Monday, June 15, 2009

Geithner-Summers Miss the Elephant

Today in the Washington Post Tim Geithner and Larry Summers present an introduction to the Obama administration's five-point plan to prevent future financial crises. Here it is, along with an RMC grading:

  1. Raise capital and liquidity requirements, especially on the biggest players. Federal Reserve and "council of regulators" will supervise. Grade: B
  2. Force "robust reporting requirements" and retention of some assets on issuers of asset-backed securities. Grade: C
  3. "[S|tronger framework for consumer and investor protection" to fight predatory lending, e.g., in sub-prime mortgage lending. Grade: F
  4. Feds will "establish a resolution mechanism that allows for the orderly resolution of any financial holding company whose failure might threaten the stability of the financial system." Grade: B-
  5. Feds will "lead an effort" to improve international financial standards. Grade: incomplete
You can see what's missing here, and the chaps at Seeking Alpha are right on it. Yes! Crazy bank compensation and breakdown of corporate governance--Not!

The Geithner-Summers Plan and the Seeking Alpha response is discouraging. The problem is not the banks; the problem is the government. It was not reckless banks that sluiced mortgage lending upon the land; it was Fannie Fire-hose and Freddie Fire-Hydrant. It was not predatory lending that caused sub-prime lending; it was government policy that demanded that mortgage lenders lend to sub-prime borrowers.

That's the basic problem. Governments are sluicing out credit (in which the banks are middle-men) and then unaccountably shocked at the subsequent flood. And Geithner and Summers don't have a plan for that.

We aren't going to solve this problem until government stops meddling with the credit markets and trying to gun the business cycle.

The best way to deal with constant credit crises is to rebalance the financial system away from debt towards equity. But that will be just about impossible to do.

Why? Because government is the biggest player in the debt market. And they play both ends against the middle. First they float out their paper to the world's widows and orphans, then they print money and inflate their obligations away.

But Geithner and Summers write not a word that they are going to do anything about that. Heck no. All that money is power, and politics is all about power.

Unless we citizens rise up and demand that the power of government be limited.

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