To: Michael Gooch
From: Ray Carey
Re: “Next Bubble”
Dear Mr. Gooch:
At the end of your editorial in the February 13, 2009 Two River Times you express doubt that we have learned from this unnecessary economic disaster and warn: “Look out for the next bubble.” There is no reason for another bubble. This time citizens are mad enough to demand that their government prevent asset inflation in stocks and real estate that cause the bubbles. People will learn that the government fights price inflation aggressively but even denies that it has the tools to fight asset inflation. That argument, used by former Chairman of the Fed Greenspan with Congress, is nonsense. Tools include money supply, interest rates, margin requirements, bank reserve requirements, various taxes, and extension of bank regulation to all sources of credit.
The reason that government fights price inflation aggressively but not asset inflation is simple: They are responding to lobbying by Wall Street that loses money on price inflation and most make money on asset inflation. This present economic disaster has followed the same pattern of all other recessions: the rich get richer in the up direction and then the poor get poorer in the down.
In your article you talk of the “investing and speculating public.” Let’s talk, instead, about the wage earners who have lost $ 2 trillion of their retirement savings with more losses to come. They had no control of this money. Wall Street managers invested it at an annual cost ten times index funds. Considering that this money is needed for people to live on in retirement the investment strategy in the original pension law was very conservative. Wall Street, however, persistently and successfully lobbied Congress to open up high-risk “opportunities” in hedge funds and derivatives that eventually decimated the pension savings.
You commented: “the public wants to hold the bank CEOs to blame.” Why not? In the decades that they were pumping up their compensation to the tens of millions didn’t any CEO, Board Director, or other executives ask these questions?
- If the mortgage broker can make a $10,000 commission for getting a signature on a mortgage and nothing if it is not executed what do you think this will do to the quality of the loans? Should mortgage brokers be on salary with a long-term performance bonus?
- What is the effect of refinancing on the default rate of mortgages in the risk model? How much would a more normal default rate reduce the price of the mortgage-backed-securities?
- If bankers make more bonus money if they price the mortgage-backed securities higher what does this do to the quality of the loans? Shouldn’t performance bonuses extend over a period of years?
- If the financial incentives at every stage push the price up and the quality of the loan down won’t mark-to-market pricing create a free fall when they have to be sold?
- Isn’t using rising values in stocks and real estate to collateralize more debt like putting gas on a fire?
- Shouldn’t we lobby government to prevent asset inflation and recessions?
Bubbles will be prevented if democratic pressure can neutralize the lobby power of Wall Street. This goal has been examined in a paper by an economist on the staff of the BIS (Bank for International Settlement) in Switzerland, and another by a former vice president of a Federal Reserve Bank. Their conclusion is that there is no reason for the “next bubble” with the resulting loss of jobs, homes, and hope. Let me know if you want copies, perhaps you will be convinced and share this optimism with your friends on Wall Street.
Feb 16, 2009
Carey Center for Democratic Capitalism