More lack of quality control at the Atlantic Monthly. Not as bad as highlighting Gregg Easterbrook's bizarre claim that the chances of a catastrophic mammoth meteor impact over the next five and a half centuries "could be" 50%, but still...
NOBODY SHOULD READ DR. MANHATTAN IN THE ATLANTIC MONTHLY AND BELIEVE HIM WHEN HE CLAIMS THAT THE FINANCIAL MARKETS DO NOT NEED MORE AND BETTER GOVERNMENT REGULATION:
Dr. Manhattan: Sentences That Don't Compute - The Atlantic Business Channel: Today's entry comes from Mark Thoma, who writes in a guest-blog at the Washington Post:
The development of the shadow banking system is important because the troubles we are seeing today are not the result of problems in the traditional, regulated sector of the financial industry. The problems began in the unregulated shadow banking system.
Which entities' failures and near-failures required TARP and other system-saving emergency programs again?
I don't want to be too hard on Prof. Thoma: his second sentence is correct, assuming the definition of "shadow banking system" encompasses Subprime Mortgage-To-Go (which offers drive-thru!). But unlike Long-Term Capital Management's meltdown in 1998, the systemic breakdowns we have been experiencing over the past 18 months have been caused by problems at the major banks (even the former investment-only banks which weren't regulated by the Fed or FDIC cannot be called part of the "shadow banking system"), AIG (regulated by the state insurance commissioners, even if they'd rather you didn't remember) and let's not forget Fannie and Freddie, which had their own regulator. (And the most acute phase of the crisis was touched off by the Reserve Primary Fund's "breaking the buck," even though money market funds are among the most stringently regulated entities on earth.) Only when the products of Subprime Mortgage-To-Go were thoroughly integrated into the activities of these heavily regulated institutions (and sometimes even acquired in full by them; just ask Wachovia and Merrill) was the stage set for the financial crisis. By contrast, though numerous hedge funds have failed, some people are beginning to look longingly at the sector as one in which even major players can fail without touching off a systemic meltdown. This isn't necessarily an argument against extending regulation to the "shadow banking sector," but we should be on guard against any tendency to assume that the job has been done when a previously unregulated activity now has a regulation applied to it. In reality, that is when the work begins.
It is hard to know whether being kept in ignorance of the world for decades as part of a secret government program has deprived Dr. Manhattan of his ability to understand the world in which we live, or whether the eldritch nuclear mishap that gave him his eight-foot stature, total lack of body hair, and blue skin tone also scrambled his brain. But i would advise all readers--and editors of the Atlantic Monthly as well--to take care: only one of the two pictured below is an economist worth listening to on the financial crisis:
Yes, it is the one on the right. Listen to University of Oregon Professor of Economics Mark Thoma. Do not listen to the weirdo on the left with his cheap imitation copy of the Fortress of Solitude on Mars, his irregular private life, and his propensity to murder long-time acquaintances and comrades to help billionaires cover up genocidal crimes.
Let's go through it slowly. The commercial banks were regulated. The government guaranteed their deposits. Savers who wanted to not have to worry about making sure that their money wasn't going to vanish and who were inertial in their behavior put their money into commercial banks. Regulators watched the leverage of commercial banks. And commercial banks--with their massive retail savings deposits--have for the most part come through this all right. In fact, the possession of lots of inertial commercial savings and checking deposits that they did not have to worry might flee provided JPMorgan (with the retail banking assets of Chase) and the bank formerly known as NationsBank (with the retail banking assets of Bank of America) with competitive advantages that allowed them to pick up the assets of Bear Stearns and Merrill Lynch at what they thought were bargain prices.
The non-commercial banks--those that did not have large retail banking deposits, did not have government guarantees, and were left less tightly regulated--have, by contrast, flamed out almost to an entity newly reincorporated as a bank holding company. Countrywide. Bear Stearns. Other hot money-financed mortgage lenders too numerous to name. Fannie Mae. Freddie Mac. Lehman. Merrill Lynch. AIG. All are now gone. Only Goldman Sachs and Morgan Stanley remain--and directors of both tell me that they really wish that they had some large retail banking businesses in their portfolio so that the entire liability side of their balance sheet was not hot money.
I think that Dr. Manhattan is just too ignorant of the world outside Area 51 to understand the point Mark Thoma was making--which is, after all, a commonplace. I hope it isn't that the high energy neutrons have permanently scrambled his brain. But given his irrational actions in the Veidt affair, you have to wonder.
UPDATE: Mark Thoma defends himself:
Sentences That Don't Compute - The Atlantic Business Channel: Nice try, but the problems did begin just where I said they did, in the shadow banking sector:
Geithner: The shadow banking system has been implicated as significantly contributing to the financial crisis of 2007–2009. In a June 2008 speech, U.S. Treasury Secretary Timothy Geithner, then President and CEO of the NY Federal Reserve Bank, placed significant blame for the freezing of credit markets on a "run" on the entities in the shadow banking system by their couterparties...
Nouriel Roubini: Because of a greater regulation of banks, most financial intermediation in the past two decades has grown within this shadow system whose members are broker-dealers, hedge funds, private equity groups, structured investment vehicles and conduits, money market funds and non-bank mortgage lenders.... A generalised run on these shadow banks started when the deleveraging after the asset bubble bust led to uncertainty about which institutions were solvent. The first stage was the collapse of the entire SIVs/conduits system once investors realised the toxicity of its investments and its very short-term funding seized up. The next step was the run on the big US broker-dealers: first Bear Stearns lost its liquidity in days. "... [these are his five steps top the crisis - step one is, drum roll please, problems in the shadow banking system]...
Bill Gross: What we are witnessing is essentially the breakdown of our modern-day banking system... My Pimco colleague Paul McCulley has labeled it the "shadow banking system" because it has lain hidden for years, untouched by regulation, yet free to magically and mystically create and then package subprime loans into a host of three-letter conduits that only Wall Street wizards could explain.
Krugman: As the shadow banking system expanded to rival or even surpass conventional banking in importance, politicians and government officials should have realized that they were re-creating the kind of financial vulnerability that made the Great Depression possible--and they should have responded by extending regulations and the financial safety net to cover these new institutions. Influential figures should have proclaimed a simple rule: anything that does what a bank does, anything that has to be rescued in crises the way banks are, should be regulated like a bank.
It goes on and on - I'm comfortable with the assertion - most analyses say the same thing, it was the shadow banking system (with only a few exceptions). So it's the title of the post and your argument that doesn't compute.
On the one hand, strange blue guy who insists that "Fannie, Freddie, Lehman, AIG" are part of the "traditional, regulated [financial] sector." On the other side, Thoma, Geithner, Roubini, Gross, Krugman, and many others. Something is very wrong here.
You can do better guys. A lot better.