The Anti-Greenspan
He's probably the least-noted member of Barack Obama's new financial regulatory police, but Dan Tarullo may end up having the most impact. Think of Tarullo as the anti-Greenspan, or perhaps as a pro-regulation virus planted in the heart of a Federal Reserve System that for two decades has been predisposed to letting markets self-correct. Certainly Tarullo—who was named Thursday to fill one of two open spots on the seven-member Board of Governors—is far from you run-of-the-mill Fed official. Most governors have been academic economists, bankers or businessmen. Tarullo, a Georgetown law professor who specializes in bank regulation and international monitoring, is basically a high-toned cop. "Our regulatory system has let us down," he said on PBS's Lehrer show last April, before the worst of the subprime fallout hit. "We've had multiple opportunities in the last 10 or 15 years to take account of the new forms of financial activity. We haven't done so."
Most media attention is focused on Obama's nomination of Mary Schapiro, a tough-minded former futures regulator, to head the Securities and Exchange Commission, and Gary Gensler, a Treasury undersecretary in the Clinton administration, to chair the Commodities Futures Trading Commission. But those two may end up waiting on direction from the new super-empowered Fed. Many experts agree that one reason the subprime securitization disaster occurred is because it cut across so many once-segregated sectors; mortgage lending and securitization were once entirely separate practices. The SEC, for example, is only supposed to oversee publicly issued securities, and can't do anything about lending practices. Only the Federal Reserve Board can monitor the entire financial landscape. As a result, Tarullo could potentially play a bigger role than either Schapiro or Gensler in the future financial system, some experts say. "It just depends on what deal was made" with Federal Reserve Chairman Ben Bernanke, "or whether there was a deal," says Ted Truman, a former senior Fed official. "It's not automatic that someone with that kind of expertise would immediately have a role in banking policy. Board members are assigned in terms of seniority."
Bernanke, a conservative, has already expanded regulation. Under the Home Ownership and Equity Protection Act passed by Congress in 1994, the Fed was given the authority to oversee mortgage loans. But then-Chairman Alan Greenspan, an Ayn Rand libertarian who by his own admission believed that markets could mostly self-correct, kept putting off writing any rules and stoutly resisted other efforts to regulate derivatives on Wall Street. Bernanke, by contrast, earlier this year instituted "Regulation Z," which created common-sense rules such as forbidding loans without sufficient documentation. Bernanke has also vastly expanded the Fed's lending powers to deal with the crisis. He believes the Fed should at some point return to its old modest role as a regulator of the money supply and inflation. But since he is also known to want re-appointment as chairman next year—and incoming Obama economic advisor Larry Summers is said to covet the post—it's likely that Bernanke will go out of his way to satisfy Tarullo.
And that may mean a whole new regulatory structure that will dwarf anything Schapiro does at the SEC or Gensler can accomplish at the CFTC. Those who who've worked with the soft-spoken Tarullo says he brings the right blend of save-the-world zeal and balanced judgment. "I think it's a great choice," says a former senior member of the Clinton administration. "It's the right person with the right skill set and the right judgment at right time."
The question is whether Tarullo will push for too much regulation. In his 2008 book on international banking regulation, "Banking on Basel," Tarullo repeatedly argues that the subprime crisis is a once-in-a-lifetime opportunity to regulate. "The crisis has—at least for a time—altered the political environment for financial reform by placing banks on the defensive," he wrote. "Domestic reformers may have the upper hand if they move quickly." The debates at the Fed should tell us a lot in the coming months.
My Commentary:
Mike Hirsh's reference to Dan Tarullo as a "pro-regulation virus" is ingenious…and perfectly apt. Government economic regulation is a virus, and the cause of the current crisis is a whole swarm of such viruses having evolved over past years and decades. The resulting infections have made for a very sick patient.
In a free, unregulated, "uninfected" market:
*There is no central bank with monopoly power over money creation, interest rates, or to act as lender of last resort. An unregulated financial industry under the control of a government-imposed central bank is a logical impossibility.
*There are no government-created, politically pressured quasi-private GSEs like Fannie and Freddie, buying up untold $billions in unsound mortgages originated by imprudent private lenders and borrowers, for packaging and resale to the public with implicit government guarantees of safety.
*There is no Community Reinvestment Act to impose "flexible lending standards" in order to guarantee an alleged "right" to homeownership.
*There is no federal deposit "insurance" or government mortgage guarantees to encourage excessive lending risk, discourage prudent banking, and shift liability for bad banking to government…i.e., taxpayers.
*There is no excessive, artificial money creation (inflation) engineered by a central bank unconstrained by a gold standard to fuel asset bubbles such as the house-price explosion of the past number of years, which amounted to gasoline being poured onto a raging sub-prime fire.
*There is no government-imposed mark-to-market accounting rule (imposed under Sarbanes-Oxley, the disastrous regulatory law, passed after the Enron scandals, that punished the thousands of innocent companies that didn’t cook the books). Under mark-to-market, which Steve Forbes calls an accounting "weapon of mass destruction", many sound financial institutions with positive cash flow and mostly performing mortgages were driven into artificial insolvency "requiring" a government bailout. This may be the greatest "insider trading" scheme in history.
*Profits are privatized, as they should be, but so are losses, as they most certainly should be. Profit and loss, or risk and reward, are the countervailing market forces that work to the advantage of prudence long term. The socialization of risk and loss brought about by government intervention severed that connection, unleashing the quick-buck artists on a massive scale.
*Banks are not shielded from bankruptcy.
Part 2:
I could go on and on here. The private lenders and borrowers of bad mortgages, and any fraudsters that may have operated, are just the superficial face of the financial debacle. Their irresponsible behavior need not be excused to understand that it was taking place within the context of a myriad of market-distorting government interventions, which does not constitute laissez-faire in any way, shape, or form.
Any semblance of a free market in finance, housing, and the mortgage market have long since disappeared behind decades of ever-growing government efforts to "encourage" homeownership. The veritable conveyor belt of imprudent credit expansion revolving around the housing bubble is a creation of government, and wouldn’t have been able to remotely approach today’s levels in a free market. In a free market, bad private financial practices are regularly weeded out by bankruptcy, foreclosure, and investment losses long before they can infect the entire system. The common denominator of the entire financial crisis is the government.
This massive financial crisis represents the collapse of a heavily regulated and controlled financial industry operating in a housing and mortgage sector beset by massive government intervention. It is not a failure of a non-existent free market. The alleged "deregulation" is no such thing. There can be no deregulation as long as the government retains its market-distorting regulatory powers, whether or not it happens to have exercised them in some particular way or not (as the scapegoat-seeking Greenspan well knows). The pseudo-deregulation blamed for the crisis is just a rationalization for expanded government control over the economy, to the detriment of individual rights.
As to the continuing efforts to discredit Rand and Objectivism by linking them to Greenspan, it’s getting old, and it won’t work. Ideas cannot be refuted without openly confronting them, something Rand’s detractors steadfastly refuse to do. Any link between Greenspan and Objectivism has long since been severed when Greenspan accepted the job of monetary dictator in 1987.
Others' Comments:
Posted By: Too late smart @ 12/21/2008 2:35:03 PMThere is nothing in the Community Reinvestment Act requiring lenders to leverage and sell off mortgages. When it was found out that lending in the previously red-lined neighborhoods was profitable they pushed that business beyond all reason valuations went up. When the mortgagers lost jobs in the ressession, well you know what happened then.
My Commentary Response:
You’re technically correct, Too late smart, but only technically. The inherently corrupt nature of government’s arbitrary regulatory authority over the banking industry is the key here. That regulatory power itself was the leverage the government used to coerce banks into sub-prime lending under CRA. The packaging and selling off of risky mortgages was pioneered by Fannie and Freddie, and later emulated by private firms. But it is not innovative products such as mortgage-backed securities that are at fault here. It is the toxic mortgages that ended up in them. The CRA was instrumental in creating them.
When the politicians and their bureaucratic allies that have life and death control over your business tell you to do something…you’re going to sit up and take notice. For a non-complier, the government can call down retribution in a myriad of ways, from criminal investigations under antitrust laws, to tax audits, to fraud or discrimination allegations and prosecutions, to merger permission denials, to congressional subpoenas.
The CRA may not be the primary cause of the crisis, but it is an important piece of the puzzle. When politics, through government’s regulatory powers, mixes with private economic decision-making, the necessary result is corruption of markets. It can be no other way. In the “partnership” between government and business, it’s the guy with the gun…the bureaucrat, politician, or businessman with political connections…that wins over private voluntary economic decision-making. Political power works in mysterious, unpredictable, behind-the-scenes ways.
For example, check out this winter 2000 article in City Journal by Howard Husock, The Trillion Dollar Bank Shakedown that Bodes Ill for Cities, which described the role the Community Reinvestment Act played in the coming meltdown. The predictions here are eerie, but understated. It wasn’t just cities that got infected, but the whole country, thanks to the upcoming inflationary monetary policies of the Greenspan-Bernanke Fed.
http://www.city-journal.org/html/10_1_the_trillion_dollar.html
Others' commentary and my Response:
Posted By: Too late smart @ 12/21/2008 5:00:40 PM
Zemack: you need a sense of humor. You might have put in an ethnic joke about people who live in ghettos. The fact is people will pay their rent or mortgage before buying food. Any landlord can tell you that.. Now speculators and people who own more than one home can and do default often on million dollars loans. I am glad that you agree with me that it has been the schoolyard bullies that have been making the rules recently.
Posted By: Zemack @ 12/21/2008 6:55:03 PM
I'll leave the ethnic jokes to you. That's not my style. Plenty of low-income folks continue to pay their mortgages on time. The sub-prime crisis spread to all income groups because banks that jumped into that game had to offer them to everyone, due to anti-discrimination statutes. Many banks did so enthusiastically, such as Mazzilo's Countrywide. As I said, CRA did not cause the crisis, but is a piece of a complex puzzle.
Posted By: Too late smart @ 12/21/2008 6:05:45 PM
Democracy and I suppose any other system needs certain quantities of intelligence and altrualism to not fail. An Ann Rand utopia has to have a Titan but what is more likely is a Hitler or a Stalin. Maybe Greenspan was lucky for twenty years. The CRA was not criticized for forty years. Social Security has been called a Ponzi scene for seventy years maybe by Ann Rand.
Posted By: Zemack @ 12/21/2008 7:13:39 PM
Too late smart, it's Ayn (rhymes with mine), not Ann. You should really familiarize yourself with Ayn Rand and Objectivism, so you don???t make uninformed comments like your "Titan" statement. A rights-protecting government under laissez-faire capitalism, which leaves everyone free to live their lives free from the initiation of physical force, makes utopian dictators like Stalin and Hitler impossible.
By the way, Social Security IS a Ponzi scheme. My wife and I have contributed over $300 K over our working lives, according to our S.S. statements, which means that if that money was placed into a personal investment account earning a reasonable rate of return, we would have probably three quarters of a million bucks to start drawing on in a few years. Instead, that money was spent or sent to other retirees. Now, when we begin to collect, we will have to depend on future workers' taxes to collect on our contributions. If that is not a Ponzi scheme, then there is no such thing.
Others' Comments:
Posted By: Too late smart @ 12/21/2008 3:16:41 PM
Any kindergarten teacher knows that there must be rules on the playground. Any good teacher knows that the rules should be fair. The last several years in the big playground in Lower Manhattan any rules there were made by bullies and wise guys. Some of them will be getting a time out of about five years in Club Fed.
And My Direct Reply:
Posted By: Zemack @ 12/21/2008 5:43:28 PM
Under laissez-faire capitalism, the rules are fair because they are based upon objective law designed to fulfill government’s proper role of protecting individual rights equally, for everyone, at all times. This includes the right of consenting adults to contract freely and voluntarily to mutual advantage free from coercive interference by government. Government’s role is to protect those contractual rights, via vigorous prosecution of fraud, enforcement of those contracts, and mediation of contractual disputes.
Your schoolyard bully analogy perfectly describes our mixed economy, where the “rules” are always changing based upon the whims of power-wielding bureaucrats, politicians, and the politically connected special interests of the moment. Rand describes our mixed economy as “…rule by pressure groups. It is an amoral, institutionalized civil war of special interests and lobbies, all fighting to seize a momentary control of the legislative machinery, to extort some special privilege at one another’s expense by an act of government—i.e., by force.” Check out her full description of our mixed economy:
http://aynrandlexicon.com/lexicon/mixedeconomy.html
The current crisis occurred in a mixed economy (a government of men), not a laissez-faire one (a government of laws).
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