KPO'M

Capitalism, R.I.P.

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When push comes to shove, people flock to the government, and so it seems does the financial industry:

http://www.ft.com/cms/s/0/958f45f8-8628-11...00779fd18c.html

Not surprisingly, the financial press is supportive of this as part of the function of the government as both the borrower and lender of last resort.

http://www.ft.com/cms/s/0/cddf9e66-85ac-11...00779fd18c.html

In other news, there's now a temporary ban on short-selling:

http://www.sec.gov/news/press/2008/2008-211.htm

Of course, according to the former head of the FDIC, all this is the fault of accounting (and short sellers)

http://online.wsj.com/article/SB122178603685354943.html

In some respects, he has the right idea, but he's attacking the wrong rule. Marking assets to fair value isn't the problem. Part of the problem was that it is too easy to get these "toxic" financial assets off the balance sheet. If all these "toxic" assets were actually on the balance sheet perhaps management of these companies would have paid more attention to them. That said, accounting is there to provide information. It isn't the root cause of economic problems. Misuse of that information (by management, governments, and regulators) is a cause, but that's not the fault of the information itself.

What seems certain is that, like after the S&L crisis (also an era of loosened monetary policy and government-sponsored "shotgun" marriages of "good" assets with "bad" assets), the lasting result will be a new slew of regulations and increased power for the Federal Reserve.

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KPO'M

What the Federal Reserve has allready done is an amazing power grab. I'm starting to believe that Bernake is one of the "best" Central Planners we've seen in a long time. Not that we couldn't see it comming. Alan Greenspan, while not grabbing too much power outside of the Fed. itself, was very dictatorial in his approach. As for Paulson, given comments he's made I'm willing to believe that he actually has some common sense about the situation, but is being pressured by others/superiors.

The thing I'm most amazed at is how nobody seems to be complaining at all, at least not in the press. The past few weeks I've sat here in awe at the swiftness with which these events have happened and that everybody seems to be glad that the government is doing something.

Here's something that I would like to share. If one visits this blog (for the graphs, I haven't read the discussion yet) one can clearly see the DOW Jones Industrial Average adjusted for inflation (using the price of gold). This is interesting to me because it clearly shows the long term trends of the US economy since '29. Notice that these trends are independent of the business cycle which is on the order of a decade. These trends are longer. The interesting point is that every bear market corresponds to increased government interference and ever bull market corresponds to decreased government interference.

What scares me is that we are currently in a bear market trend and that, as usual, it corresponds to more statism. Until and when we see a stopping and reversal of the current bout of statism we'll continue to live in a bear market.

Also implied from the graph: welcome to the third Great Depression. But don't worry, it seems that bear markets are shorter than the bulls. :rolleyes:

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People aren't complaining because they lost money with the crisis, and are seeing stock prices stabilize and now rise with the increase government reaction.

Next up, money market mutual funds:

http://biz.yahoo.com/ap/080919/fund_rescue.html

Greenspan's tenure (at least the latter half) will undoubtedly be looked upon less kindly by history than it was while it was going on. While Objectivists railed him as a Robert Stadler or, at best, Peter Keating, his past association with Rand (which she never repudiated, since most of the anti-Objectivists things he did occurred after her death) will undoubtedly tar Objectivism's reputation, however unfair it may be.

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Greenspan's tenure [...] will undoubtedly tar Objectivism's reputation, however unfair it may be.

Does Objectivism need the sort of person who would make and stick to such a mistake in order to flourish and have a massive influence on the culture? I doubt it.

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It's getting rediculous, now. It seems that the country's regulators and certain businessmen can't help but trip over themselves to say, "Oops! I'm sorry! Here... let me fix that for you." Perhaps they do feel a little guilty about causing this whole mess. The only problem is that they have no idea how to fix anything!

I'm a big fan of how Warren Buffett has handled the situation. He told his companies to stay out of the mess he saw comming. And now... he's buying companies on the cheap because his are still bringing in the cash to do so. I completely agree with how he runs his companies. He runs them conservatively and reinvests the cash in other companies that provide products well into their life cycle that are run conservatively by good managers. I need some people to invest $100,000 with me so that I can turn it into an empire like Buffett's!

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In other news, there's now a temporary ban on short-selling:

The attacks on short sellers are reminiscent of president Hoover's attacks on them in the bear market leading up to the Great Depression. Short sellers seem always to be a popular target of anti-capitalists.

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No one in the MSM ever blames the true culprit. If Fannie-may and Freddie-mac hadn't distorted the mortgage market in the first place, we wouldn't be in this mess. Everyone's calling for more regulation (as if there isn't too much already) but no one's calling for less government interference.

Bah.......

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Marking assets to fair value isn't the problem. Part of the problem was that it is too easy to get these "toxic" financial assets off the balance sheet. If all these "toxic" assets were actually on the balance sheet perhaps management of these companies would have paid more attention to them. That said, accounting is there to provide information. It isn't the root cause of economic problems. Misuse of that information (by management, governments, and regulators) is a cause, but that's not the fault of the information itself.

Are you arguing that the cause was accounting fraud?

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In other news, there's now a temporary ban on short-selling:

The attacks on short sellers are reminiscent of president Hoover's attacks on them in the bear market leading up to the Great Depression. Short sellers seem always to be a popular target of anti-capitalists.

Similar to Roosevelt closing the banks?

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Greenspan's tenure [...] will undoubtedly tar Objectivism's reputation, however unfair it may be.

Does Objectivism need the sort of person who would make and stick to such a mistake in order to flourish and have a massive influence on the culture? I doubt it.

Alan Greenspan has not claimed to be an Objectivist. In interviews after his retirement he credited being influence by Ayn Rand in some specific ways, but despite Ayn Rand being at his first swearing in ceremony and evidently believing that he would make a difference on behalf of and using her ideas he did not claim that anything he did was Objectivist.

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Greenspan's tenure (at least the latter half) will undoubtedly be looked upon less kindly by history than it was while it was going on. While Objectivists railed him as a Robert Stadler or, at best, Peter Keating, his past association with Rand (which she never repudiated, since most of the anti-Objectivists things he did occurred after her death) will undoubtedly tar Objectivism's reputation, however unfair it may be.
Greenspan's entire career at the Fed will be seen, by rational eyes, as self-aggrandizing manipulation. For all his shortcomings, Paul Voelcker was the one FRS bureaucrat who -- once Bretton-Woods cut the tie to an objective standard -- best served the long-term interests of our economy, by holding fast to relatively low, constant monetary growth, and helped end Carter's double-digit stag-flation. The market survived despite Greenspan. You're right, the first part of his time there was spent tracking the currency to gold, but he was disingenuous about it and grew to like the attention he got when he behaved arbitrarily(*). And that latter would have gotten him Rand's condemnation, had she lived to see it... and to hear the phrase "irrational exuberance" used to describe the investors that he undercut, with help from the Justice Department and their anti-trust efforts.

As far as "'tarring' Objectivism's reputation", that guilt-by-association would convince no Objectivist, nor serious, intelligent, and objective student of philosophy or economics. The fact that he was once a student of Rand's wouldn't convince such a student; he'd want to check out the source. And the incompatibility of his actions and statements while at the Fed with with Rand's philosophy, even with Greenspan's own chapter on the Gold Standard in Capitalism the Unknown Ideal, would convince that student that Greenspan had lost his way and was worthy of no further consideration other than as a bad example. There are plenty of students who have broken with their teachers, for good or ill. Branden has tried to smear Rand since their break (cf. "The Dangers of Ayn Rand", Judgement Day) and it convinces only those second-handers who prefer soap opera to insight. In the other direction, for that matter, Aristotle lived to repudiate virtually everything his teacher Plato had to say and he did a good job of it.

Ayn Rand's reputation will stand on Ayn Rand's writings and no seal of approval is needed.

(*) I don't remember the exact quote, but it's in his book: When a businessman commented on his interest rate announcements, that he never had any idea what Greenspan was going to do next, Greenspan said "I certainly hope not!" He loved generating uncertainty, which is anathema to business planning and efficiency.

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In other news, there's now a temporary ban on short-selling:

The attacks on short sellers are reminiscent of president Hoover's attacks on them in the bear market leading up to the Great Depression. Short sellers seem always to be a popular target of anti-capitalists.

Similar to Roosevelt closing the banks?

Well, both actions (attacking short-sellers and closing banks) were directed against individual liberty - economic freedom and property rights in particular - so one could in that sense say they were similar.

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Marking assets to fair value isn't the problem. Part of the problem was that it is too easy to get these "toxic" financial assets off the balance sheet. If all these "toxic" assets were actually on the balance sheet perhaps management of these companies would have paid more attention to them. That said, accounting is there to provide information. It isn't the root cause of economic problems. Misuse of that information (by management, governments, and regulators) is a cause, but that's not the fault of the information itself.

Are you arguing that the cause was accounting fraud?

No. I'm just saying that the cause isn't fair value accounting. Misuse of accounting data (by regulators, investors, creditors, etc.) certainly exacerbated the effects, but it wasn't the cause. The reason there is likely to be a focus on fair value accounting is that, in our fiat-currency economy, since there is no hard asset like gold to act as a natural check on the money supply, financial regulators around the world have established capital requirements for regulated entities. The way it is intended to work is that the riskier a bank's assets and liabilities, the more capital it has to maintain. "Capital" is computed by taking a company's accounting net worth and making certain adjustments to it. Over the past 20 years or so, accounting has shifted increasingly to a "fair value" basis for the balance sheet (away from historical cost), for financial instruments in particular. As such, as fair values of financial instruments increased through most of the 1990s and 2000s, their "capital" appeared larger and larger, and banks could take more risk while maintaining compliance with regulatory capital requirements.

Fast forward to 2007 and 2008, and we're seeing rapid declines in market prices. Markets for certain assets, such as "asset-backed securities" that were used to package sub-prime mortgage loans, virtually disappeared overnight, meaning that the few trades that did take place were often at "fire sale" prices.

On top of that, new accounting rules in the US came into place last year that reinforced the notion that market prices, when available, are generally more reliable indicators of fair value than computations (such as discounted cash flow analyses) prepared by a company itself using internal models. As you might imagine, a company whose balance sheet was made up of investments in asset-backed securities issue at 100 in 2005 and 2006, and now trading in the 70s or even worse might start running into regulatory capital problems.

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Marking assets to fair value isn't the problem. Part of the problem was that it is too easy to get these "toxic" financial assets off the balance sheet. If all these "toxic" assets were actually on the balance sheet perhaps management of these companies would have paid more attention to them. That said, accounting is there to provide information. It isn't the root cause of economic problems. Misuse of that information (by management, governments, and regulators) is a cause, but that's not the fault of the information itself.

Are you arguing that the cause was accounting fraud?

No. I'm just saying that the cause isn't fair value accounting. Misuse of accounting data (by regulators, investors, creditors, etc.) certainly exacerbated the effects, but it wasn't the cause. The reason there is likely to be a focus on fair value accounting is that, in our fiat-currency economy, since there is no hard asset like gold to act as a natural check on the money supply, financial regulators around the world have established capital requirements for regulated entities. The way it is intended to work is that the riskier a bank's assets and liabilities, the more capital it has to maintain. "Capital" is computed by taking a company's accounting net worth and making certain adjustments to it. Over the past 20 years or so, accounting has shifted increasingly to a "fair value" basis for the balance sheet (away from historical cost), for financial instruments in particular. As such, as fair values of financial instruments increased through most of the 1990s and 2000s, their "capital" appeared larger and larger, and banks could take more risk while maintaining compliance with regulatory capital requirements.

Fast forward to 2007 and 2008, and we're seeing rapid declines in market prices. Markets for certain assets, such as "asset-backed securities" that were used to package sub-prime mortgage loans, virtually disappeared overnight, meaning that the few trades that did take place were often at "fire sale" prices.

On top of that, new accounting rules in the US came into place last year that reinforced the notion that market prices, when available, are generally more reliable indicators of fair value than computations (such as discounted cash flow analyses) prepared by a company itself using internal models. As you might imagine, a company whose balance sheet was made up of investments in asset-backed securities issue at 100 in 2005 and 2006, and now trading in the 70s or even worse might start running into regulatory capital problems.

Apparently "fair value accounting" is a technical term. What does it mean? How does it differ from "cost" (cost when?)?

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Apparently "fair value accounting" is a technical term. What does it mean? How does it differ from "cost" (cost when?)?

"Cost" means what you paid for it. "Fair value" means what it's worth now. Financial instruments, typically being readily convertible to cash, are usually accounted for at fair value. So if I paid $100 for something, and today it's worth $70, I'd put it on my balance sheet at $70 with the $30 difference being a loss or reduction of my net worth. If it were worth $120, I'd have a gain or increase to my net worth.

Fair value is easy to determine for an asset traded on an active market with lots of activity. The difficulty over the past two years is that the once-active markets for mortgage-backed securities (essentially interests in the expected future cash flows from a pool of loans held in a trust) has dried up. As such, something that was going for $100 in 2006 might be going for $50 today. Part of it is because the deterioration in the underlying credits of the loans means that expectations of future cash flows is lower. However, another part is often because there are few buyers in the market now, so to close a sale, sellers are forced to accept discounted prices, which pushes the market price down.

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If Fannie-may and Freddie-mac hadn't distorted the mortgage market in the first place, we wouldn't be in this mess. Everyone's calling for more regulation (as if there isn't too much already) but no one's calling for less government interference.

Is that truelly the culprit? Or was it just old fashioned irrational greed? I am not sure that the government actions was the direct cause of this crisis here. Something like that could have happened under a capitalist society, it seems to me. Cycles are to be expected and so are bubbles - no?

My cursory analysis is that cost basis accounting is the proper way to account for assets.

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My cursory analysis is that cost basis accounting is the proper way to account for assets.

Sorry - I said exactly the contrary of what I meant. Mark-to-market or fair value seems to be the proper way.

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Is that truelly the culprit? Or was it just old fashioned irrational greed? I am not sure that the government actions was the direct cause of this crisis here. Something like that could have happened under a capitalist society, it seems to me. Cycles are to be expected and so are bubbles - no?

My cursory analysis is that mark-to-market accounting is the proper way to account for assets.

Greed definitely played a big role in what happened over the past decade. The financial services industry in general does have a culture that rewards short-term performance.

Government does have a role to play in monitoring the industry, but not in the way that it has been doing for most of the 20th and 21st centuries. It seems to me the main issue is the lack of a rational monetary system. In a "hard currency" system, such as a properly-enforced gold standard, without fractional reserve banking, the money supply can't be expanded as easily as it can in a fiat currency system with a powerful central bank.

Left to their own devices, the financial services industry will always expand the money supply through innovation. Banks will always try to reduce their own capital requirements (i.e. increase leverage). Unregulated or less-regulated companies (such as investment banks, and asset managers) will create products, such as securitizations and derivatives, that further leverage the industry. There is nothing wrong with such products, and they would likely exist to some degree even if we had a rational monetary system. However, when there are strong central banks with the power to "create" money whenever they want (e.g. the Federal Reserve, the Bank of England, and the European Central Bank), these products can be created at a much lower cost. Add to it entities such as the government-sponsored entities (Fannie and Freddie), and you have a recipe for disaster.

Actually, Fannie and Freddie are major contributors to the current crisis, and true free-market capitalists have been saying this for years. The GSEs had long been backed by an "implicit" government guarantee (never publicly stated, but widely understood by the industry and Treasury officials), and thus were able to borrow funds far more cheaply than they would have had they not had that guarantee. The ostensible purpose was to subsidize home ownership. The GSEs allowed commercial banks to originate loans far more cheaply, since banks could originate loans, sell them to Fannie and Freddie, and use the funds to originate more loans. Fannie and Freddie turned around, created the concept of mortgage-backed securities, and turned loans into what appeared to be AAA-rated securities. Investment banks and commercial banks saw this, applied the concept to even riskier classes of assets (sub-prime loans, auto loans, credit card loans), and created even more "AAA-rated" securities out of risky assets. Blessed with the appearance of low risk, these assets spread throughout the industry such that even the "stable" low-risk money market funds hold these.

Had banks had all these assets on their books (chances are pretty good the bank where you make your monthly payments to doesn't actually own your loan), they likely would not have lent to the extent that they did. Congress et. al didn't mind as long as they could claim that homeownership was rising. They even encouraged the introduction of "sub-prime" products, and just a few years ago complained that rates were too high and underwriting standards were too low. It is this, of course, that they won't acknowledge. Undoubtedly, the only "winners" will be the regulatory agencies.

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Greed is defined as a desire to want. It is not a desire to want that has caused the problem it is people's irrationality. I am greedy as I desire to want a house, a car, a vacation, a well funded retirement, a productive career, a breath of air, to raise my children my chosen way, to a good marriage and in general I have a desire to have a wonderful life. Rational greed is a wonderful thing as it is the desire of obtaining those values that we deisre that drive us.

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If Fannie-may and Freddie-mac hadn't distorted the mortgage market in the first place, we wouldn't be in this mess. Everyone's calling for more regulation (as if there isn't too much already) but no one's calling for less government interference.

Is that truelly the culprit? Or was it just old fashioned irrational greed? I am not sure that the government actions was the direct cause of this crisis here. Something like that could have happened under a capitalist society, it seems to me. Cycles are to be expected and so are bubbles - no?

My cursory analysis is that cost basis accounting is the proper way to account for assets.

First, let me say that the piece of writing of Ayn Rand's that sticks out in my mind the most regarding these events is "Egalitarianism and Inflation" in P:WNI?

If you understand that essay, this crisis should become clearer. The government is absolutely the cause of this crisis. The government's ability to lend money at low interest rates severs the necessary link between interest and risk. The government doesn't lend it's own money. It borrows money based on it's ability to tax. All loans should be made from saved capital. Then loans will be made carefully. In this case, loans were not made carefully, based on the illusion the government was (and still is) creating.

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If Fannie-may and Freddie-mac hadn't distorted the mortgage market in the first place, we wouldn't be in this mess. Everyone's calling for more regulation (as if there isn't too much already) but no one's calling for less government interference.

Is that truelly the culprit? Or was it just old fashioned irrational greed? I am not sure that the government actions was the direct cause of this crisis here. Something like that could have happened under a capitalist society, it seems to me. Cycles are to be expected and so are bubbles - no?

My cursory analysis is that cost basis accounting is the proper way to account for assets.

First, let me say that the piece of writing of Ayn Rand's that sticks out in my mind the most regarding these events is "Egalitarianism and Inflation" in P:WNI?

If you understand that essay, this crisis should become clearer. The government is absolutely the cause of this crisis. The government's ability to lend money at low interest rates severs the necessary link between interest and risk. The government doesn't lend it's own money. It borrows money based on it's ability to tax. All loans should be made from saved capital. Then loans will be made carefully. In this case, loans were not made carefully, based on the illusion the government was (and still is) creating.

How could anyone in a free society other than a crook lend money that he does not have to recipients who are poor risks in a game of cascading short term "profits" until the bottom of the scheme falls out? And how could a crook do it on such a wide scale for so long if such fraud were not condoned and encouraged by the government? The kind of rules, incentives and mandates put in place by the government over years only brought out the worst kind of short term, manipulative "greed' in the worst kind of people who saw a way to exploit the system.

What is needed now is for someone who is an expert in these matters to expose in detail exactly how all this was done. Meanwhile, all we are getting is pragmatist claims that the bailout-takeover was "necessary" to avoid a collapse of the economy, perpetrated under cover of vague claims of "not enough regulation" evading what made it all possible. The result is further entrenching general acceptance of the "necessity" of more government controls, now escalating from fascism to more overt socialism in the financial industry, with evidently more to come for failing auto manufacturers, etc.

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How could anyone in a free society other than a crook lend money that he does not have to recipients who are poor risks in a game of cascading short term "profits" until the bottom of the scheme falls out? And how could a crook do it on such a wide scale for so long if such fraud were not condoned and encouraged by the government? The kind of rules, incentives and mandates put in place by the government over years only brought out the worst kind of short term, manipulative "greed' in the worst kind of people who saw a way to exploit the system.

What is needed now is for someone who is an expert in these matters to expose in detail exactly how all this was done. Meanwhile, all we are getting is pragmatist claims that the bailout-takeover was "necessary" to avoid a collapse of the economy, perpetrated under cover of vague claims of "not enough regulation" evading what made it all possible. The result is further entrenching general acceptance of the "necessity" of more government controls, now escalating from fascism to more overt socialism in the financial industry, with evidently more to come for failing auto manufacturers, etc.

Exactly.

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One other point. I don't think a political system either can create or destroy virtues or vices in individuals. This is the idea behind regulation in general, that it can control "greed" or foster "benevolence". Short-range thinking isn't created by the government. But the government can create policies where it is easier for fly-by-night crooks to obtain business and compete with honest businessmen. Basically, I don't think you can "regulate" vices out of existence.

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One other point. I don't think a political system either can create or destroy virtues or vices in individuals. This is the idea behind regulation in general, that it can control "greed" or foster "benevolence". Short-range thinking isn't created by the government. But the government can create policies where it is easier for fly-by-night crooks to obtain business and compete with honest businessmen. Basically, I don't think you can "regulate" vices out of existence.

You may not have meant it this way, but a political system certainly can destroy virtues by punishing individuals' freedom to act rationally. Witness the criminalization of the free market.

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