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9/23/2008
Burri: A black hole created by other people's stupidity

When it comes to finance, I'm an average guy. I understand average things. These average things do not include the vast intricacies of the global financial market, or the slightly less vast intricacies of the recent financial near-meltdown.

The ins and outs, arguments and counter-arguments, reasons and excuses and explanations are beyond me. I wouldn't know a Gramm-Leach-Bliley Act if one bit me right in the butt, and I certainly couldn't tell one apart from a Glass-Steagall Act.

Merrill Lynch, Bear Stearns and Morgan Stanley are words I hear at the end of commercials I wasn't paying attention to. And Lehman…isn't that a furniture store?

As you can see, my understanding hovers somewhere south of actual understanding, and I doubt I'm alone. Yet, in the grand tradition of punditocracy, I endeavor to simplify and explain. If not to you, then, at least, to myself.

In earlier days of Wisconsin history, the logging business made a number of people very, very rich. According to the history books, vast swaths of Wisconsin were clear-cut: not a tree left standing, the better to maximize short-term profits.

This is obviously an unsustainable business model: sooner or later, you're gonna run out of trees, and then you're out of business. Your stock will crash, employees and investors will be out for blood, and you'll end up living in a cardboard box until some disillusioned African prince happens to hand you a billfold full of money.

If I understand it, this was the root of today's finance difficulties. Credit companies went wild when money was cheap and investments were soaring. Once the bubble popped, though, nobody had the cash to cover their losses – it was all tied up in other, equally bad investments.

I get that lots of people were losing money, but this is where my understanding unravels. Had these companies been allowed to go under, I gather, the repercussions across our economy might have been – stressing: might have been – Depression-like in their effects?

Is that the storyline?

And so, I guess, the feds really had to do something. As much as we all dislike the idea of trillion-dollar bailouts, we like the idea of eating bologna three times a day and stealing wooden fence stiles to burn for heat even less.

So. Good. The government is acting to prevent that. Oh, sure, federal agencies appear to be moving without clear lines of legal authority. That's a little troubling. Hundreds of billions of our dollars – or, more accurately, our grandchildren's dollars – are being poured into a hole created by other people's stupidity. That rankles. And it may have been government regulation and interference that created this crash-worthy environment in the first place.

Son of a…

Yet now we're looking to the government to fix it. You'll never find a government official who likes it, but you'll find very few to outright oppose it. In difficult times, government must be seen to be doing something.

In the end, I think, I'll settle on the Average Guy response. I'll yell at the refs, or maybe the coach, or a player, for screwing up, or blowing the call, or timid play-calling. I'll shake my fists, and curse, and rage, and log onto an online forum where I can preach the gospel of Changing That Rule or Firing That Bum.

And then I'll just have to hope it doesn't keep my team out of the playoffs.

Doesn't sound like much, I know, but: it's either that, or become an expert in the business of macro-finance.

And like I said, I'm just an average guy.

Lance Burri is a contributor to the Badger Blog Alliance and occasionally blogs at his own site as well.

COMMENTS

The rot started waay back when the US was taken off the gold standard; I wonder if people even know there used to BE a gold standard. Our paper "money" now is almost as bad as the "money" floating around in Germany, right before Hitler's rise to power. They used wheelbarrows of it to go to market to buy food. Hitler promised to turn the country around economically, and he did--for a while. We all know what happened next...Beware!

emily matthews (Tue Sep 23 07:10:26 2008)

Emily, you must be one of those crazy Ron Paul supporters. Just how do you propose we go back on the gold standard?

For you to compare our paper money with post-WWI Germany is flat-out ridiculous. The rate of inflation there was hundreds of percent a month. In the U.S. today, the annualized rate is 5-6%.

And your passing reference to U.S. possibly becoming a fascist, dictatorial, genocidal state is even more baseless.

Sure, the situation with the banks is bad, but your comment is not constructive whatsoever...

http://appletonian.blogspot.com

The Appletonian (Tue Sep 23 07:57:23 2008)

I suspect that Lance is being modest, that he is more informed on this subject than he lets on. Emily is indeed an intelligent and informed woman. I second her motion that legally counterfeited fiat currency is the root of this evil.

As one economist put it "Counterfeit money creates counterfeit businesses that can only be sustained by further debasing our currency." In the long run, it all falls apart. Stay tuned for more economic idiocy from our "leaders."

Ken Van Doren (Tue Sep 23 08:10:26 2008)

Emily's right, though a bit overstated. If the U.S. government had to have gold behind every dollar they would be unable to simply print more "Monopoly Money." The first shot in the next war of inflation was fired yesterday, when the price of a barrel of oil jumped about $25. I believe this was the response of speculators to the prospect of the U.S. Treasury simply printing a couple of trillion extra dollars and buying nearly worthless securities with it.

It's exceedingly difficult for people to quantify massive things: Who can imagine the size of constellations, and how many people can, through the use of limited numerical references, wrap their brains around a trillion dollars? As a lifelong student of the science of politics and government economics I'm very interested in what the impact will be of this money dump on our nation's ecomomy.

And finally, I'm very afraid of the verbage coming out of Nancy Pelosi's pie hole lately. The worst Speaker of the House in U.S. history is now using words like "equity stake" when discussing the bailout; she's making noise about wage caps and starting to rev-up the Socialism machine. It almost panics me to think that the same people who got us into this mess - the U.S. Congress - are now being put to work stirring the scalding pot again!

Duke (Tue Sep 23 08:38:55 2008)

Freddie and Fannie were doomed from the start for myriad reasons, but perhaps two of the most important were their close (very close) connection to Congress (huge political contributions), and their mission to get people into homes (particularly low to moderate income people) even if their ability to handle the mortgage was questionable at best.

Overe the years, our elected officials in Washington have garnered tens-of-millions in campaign contributions from executives at Freedie and Fannie. Executives who, after scuttling the "ship," are slinking away with millions of their own.

If this were any other private sector business, people would be going to jail!

I can think of only one thing that makes me madder, and that is our continued willingness to believe that the problem isn't my elected official, it's yours.

ray (Tue Sep 23 09:57:27 2008)

Hey, Appletonian, did you never hear the phrase "Bad money drives out good money" (out into hiding)? How else can you explain that people are now crazily buying whatever antiques they can get their hands on, and the price of gold and silver have gone up? Our paper "money" sure ain't good...

emily matthews (Tue Sep 23 10:23:07 2008)

P.S. I forgot the rest of what you said, Appletonian--Is the US not ALREADY a fascist, dictatorial, genocidal state? See how far you get with politically incorrect speech, or even with a display of a manger scene at Christmas time. Consider that a vast number of potential taxpayers (to pay for this mess) have been aborted. Watch the online film, "America: Freedom to Fascism".

emily matthews (Tue Sep 23 10:28:29 2008)

Ray said: "If this were any other private sector business, people would be going to jail!

I can think of only one thing that makes me madder, and that is our continued willingness to believe that the problem isn't my elected official, it's yours."

Ray, you're so right you made my nose bleed! If the GOP had done these things the Congress would be holding hearings 24/7. Since it was the Democrats, and more specifically, the Democrats with the help of the Clintons, it's "corporate greed" that did this to us, not federal programs that allowed and/or required banks to do some things that placed the financial wellbeing of the entire world at risk.

You're right that these people who made these stupid philosophical political choices are OUR elected officials. This year so far I've donated funds to McCain-Palin, running against..., well, you know; to Bill Russell, running against the biggest, dumbest, fattest gasbag in the Congress, Jack "Earmark" Murtha, and I'm not to the end of the contributions yet. I need to see that Jo Egelhoff doesn't run short in her attempt to prevent a liberal environmentalist from moving the State Assembly into the Democrat side of the isle.

Those of us who can must lead with our bank accounts to defeat those who would empty those bank accounts for their own political agendas. You're right - they ARE our elected officials! No matter where you live, these are the people who will join together after the election and do either the things that will benefit us, or do the things that will benefit them and their political careers.

Duke (Tue Sep 23 13:44:47 2008)

I don't understand the intricacies of many of the derivatives created on Wall Street, but I understand (and have been a participant in) such things as naked puts, call writing, and instruments related to stock options. I also understand the leveraged futures market to a degree.

I can see how a brilliant student of such things can concoct a highly complex and highly leveraged scheme based on real estate mortgages. Unfortunately, this scheme became a reality.

With stock options, you play with your own money. The economy isn't going to suffer much if a bunch of options players on the wrong side of a bet lose to a bunch of options players on the right side.

Mortgage backed derivatives, on the other hand, are highly leveraged instruments that are bought primarily with other people's money. Most people were unaware that their institutions were playing this dangerous game until a few big players started going under.

The derivatives in question should never have made it off the drawing board. They should have been banned worldwide. On top of that, mortgages should never have been granted to people with questionable credit and less than a 20% down payment. If a good portion of that money was borrowed, the deal should never have been made. Had these guidelines been adhered to, the economy would have grown at a slower pace. Real estate prices and some stock prices related to the real estate market would have risen at a steady rate and we wouldn't be on the verge of financial collapse.

I don't want to see excessive government regulation, but it's obvious that drastic changes must be made to prevent another economic meltdown in the future. We need to regulate smartly. Consumers and businesses need to be protected to the point of not being too restricted or too afraid to invest in our economy.

We're about to swallow a bitter pill. Now, let's get back to basics.

Alan D (Sat Sep 27 09:16:18 2008)

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