September 16, 2013
There have been considerable efforts made over the last five years to convince us that the bankers at the center of the financial crisis were victims just like the rest of us. Robert Samuelson does his part in a column today.
The main line in his argument are a couple of studies showing that most of the top execs at the banks at the center of the crisis were themselves heavily invested in real estate. This means that they also bought into the housing bubble. Therefore there was no fraud, just bad business judgment. That doesn’t follow.
Let’s look to Enron, a case where everyone agrees there was fraud. Did Ken Lay, Jeffrey Skilling and the other top execs believe that Enron had a viable business model? I never met any of these folks, but my guess is that they probably did believe in the company and certainly their stockholding pattern was not consistent with people who knew they had a Ponzi scheme on their hands. It is entirely plausible that at one level they both believed they had a really clever business model and that they also committed fraud to advance this model.
If we look to the Countrywides and Citigroups it is entirely plausible that their top honchos really thought that the housing market was just going to keep rising forever. It is also entirely plausible that they issued and securitized millions of fraudulent mortgages to maximize their profit from this rising market. Being stupid about the housing market does not in any way prove that they did not commit fraud, just as the Enron boys would not be somehow exonerated if they really believed in the company’s business model.
There are two other points worth noting in Samuelson’s story. He is quick to dismiss the idea that the problems of the financial crisis were a deeply corrupt financial sector. He tells readers:
“We were victims of success. The crisis originated from 25 years of prosperity, from roughly the end of 1982 to the end of 2007. This conditioned people — bankers, regulators, economists, almost everyone — to take stable growth for granted. The longer the prosperity continued, the more it inspired the risky behaviors that ultimately wrecked the economy.”
The piece tells us how great things were over the quarter century from 1982 to 2007. The big problem with Samuelson’s story is that by almost every measure things were better over the prior quarter century and certainly over the first quarter century after World War II. If prosperity created the conditions that led to the crisis, why didn’t the much great prosperity over the period from 1947-1972 lead to any comparable crisis?
The answer is that the problem was not prosperity, the problem was that it was prosperity that was being driven by asset bubbles. And, as we should all know, asset bubbles burst. If they are the basis of prosperity, then it is destined to end badly.
This brings up the second point and another serious Robert Samuelson confusion. He tells readers:
“One is to understand today’s economy. Because Americans over-borrowed, it’s suggested that when they’ve adequately repaid debt (“deleveraged”), the economy will improve. Well, they’ve deleveraged considerably. Debt payments as a share of disposable income are at their lowest levels since the early 1980s, according to the Federal Reserve Board. Still, the economy barely limps along. The problem transcends debt. The disillusion with the pre-crisis euphoria has led to an opposite post-crisis reaction. Yesterday’s foolish optimism has become today’s protective pessimism. A Pew survey finds 63 percent of Americans feel “no more secure” than five years ago.”
The concern about pessimism holding back the economy is made in direct defiance of the data. The saving rate in the first half of 2013 was just over 4.0 percent meaning that people are spending almost 96 percent of their income. This is a bit lower than the near 98 percent spending rate at the peak of the housing bubble, but far above the average spending rate of the sixties, seventies, and eighties. In those decades people spent less than 90 percent of their income. They used the rest to save for their kids’ education, retirement, and other needs. Consumption is in fact high right now, not low.
It is not as high as in the bubble years because the bubble wealth has not reappeared. We are still down by close to $8 trillion in housing wealth as house prices have returned to trend levels. The obsession with debt is misplaced. Is there any reason to expect someone who owes $150k on a $200k home to spend more than someone who owes $200k on a $250k home? What matters is the homeowners’ equity, not the debt, and that is not coming back.
The actual explanation for the shortfall in demand is far too simple for most economists to understand. We have a trade deficit of 3 percent of GDP ($500 billion a year). It would be close to 4 percent of GDP if the economy were near full employment. This represents income generated in the United States that is not creating demand in the United States. From the standpoint of the U.S. economy it is the same as if people just saved the money.
In the late 1990s, when this large trade deficit first appeared, the gap was filled by the demand created by the stock bubble. In the last decade the gap was filled by demand created by the housing bubble. In the absence of a bubble, the gap can only be filled by the government sector. Alternatively we can get the dollar down and eliminate the trade deficit, but that is far too simple a story for people who write about economics.
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