can be forgiven for the error. After all, we have been witness to numerous such shell games at the hands of government.

Read the full article here

Simon Johnson: Economic Donkeys

This is a great follow up to my previous post. Simon Johnson and Peter Boone discuss the Wall Street-Washington connection, or as Tyler Cowen termed it, the politicization of the economy.

The real problem with our financial system is that our economic and political system work together to encourage excessive risk, and this risk in turn leads to cycles of prosperity and collapse.  In 1998, a much smaller Lehman Brothers was placed in financial peril by the aftermath of the Asian financial crisis and failure of Long Term Capital Management, a major hedge fund.  The Federal Reserve responded by lowering interest rates and other central banks followed suit.   This reduced the cost of obtaining funds, effectively bailing out Lehman and other institutions in trouble.

As markets have grown to recognize how quick the Federal Reserve is to bail out institutions (and executives) in trouble, they naturally respond.  In the 1990s, people talked about the “Greenspan Put” a term which derisively suggests that it is always safe to invest in risky assets, because the Federal Reserve is ready to bail out investors (a put is effectively a promise to buy an asset at a fixed price if you are unable to sell it to someone else at a higher price – this is a way to lock-in profits or limit losses on investments).  However, in months following the collapse of Lehman, we learned that the “Bernanke Put” is even more valuable since Chairman Bernanke, alongside the Bank of England, the European Central Bank, and central banks in much of the rest of the world, is prepared to take drastic measures to prevent asset prices from falling when there are risks of global collapse.

This policy of responding to the aftermath of bubbles, rather than addressing them before they get going, through tighter regulation, has become the mantra of most central banks.  It is usually combined with fiscal policy stimulus and other measures to support the economy.  Each time banks fail, by bailing the system out again, we teach our finance sector a lesson:  you can safely take too much risk because, when you lose, the taxpayer will pick up the bill.  We also send a simple message to creditors:  it is safe to lend to Goldman Sachs, or Barclays Bank, because taxpayers and our nations’ savers are standing by to cover your losses.  Rational bank executives and creditors respond as any person would: creditors lend to banks at low interest rates, and our banks gamble heavily hoping to make large profits.  Such a system is destined to fail, but the party can run for a long time.

A government implicit (now explicit) guarantee absolutely encourages excessive risk taking. FDIC and government implicit guarantees helped lead to the financial crisis by encouraging reckless risk taking, and then the government bailed out the companies. I’m not sure how much of a free market proponent Simon Johnson is, but for the record, what I just described is not how the free market operates. It’s also not capitalism, but once again, the mixed economy at work.

NYT: Where Politics Don’t Belong

Tyler Cowen has an interesting piece in today’s NYT titled “Where Politics Don’t Belong“:

FOR years now, many businesses and individuals in the United States have been relying on the power of government, rather than competition in the marketplace, to increase their wealth. This is politicization of the economy. It made the financial crisis much worse, and the trend is accelerating.

Well before the financial crisis erupted, policy makers treated homeowners as a protected political class and gave mortgage-backed securities privileged regulatory treatment. Furthermore, they allowed and encouraged high leverage and the expectation of bailouts for creditors, which had been practiced numerous times, including the precedent of Long-Term Capital Management in 1998. Without these mistakes, the economy would not have been so invested in leverage and real estate and the financial crisis would have been much milder.

But we are now injecting politics ever more deeply into the American economy, whether it be in finance or in sectors like health care. Not only have we failed to learn from our mistakes, but also we’re repeating them on an ever-larger scale.

I’ve made the point to my friends before that we do not (and have not for quite some time) live in a capitalistic society. We live in a mixed economy: one part capitalism and one part government owned. Mr. Cowen’s article brings back memories of Enron. Enron was totally government supported. Both Democrats and Republicans had their hands in the cookie jar. Enron would not have become what it did without the government’s support. If a business uses the government to gain power, cronyism runs rampant. Do you believe a truly free market would allow this? Let me know.