Sunday, November 1, 2009

The Warning 2

Brooksley Born

Alan Greenspan was awarded a Ph.D in economics from New York University in 1977. In the forward to his dissertation he warned of a growing bubble in the housing market with soaring values placed on homes, and the influence this would have on consumer loans and spending habits. He even predicted that bubble bursting in 2004, stating, "There is no perpetual motion machine which generates an ever-rising path for the prices of homes."
He was right about that bubble bursting, but just off by three years.
He was first appointed Federal Reserve chairman by President Reagan in August 1987, he did not leave that position until he retired in January of 2006, serving under four Presidents. During the 1970s the executive branch and Congress gave up their powers of oversight over the country's economy by using the fiscal tools of allocated spending and targeted tax cuts, effectively giving those powers to the Federal Reserve, which through its power to raise and lower interest rates, has exercised more influence over economic growth and the level of employment than any other government entity. In his position as chairman, Alan Greenspan was often considered the most powerful man in the nation.
He was introduced to Ayn Rand in the 1950s and became a devotee of her and her Objectivism philosophy, part of which dictates that the proper moral purpose of one's life is the pursuit of one's own happiness or rational self-interest (she wrote an essay called “The Virtue of Selfishness”); that the only social system consistent with this morality is full respect for individual rights, embodied in pure laissez faire capitalism. She was also the mentor of the economist Milton Friedmen, who inspired "Reaganomics," and the "trickle-down," or "supply-side" economics that provided tax cuts or other benefits to businesses and rich individuals in the belief that this will indirectly benefit the broad population. These policies, along with massive increases in Cold War related defense spending caused large budget deficits, the U.S. trade deficit expansion, and contributed to the Savings and Loan crisis of the 80s and 90s. In order to cover new federal budget deficits, the United States borrowed heavily both domestically and abroad, raising the national debt from $700 billion to $3 trillion, and the United States moved from being the world's largest international creditor to the world's largest debtor nation, which is still the case today.
In 1993, President Bill Clinton reappointed Greenspan as Federal Reserve Chair, and kept him as a core member of his economic team, named "The Working Group," which also included Securities and Exchange Commission Chairman Arthur Levitt Jr, Treasury Secretary Robert E. Rubin and Deputy Secretary of the Treasury, Lawrence Summers (before he stated in a 2005 speech that women were too stupid to gain a representative number in higher levels in academia), all Wall Street legends, all opponents to varying degrees of tighter regulation of the financial system that had earned them wealth and power.
This is where Brooksley Born comes in. Greenspan, Rubin and Levitt reacted with alarm at her persistent interest in a fast-growing corner of the financial markets known as derivatives.
Unlike the commodity futures regulated by Born's agency (the Commodity Futures Trading Commission), newer entities called derivatives were not traded on an exchange, constituting "dark markets," that were under no regulatory provisions whatsoever. There were now millions of such private contracts, involving many of Wall Street's top firms.
Born wanted to shine a light into the dark, and after months of declaring the possible dangers that this enormous market posed to the financial system, she now wanted to open a formal discussion about whether to regulate them, and how to do it.
Greenspan, Rubin and Levitt were determined to derail her effort. Rubin agreed with Greenspan and Levitt that these newer contracts, often called "swaps," were not futures, thereby Born's agency did not have any legal authority to regulate them. These men believed that her call for a discussion had real-world consequences: It would cast doubt over the legality of trillions of dollars in existing contracts and create uncertainty over the market.
"Once she took a position, she would defend that position and go down fighting. That's what happened here," said Geoffrey Aronow, a senior CFTC staff member at the time. "When someone pushed her, she was inclined to stand there and push back."
Born's was the lone voice predicting a possible economic collapse due to the hidden multi-trillion dollar market in derivatives. But at that time, although there were troubling indications, the markets were booming. Everyone was making money hand over fist, the Friedman model of deregulation seemed to be winning the day. Anyone who thought or voiced an opposing view was derided, ignored, or ridiculed into complacency.
"We knew it was a big deal [to attempt regulation] but the feeling was that something needed to be done," said Michael Greenberger, Born's Director of Trading and Markets. "The industry had been fighting regulation for years, and in the meantime, you saw them accumulate a huge amount of stuff and it was already causing dislocations in the economy. The government was being kept blind to it."
Born testified at least 17 times to a openly hostile Congress (who had been swayed by the advice of top Clinton economic advisors to ignore the rantings of the CFTC chairwoman. Asked what it was she was trying to protect, by members of the House of Representatives and the Senate who most likely didn't even know what a derivative was, she answered, "The money of the American public.").
In the end, Greenspan, Rubin, Levitt, Summers, and the others in The Working Group not only won the argument, they cut off the larger debate of regulated markets. After Born was marginalized in 1999, she quit, and no one stepped up to take her place, and once the Bush administration arrived in 2001, the push was for less regulation, not more. Voluntary oversight became the favored approach, and even those were accepted grudgingly by Wall Street, if at all.
All of the pieces were in place for disaster.

To be continued.

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