Thursday, October 23, 2008

Klaus: It's Not New Capitalism, It's Old Socialism

Czech President Václav Klaus (picture above) says that the global financial crisis did not result from insufficient market regulation, but, on the contrary, from excessive government interventions and increasing public spending.

"What is now happening in the financial markets after long years of exceptionally solid economic growth around the world is nothing unusual. After years of growth there must necessarily be a decrease at some point," the president wrote.

He rejected that the pending recession can be "prevented by some sort of a global economy management," likening such ideas to the communist-era central planning.

Klaus concludes that the EU plans to better regulate the financial markets and reform the International Monetary Fund will not lead to a "new capitalism", as termed by French President Nicolas Sarkozy, but will represent a return to an "old socialism."

(Thanks to Jack Helmuth.)


At 10/23/2008 10:01 AM, Anonymous Anonymous said...

Is it too late to get this guy on the ticket here?

At 10/23/2008 10:46 AM, Anonymous Anonymous said...

That is exactly what I was thinking jrich.

At 10/23/2008 12:57 PM, Blogger juandos said...

Sadly but I think that the so called modern American citizen doesn't have a clue what socialism is...

Then again just how many public school systems actually mandate a minimum of two semesters of basic economics in high school?

At 10/23/2008 2:17 PM, Anonymous Anonymous said...

juandos, my sis-in-law went to public high school through an AP curriculum and only studied economics as about 2 or 3 weeks in a civics/government course.

I realize that's anecdotal, but everyone in her class went through that as well as everyone at her school before and since (unless they've changed it in the last 4 or 5 years). It makes me wonder if *any* economics is taught (much less basic bookkeeping and accounting skills).

At 10/23/2008 3:29 PM, Blogger juandos said...

"my sis-in-law went to public high school through an AP curriculum and only studied economics as about 2 or 3 weeks in a civics/government course"...

Hey jrich I'm thinking that actual semesters of economics in high school have long since left the public schools (parochial schools too??) in both Texas and Missouri, both places I have some experience with...

Here in Missouri and also in Texas some school districts even social studies have been replaced by something called, "social justice" which of course is a complete waste of extorted tax dollars...

BTW regarding your comment about Václav Klaus, well he doesn't buy into that global warming crapola either...

At 10/23/2008 4:12 PM, Anonymous Anonymous said...

He calls socialism "socialism" and he doesn't believe the global warming hoax? Sign him up for '12...we'll have the Constitution amended by then!!

At 10/23/2008 6:04 PM, Blogger the buggy professor said...

1) Earlier today, in hearings undertaken by the House Oversight Committe, three prominent free-market enthusiasts who held or hold very powerful positions in the Fed or US government differ markedly from Klaus' views.


2. Here is Alan Greenspan, with some quoted material from his testimony (taken from an AP wire report):

‘Badgered by lawmakers, former Federal Reserve Chairman Alan Greenspan denied the nation's economic crisis was his fault on Thursday but conceded the meltdown had revealed a flaw in a lifetime of economic thinking and left him in a "state of shocked disbelief."

‘Greenspan, who stepped down in 2006, called the banking and housing chaos a "once-in-a-century credit tsunami" that led to a breakdown in how the free market system functions. And he warned that things would get worse before they get better, with rising unemployment and no stabilization in housing prices for "many months.’


‘Greenspan acknowledged under questioning that he had made a "mistake" in believing that banks, operating in their own self-interest, would do what was necessary to protect their shareholders and institutions. Greenspan called that "a flaw in the model ... that defines how the world works."’


"A critical pillar to market competition and free markets did break down," Greenspan said. "I still do not fully understand why it happened.


3) Our second guilt-ridden witness is Chris Cox, the SEC chairman.

He said to the same House Oversight Committee today: namely, "somewhere in this terrible [financial]mess, laws were broken."

Cox, you might recall, was put at the head of the SEC in the summer of 2005 precisely to stop the SEC from trying to extend regulatory powers over the derivative markets and to tighten them over investment banks. That effort was started by the Democratic Commissioners on the SEC, joined by William Donaldson --- the Bush-W appointed head (back in 2003). Republicans in Congress and in the Bush administration were furious. They howled for Donaldson’s head, and he was forced to resign in June 2005.


Last month, when the SEC Inspector-General issued a scathing report of the SEC’s laxity in the Cox era (and to an extent under Donaldson, if I remember correctly), Cox admitted that he had been wrong to think that financial markets could be self-regulating.


4) And our last witness? John Snow, the former Secretary of Treasury appointed earlier in the decade by George W Bush and in office between early 2003 and the summer of 2006. (The quoted material is taken from his testimony published by the House Oversight Committee. Go to: )

“Whatever the cause of a banking crisis, a lesson from history is that early, decisive government action is needed to stem the pain and cost of it. We must recognize as well that booms and busts in our financial markets, while unwelcome, have been a recurring part of our economic history. They seem to be an inevitable--though clearly undesirable--aspect of financial markets. Our history, however, also tells us that financial markets recover.

“An important part of the recovery is correcting the excesses that led to the boom.

“With the recent enactment of sweeping rescue legislation at the beginning of October, Congress has given our regulatory authorities an extraordinary range of tools. ….”


“ . . . Second, we need a more coordinated and less fragmented approach to financial regulation.
We need one strong national regulator with the field of vision to spot excessive leverage, no matter what or where the institution is located. We need to move away from the alphabet soup of regulatory responsibility that has prevented a comprehensive approach.

"This change too would
facilitate treating financial institutions engaged in like activities in a similar manner, and avoid regulatory arbitrage.


“In addition, we need stronger oversight of rating agencies and elimination of
conflicts of interest that have clouded their work.”


5) As a reminder, here is a list of how our financial market-system has gone haywire in the 27 years since it was deregulated by the Reagan, Bush-Sr, Clinton, and Bush-W era ---- or, as just testified by Cox and Snow (and others), with an indifference by the heads of the Fed, SEC, and other regulatory agencies to apply what regulations remained in this decade.

• The 1980s: junk-bond scandals, Black Monday, and the S&L crisis of the 1980s

• The 1990s: the dot-com balloon and bust of the late 1990s, the collapse of Long Term Capital Management (a huge hedge fund run by two Nobel-Prize winning economists, which required a giant government bailout), the Asian financial meltdown of 1997 --- an augury of what tens of trillions of footloose capital on the make could do quickly to the US, Europe, Japan, and the rest of the world a decade later.

• The 2001-2008 period: the Enron and World.Com and accounting scandals of the early part of this decade, the housing balloon and bust, the runaway nature of non-transparent, unaccountable derivatives, CDs, and leveraging of interstellar levels; and the resent financial crisis. With, in the end, you now know what.

That’s a lot for 27 years of financial deregulation, wouldn’t you say?

By contrast, between the FDR early years and 1981, there was nothing similar to these run-amuck financial extravaganzas at all.


Michael Gordon, AKA, the buggy professor

At 10/23/2008 6:44 PM, Anonymous Anonymous said...

Alan Greenspan just admitted his entire free market worldview has been disproven?
“I made a mistake in presuming that the self-interests of organizations, specifically banks and others, were such as that they were best capable of protecting their own shareholders and their equity in the firms,” Mr. Greenspan said.

Referring to his free-market ideology, Mr. Greenspan added: “I have found a flaw. I don’t know how significant or permanent it is. But I have been very distressed by that fact.”

Mr. Waxman pressed the former Fed chair to clarify his words. “In other words, you found that your view of the world, your ideology, was not right, it was not working,” Mr. Waxman said.

“Absolutely, precisely,” Mr. Greenspan replied. “You know, that’s precisely the reason I was shocked, because I have been going for 40 years or more with very considerable evidence that it was working exceptionally well.”

At 10/23/2008 7:08 PM, Anonymous Anonymous said...

I'm not saying definitively one way or other, but I'm not certain, in the midst of all of this, that banks would have been allowed to act in their own self-interest, given the "everyone-is-entitled-to-home-ownership" governing principles that were put in place by Big Brother.

I'm not saying the flaw is or isn't there. What I'm saying is that when the two choices are making money (hopefully) on risky loans v. paying fines to regulators for not making the risky loans, I think the potential to make money is the lesser of the two evils.

Mr. Greenspan is in a hard spot. I don't envy him one bit.

At 10/23/2008 7:26 PM, Anonymous Anonymous said...

It would be interesting to read the transcripts from congress surrounding the collapse of the market in the 1930s. There is so much here that is reminiscent of the Salem witch trials.

Congress demanding answers from an old man yet he is right. It is very difficult to understand the reasons for the present financial crisis.

Listen very carefully. The seeds of the next financial meltdown are being created as we speak.

There is a great danger that we are returning to the model of a managed economy ala central planning. Those who lived under communism understand better than most the danger of such a proposition.

At 10/24/2008 6:47 AM, Blogger Free2Choose said...

"There is a great danger that we are returning to the model of a managed economy ala central planning. Those who lived under communism understand better than most the danger of such a proposition."

Irrational exuberance is being "fixed" by the backlash of irrational fear. Bad + Worse = Most of us getting screwed.

At 10/24/2008 8:03 AM, Anonymous Anonymous said...

jrich- Constitution? What's that?

At 10/24/2008 9:14 AM, Anonymous Anonymous said...

I have a question for Michael Gordon; just what was deregulated by the Reagan, Bush-Sr, Clinton, and Bush-W era? What was repealed, re-done, or added? A simple list would suffice.

Thanks in advance.

At 10/24/2008 11:56 AM, Blogger the buggy professor said...

“I have a question for Michael Gordon; just what was deregulated by the Reagan, Bush-Sr, Clinton, and Bush-W era? What was repealed, re-done, or added? A simple list would suffice.” – Anonymous

Sure, here’s a list with, though, some clarifying remarks.


1. We could start in 1980, with the Depository Institutions Deregulation and Monetary Control Act of 1980.

By removing several regulatory limits on banks’ financial practices, it allowed them to expand their lending powers and add to their equity on the balance sheet to raise deposit insurance from $40,000 to $100,000. The result? Banks jumped in quickly into real-estate loans and speculative ventures. Within two years, bank failures rose to a post-Great Depression high of 42.


2. Congress to the rescue?

In Dec 1982, the Garn-St Germain Depository Institutions Act of 1982 set off a ranging deregulation of the S&L --- savings and loans banks --- that essentially removed the distinction between commercial and savings banks. In short order, S&L’s started issuing credit cards, started using the giant pool of commercial real estate investments (now that statutory restrictions in real estate loans were eased), started offering money market deposit accounts, and began a series of extensions that led to a huge crisis in real-estate --- especially in certain regions --- and ended up costing several hundred billion dollars of taxpayer money to bail them out, beginning in 1989.

Even before that, bank failures continued to rise throughout the 1980s.

Note that the problems that led to the S&L crisis and bailout were furthered by the Economic Recovery Act of 1981: to put it bluntly, it incited a boom in commercial real estate just at the time that S&L’s ability to expand recklessly their loans in this domain had been endorsed by these two earlier acts. (In particular, there was no longer any statutory limit on loan-to-value ratios.)

Something else here.

The Federal deregulations of the federally chartered S&L and of commercial banks led state legislatures to further deregulate state-chartered S&Ls. As a general thing, S&L’s had spent lots of money to nurture nifty friendly links to elected officials and state regulators . . . easier to do, it seems, than with Congressmen and Federal regulators.


3. Deregulation then began to be extended to the distinction between investment and commercial banks --- as established by the Glass-Steagall act of the 1930s. The start of this deregulation materialized in the spring of 1987. Over the opposition of the then chairman of the Federal Reserve Board, Paul Volker, the other members voted 3-2 to ease the regulatory rules under Glass-Steagall.

In the hearings that preceded the vote, the vice-chairman of Citicorp contended that there were now new “outside checks” that had emerged since 1933 on corporate misbehavior. There was a “very effective” SEC; savvy investors; and “very sophisticated” rating agencies. Volker himself --- who had initiated monetarist controls by the Fed in 1980 to halt and reverse the inflationary tendencies in the economy, remained unpersuaded. He openly voiced his concern that lenders would --- in a quest after sweet-looking securities --- end up making risky loans to the public.


4. 1987 had another twist toward deregulating the Glass-Steagall act. Reagan appointed Alan Greenspan, an Ayn Rand pledge-taker and believer in self-regulating financial markets, as chairman of the Fed Reserve Board. There followed a series of deregulations of that act’s traditional rules. In January 1989, the Fed Board approved an effort by J.P. Morgan, Chase Manhattan, Bankers Trust, and Citicorp to take advantage of some Glass-Steagall loopholes that go back to 1987. In 1990, the Fed went further. J.P. Morgan got its approval to underwrite securities.


5. The Bush-Sr administration explicitly tried in 1991 to repeal Glass-Steagall, but the House of Representatives defeated the Bush bill. That was hardly the end of the campaign.


6. In Dec 1996, the Greenspan-led Federal Reserve Board broke further with the rules of the Glass-Steagall act: it allowed bank-holding companies to own investment bank affiliates up to 25% of their securities-underwriting activities. There followed in 1997 further measures by the Fed to undermine the Glass-Steagall rules --- not least, the Board publicly announced that the risks of underwriting had turned out to be “manageable”. Banks, therefore, now had the legal right to buy security firms without restriction.

What followed? Well, in 1998, all sorts of mergers began that, among other things, let Travelers --- the owner of investment house Salomon Smith Barney --- link with Citicorp (the parent-head of Citibank) to create Citigroup Inc at a cost of $70 billion. It was the biggest financial service company in the world at the time, and in fact the biggest corporate merger in history.

There's more.

The merger seemed to violate the core-rules of the Glass-Steagall Act, which explicitly, it seemed, banned this kind of giant financial company that could undertake insurance underwriting, securities underwriting, and commercial banking. To ensure no conflict, Citigroup’s Weill and Reed group began lobbying energetically to repeal the entire act. It spent tens of millions of dollars to that end, with success.


7. Glass-Steagall was repealed totally by a Republican Congress --- the powerful chairman of the Senate Banking Committee Phil Gramm, famous for his recent Americans-are-whiners remark when he co-chaired the McCain campaign and was McCain’s chief economic adviser until sacked --- and signed by President Clinton. With results hardly needed to spell out now: above all, the change would spill over quickly in the next decade into the huge expansion of big financial mergers, financial derivatives like CDOs and Credit-Swaps, and make-believe insurance for them.

In effect, the repeal encouraged a huge global link of non-transparent, non-accountable, and extremely high-risk creditors that sought to tap $70 trillion worth of hungry money out of China, Russia, oil-rich Arab countries, Japanese banks, sovereign funds, hedge-funds, and . . . well, the list is long.

The key point here? It's now well know to one and all. A global financial meltdown.


Specifically, to ensure that there would be no regulations over the expansion of these very complex, non-accountable financial contracts (derivatives), Greenspan outrightly endorsed their explosive growth in testimony to Congress in Feb. 2000.

In 2004, the SEC headed by the Bush-W chairman, William Donaldson, unanimously allowed investment banks to increase their leverage from 10:1 up to 30:1. Two of the big investment banks no longer exist. The other 3 are being bailed-out or parts of them bought by other financial giants.


8. Want some more evidence?

“For the latest data ended 1H 06, the prior six month growth in worldwide OTC notional derivatives outstanding was a little in excess of $72 trillion, standing at $370 trillion as of 6/30/06, up from $298 trillion at 2005 year end. For a bit of perspective, total planet Earth did not have $72 trillion in total derivatives outstanding eight years ago, and now we're growing by that total amount in six months.” --- Financial Sense, analyzing the explosion of unregulated derivatives between 1999 and early 2007. Source:

Note that the linked to article at Financial Sense is full of good charts and intelligent remarks about the volcanic eruption of derivative markets that reached interstellar levels of lunacy by 2007.


9. Later, Donaldson began to share the worries of the two Democratic Commissioners on the SEC and sought to extend SEC supervision to the new exploding risk-charged derivative markets. Republicans in Congress and in the Bush administration howled for his head. He resigned in 2005, replaced by another firm-believing libertarian --- Chris Cox. He stopped all efforts to regulate the derivative markets, explained financial markets were self-regulating (a theme still reiterated by Alan Greenspan until yesterday’s testimony to the House Oversight Committee), and was nonchalant about applying the regulatory rules that the SEC had applied in the past to other financial sectors.


10. Add to this list some others:

• Accounting rule changes in the Republican Congressional era that diluted the accounting reports of giant firms like Enron that allowed them to misrepresent their basic company fundamentals.

Nor was that all. Efforts by critics to stop the cozy relations between accounting firms and companies they were supposed to audit effectively --- while maintaining lucrative contracts with those companies for other purposes --- were also stymied by Congressmen and regulators.

• The relaxation by both Democratic and Republican administrations and Congresses to push for more home-ownership, which led to the subprime mortgage fiasco of this decade. The role of a lax supervision of Freddie Mac and Fannie Mae by politically appointed heads --- despite warnings by their risk-managers (especially Richard Styron at Freddie Mac, a Bush-W appointee) --- no doubt added to the enormous decline in credit-analysis and risk-management by banks and other mortgage-dealers and the explosion of these asset-based toxic-ridden derivatives based on them.

More specifically, even if the Freddie and Fannie underwriting of only 15-20% of these toxic subprime loans (Freddie and Fannie buy some mortgage loans from issuers, keep about half, and sell the other half that were then repackaged as derivatives), they probably reinforced the loony belief --- subscribed to, in his testimony yesterday to the House Oversight Committee, by Alan Greenspan --- that house prices wouldn’t tumble much in case, over time, some problems in housing did arise.


11. If the various threads of this list and comments are pulled together, what conclusion emerges?

Essentially this: it isn’t simply the large number of deregulations of the financial system that began in 1980 --- and accelerated by the Reagan, Bush-Sr, Clinton, and above all Bush-Jr eras --- that underlies the disasters, world-wide with variations in virulence, in financial markets. It’s also the remarkably risky, even reckless, eruptive growth of financial innovations totally unregulated --- totally non-transparent and lacking accountability --- that sought to absorb 70 trillion dollars worth of footloose money in this decade eager for high-returns.

That global pool of money was $30 trillion in 2000. It took centuries of economic growth to reach that level.

In the next 7 years, it exploded to $70 trillion. In catering to it, the new financial innovations encouraged the most reckless misuse of standard credit-analysis and risk-management that financial institutions traditionally applied before 1980.


Strange as it might seem to free-market enthusiasts, the primary function of banks, insurance companies, stock markets, bond markets, and so on is not to enrich high risk-taking managers, CEOs, and investors. It’s to allocate capital efficiently and with good risk-management for the real economy. We have witnessed, instead, financial buccaneers run wild with arrogance, a fatuous belief in computer-driven programs for alleged financial analysis, and quite simply rampant greed that free-market economists and enthusiasts seem to think is a very good thing. No mention anyway by them that I'm aware of that commercial bankers, investment-bankers, and the heads of brokerage firms, mutual funds, hedge-funds, insurance companies, mortgage-firms, and the like are supposed to show a strong sense of fiduciary responsibility for their creditors and depositors and individual investors . . . as well as a sense of trust among them in a global chain of creditor-debtor relations that look like they might have been shaped by P.T. Barnum.


Nolr is that all.

Because when these fallacious beliefs of the sort that Alan Greenspan embraced turn out to collapse into smithereens, they have two options.

They can, as Greenspan said, be left stunned with disbelief and uncertainty how their beliefs were wrong and go to the grave with a sense of guilt and failure. Or, the likely alternative, seek out the usual culprit --- government actions, whether in the US, West Europe, Asia, Latin America, or what have you.


Michael Gordon, AKA, the buggy professor

At 10/25/2008 1:35 PM, Blogger Arman said...

I find it very amusing that everyone knows what went wrong and what needs to be done. Except the guy on the down slope of his career; who has more inside knowledge than anyone; who no longer has any agenda at all but to answer the question "what went wrong": All he can do is sputter that HE is in shocked disbelief that the world doesn't work like he was once taught that it works.


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