« The countercyclical asset, a continuing series, revisited | Main | The Snowball »
My views on the crisis -- a summary statement
A few inattentive malcontents are complaining that I haven't stated my views. I have, but if you want them, or some of them, in one neat place, devoid of subtlety or explanation, here they are:
1. Glass-Steagall repeal was not a major cause of the financial crisis, nor was government-induced "minority lending."
2. We should use regulation to move more of the currently unregulated derivatives markets to the clearinghouse model.
3. The crisis represents a massive conjunction of both market and governmental failure.
4. I would not nationalize banks as ongoing concerns, at least not short of a far more extreme emergency than the current status quo.
5. The modified Paulson plan was better than nothing -- especially after the market had been scared -- but far from my first choice. In any case the plan would have been revised almost immediately. The Paulson and Dodd plans were never that far apart.
6. My first choice is to induce and if need be to force more information revelation, identify the insolvent banks, close them up, and give the battle-tested FDIC a much greater role in the whole process.
7. In the meantime the Fed should not worry much about inflation.
8. The critical deregulatory mistake was allowing excess leverage. Many deregulations get blamed but in fact contributed little to the problem.
9. Everyone says that letting Lehman die was a big mistake but I'm not yet convinced. Maybe a bracingly high TED spread is what we need.
10. Libertarians are overrating the moral hazard argument, as many equity holders have been wiped out.
11. If someone is pushing conclusions and not identifying the potential weak points in his or her arguments, be suspicious. Also beware of anyone pretending to offer you simple answers.
12. I have a long and complicated view on the relevance of Austrian Business Cycle Theory which resists easy summation, but markets could have and should have been more cautious in response to Greenspan's easy money policies.
13. Insolvent hedge funds and the commercial paper market remain outstanding issues which are not easy to address.
14. I agree with Arnold Kling about relaxing capital requirements though at this point I don't expect it to help much.
15. The crisis is complex and has many causes; there won't be a simple or quick solution.
If you wish you can google to the details. Also, I don't believe I had offered #9 before on this blog.
Posted by Tyler Cowen on October 1, 2008 at 07:21 AM in Economics | Permalink
Comments
Point #8 is particularly important: by allowing 30:1 leverage ratios, combined with the moral hazard of an implied "rescue", we were creating incentives for investing in risky financial instruments.
Posted by: Bradley at Oct 1, 2008 7:59:35 AM
FYI, my views are very similar to those of Tyler.
Posted by: Alex Tabarrok at Oct 1, 2008 8:02:57 AM
I'm glad you finally offered point number 9; TED spreads are fine this wide. But it seems to contrast your government-as-clearinghouse model.
Posted by: mpkomara at Oct 1, 2008 8:13:28 AM
Your list is long and your conclusions on the critical issues are still tentative and/or vague. For someone that has written so many posts about the crisis it should be depressing to write such a list. You and all pundits should read the column written yesterday by T. Sowell. In particular, I like this line: "Most people do not understand most things. But that is no reason to have national policy guided by their ignorance."
Posted by: E. Barandiaran at Oct 1, 2008 8:14:14 AM
The reason people are calling you out is because you've been slippery as an eel and late to the party. Remember when subprime was just a minor 250 billion issue which could be dealt with by being straight and recognizing some losses? It's helpful for you to post this. I'd make just a couple of quick points.
As for 3, 8 and 10, you are wrong on market failure, leverage regulation and moral hazard. These are closely linked. Banks (broadly defined) were able to become massively over-leveraged because their counterparties (not just shareholders) all assumed the government would stand behind as ultimate counterparty and also that the government would back the insurance on defaults. Otherwise, you'd never do business with someone with 30-40x leverage.
As for 1, and your post yesterday, it may be that minority borrowers don't default disproportionately, holding other factors constant, but its very true that in order to make lending widely available to them you needed to massively increase availability exotic (ie risky) loans and to lower standards and to make those products non-discriminatory (ie available to everyone). That's what happened and Congress and the Fed pushed it through policy and easy money.
As for 9, I am thrilled that Lehman was allowed to fail. Only thing the Government has done right in months.
As for 12, of course you do. If you came out and said it had any validity, you might lose your precious peer (and NYT) credibility. Much better to stick with the conventional wisdom that Greenspan's Fed was just a little too loose and people should have been more cautious, but was just one factor in a complex set of issues. Just because the dirty old man has dumped white lightning in the punch doesn't mean you should keep drinking. Of course, I am reminded about David Spade's joke about grain alcohol and co-eds: "you gotta be real careful with this stuff; give her this much and she'll do anything you want; give her THIS much and she'll die!"
Posted by: JJRG at Oct 1, 2008 8:18:46 AM
8. The critical deregulatory mistake was allowing excess leverage.
That's it in a nutshell. (And includes low down/no down/no doc mortgages.)
Posted by: at Oct 1, 2008 8:19:31 AM
The reason people are calling you out is because you've been slippery as an eel and late to the party.
Especially since Tyler was elected President to lead us out of this mess. And don't forget he runs Treasury, the Fed and is the majority leader in Congress.
You are overwrought. Consult his Dining Guide, then get a good meal and then, most importantly, some much needed rest.
THEN you can go back to yelling at your TV.
Posted by: at Oct 1, 2008 8:25:05 AM
If interest rates were set by the market then they would of never gotten so low, and how could of any of this gotten started? I think it's irrelevant to say that market should of been more cautious. In a free market with no possibility of bailouts, the same greed that brought these people down is what would of led them to be more cautious.
Posted by: Neal W. at Oct 1, 2008 8:31:53 AM
In his every ending search for acceptance by the liberal establishment, I predict within three years Tyler will accept a position in the Obama administration and shutdown MR.
Posted by: lewis at Oct 1, 2008 8:35:00 AM
"the commercial paper market remain outstanding issues which are not easy to address."
Seems the comercial paper market is not so bad off
http://www.bloomberg.com/apps/news?pid=20601109&sid=aAHCiRX_cqUo&refer=news
Posted by: eccdogg at Oct 1, 2008 8:41:23 AM
JJRG certainly brings to mind that old WB Yeats soundbite "The best lack all
conviction, the worst are full of passionate intensity."
Posted by: PCLE at Oct 1, 2008 8:43:58 AM
E. Barandiaran: you and JJRG should get together for a meal and some rest. Then you can get together and yell at the TV and at your least favorite "pundits" about how ignorant they are.
We just need you and a few other philosopher kings to set us straight. Sheesh.
I am grateful that Tyler has shared his thinking publicly on this blog. Being a not-so-bright-bulb myself, his postings have helped me understand this situation.
And notice that you, JJRG, and I, are all comnmenting on his blog - not on your blogs or my blog.
Posted by: at Oct 1, 2008 8:45:16 AM
I don't doubt that if TC were setting policy we'd be better off now than we are. And, I enjoy about 75% of TC's dining recommendations - thanks! But, I don't think that changes the validity of my points. I think TC has missed something important about moral hazard and how that interplays with the leverage issue, that so many of you keep raising. I also think he's missed a big part of the story on minority lending - see above.
Posted by: JJRG at Oct 1, 2008 8:51:09 AM
To the person that wrote the comment at 8:45:16 AM,
For the past two weeks, I (an Argentinian, living in Spain, and now traveling in Chile) have written several comments asking Tyler and Arnold Kling to pay attention to experts that have really worked on solving financial crises (fyi, I'm now retired but I worked 45 years in solving fiscal and financial crises).
Posted by: E. Barandiaran at Oct 1, 2008 8:59:13 AM
Letting Lehman die keeps the moral hazard aspect of the problem in play, if only partially. It increases the uncertainty around the moral hazard aspects of the problem. It means an individual banker can not be sure this his bank will not be the one that is too big to fail.
Posted by: spencer at Oct 1, 2008 9:01:19 AM
I'll echo JJRG here and say that as someone who had taken MR out of his feed reader because of the excessive number of "Tyler Koans", I find it ironic that his post "devoid of subtlety or explanation" is his longest original-word-count article in several days.
Posted by: Sandy at Oct 1, 2008 9:09:43 AM
I don't understand how you can speak of Austrian economics and simultaneously state that "markets should have been more cautious." Markets can't be cautious, they are aggregates. The individuals that create the markets have no incentive to be cautious.
Posted by: TO at Oct 1, 2008 9:13:24 AM
It's bizarre -- truly bizarre -- that one of you would call me "slippery as an eel." I've probably gone on record with more economic opinions than all but a few economists in the history of the world, ever. And I have dozens of posts on the crisis, each usually with an opinion, albeit sometimes a complex opinion. What I very often don't do is serve up "emotional red meat" or play "blame game" or inflame passions rather than try to calm them.
Posted by: Tyler Cowen at Oct 1, 2008 9:33:08 AM
Thanks for the summary. Lots of good points, IMO, especially those stressing the complexity of the problem. I'm suspicious of the virtue of a "bracingly high" TED spread. Do we really want a system where a three-month loan to a bank is that risky?
Posted by: Bernard Yomtov at Oct 1, 2008 9:33:54 AM
4. I would not nationalize banks as ongoing concerns, at least not short of a far more extreme emergency than the current status quo.
Are you simply trying to avoid a sweeping statement here, or can you think of specific circumstances in which nationalizing banks as ongoing concerns would be a good idea? Or for example, have other governments nationalized industries/companies in history, and you thought it was a good idea under those particular circumstances?
Posted by: Bob Murphy at Oct 1, 2008 9:35:11 AM
So, a masochist walks into a bar and says "beat me." The sadist answers "no."
Lame and Brothers: This is an example of the schizophrenic government policy (with apologies to schizophrenics).
Even though there is plenty of pain (this libertarian doesn't hype the moral hazard argument) and panic abounds, the government chose poor Lehman to make an example of, but what they got was the problems that they wanted to avoid. So, they successfully inflicted pain, caused moral hazard, and didn't fix anything. When you can't tell if someone's actions are purely sadistic, that's a problem, even if you are a masochist.
Posted by: Andrew at Oct 1, 2008 9:36:46 AM
Tyler,
Some people aren't used to non-definitive opinions from "leaders."
So, to what extent is the problem the regulators slamming the door on the leverage problem now, of all times, and the market doing it of its own volition?
I also wonder to what extent current de-leveraging is fear versus greed. If it's fear, and companies are afraid of their own solvency, that's one thing. If, however, companies are waiting for competitors to go on sale, perhaps that implies other solutions.
Also,
"Tyler will accept a position in the Obama administration and shutdown MR."
Some people apparently manage to think this would be a bad thing. I have a name for those kind of people. It's the same name I use for people, lovingly, who didn't recognize that Ron Paul was THE libertarian movement this year. I'll call it a lack of perspective.
Posted by: Andrew at Oct 1, 2008 9:46:25 AM
A few points related to (8):
- Before being allowed by regulators, excess leverage was allowed by bondholders and shareholders. Why?
- You can always blame excess leverage when there is a default. This does not mean that a leverage restriction
would help. Banks can circumvent the problem by moving risks outside their balance sheet or increasing
the risk intensity of their balance sheet.
- Optimal leverage depends on balance sheet riskyness - > on the business model of the bank. How should
regulators define maximal leverage?
- Risk-weighed capital requirements have their weakness but they are better than any leverage restriction.
The problem is that they are pro-cyclical and underestimate some types of risks.
- If the banks' risk managers are not able to assess the risks of their bank, is it not too
demanding to ask regulators to be better at it?
Posted by: vic at Oct 1, 2008 9:49:44 AM
"15. The crisis is complex and has many causes; there won't be a simple or quick solution."
This isn't a "crisis". It is complex because there are millions of people with millions of situations and therefore millions of methods by which to move forward. There is "simply" no need for government involvement. Let the market resolve the situation and the "economy" will be exactly where it should be very quickly.
You're thinking maybe that I'm ignoring the potential pain? I am, because it is a logical consequence and therefore deserved. The lesson is, don't take advice from fools, be they financial advisors or government officials.
Posted by: Randy at Oct 1, 2008 9:50:20 AM
My understanding is that Sweden nationalized park of it's banking industry when they suffered a similar problem. A few Europea counries are now doing the same in response to the current crisis. Brad DeLong has advocated Bank nationalization too on his weblog.
Posted by: DRR at Oct 1, 2008 9:50:30 AM
