http://www.nytimes.com/2009/05/17/magazi...f=magazine

Great article from Niall Ferguson:

Quote:If financial crises were distributed along a bell curve — like traffic accidents or people’s heights — really big ones wouldn’t happen very often. When the hedge fund Long-Term Capital Management lost 44 percent of its value in August 1998, its managers were flabbergasted. According to their value-at-risk models, a loss of this magnitude in a single month was so unlikely that it ought never to have happened in the entire life of the universe. Just over a decade later, many more of us now know what it’s like to lose 44 percent of our money. Even after the recent stock-market rally, that’s about how much the Standard & Poor’s 500 index is down compared with October 2007.


Financial crises will happen. In the 1340s, a sovereign-debt crisis wiped out the leading Florentine banks of Bardi, Peruzzi and Acciaiuoli. Between December 1719 and December 1720, the price of shares in John Law’s Mississippi Company fell 90 percent. Such crashes can also happen to real estate: in Japan, property prices fell by more than 60 percent during the ’90s.

For reasons to do with human psychology and the failure of most educational institutions to teach financial history, we are always more amazed when such things happen than we should be. As a result, 9 times out of 10 we overreact. The usual response is to introduce a raft of new laws and regulations designed to prevent the crisis from repeating itself. In the months ahead, the world will reverberate to the sound of stable doors being shut long after the horses have bolted, and history suggests that many of the new measures will do more harm than good. The classic example is the legislation passed during the British South-Sea Bubble to restrict the formation of joint-stock companies. The so-called Bubble Act of 1720 remained a needless handicap on the British economy for more than a century.

Human beings are as good at devising ex post facto explanations for big disasters as they are bad at anticipating those disasters. It is indeed impressive how rapidly the economists who failed to predict this crisis — or predicted the wrong crisis (a dollar crash) — have been able to produce such a satisfying story about its origins. Yes, it was all the fault of deregulation.

There are just three problems with this story. First, deregulation began quite a while ago (the Depository Institutions Deregulation and Monetary Control Act was passed in 1980). If deregulation is to blame for the recession that began in December 2007, presumably it should also get some of the credit for the intervening growth. Second, the much greater financial regulation of the 1970s failed to prevent the United States from suffering not only double-digit inflation in that decade but also a recession (between 1973 and 1975) every bit as severe and protracted as the one we’re in now. Third, the continental Europeans — who supposedly have much better-regulated financial sectors than the United States — have even worse problems in their banking sector than we do. The German government likes to wag its finger disapprovingly at the “Anglo Saxon” financial model, but last year average bank leverage was four times higher in Germany than in the United States. Schadenfreude will be in order when the German banking crisis strikes.

We need to remember that much financial innovation over the past 30 years was economically beneficial, and not just to the fat cats of Wall Street. New vehicles like hedge funds gave investors like pension funds and endowments vastly more to choose from than the time-honored choice among cash, bonds and stocks. Likewise, innovations like securitization lowered borrowing costs for most consumers. And the globalization of finance played a crucial role in raising growth rates in emerging markets, particularly in Asia, propelling hundreds of millions of people out of poverty.

The reality is that crises are more often caused by bad regulation than by deregulation. For one thing, both the international rules governing bank-capital adequacy so elaborately codified in the Basel I and Basel II accords and the national rules administered by the Securities and Exchange Commission failed miserably. It was the Basel system of weighting assets by their supposed riskiness that essentially allowed the Enronization of banks’ balance sheets, so that (for example) the ratio of Citigroup’s tangible on- and off-balance-sheet assets to its common equity reached a staggering 56 to 1 last year. The good health of Canada’s banks is due to better regulation. Simply by capping leverage at 20 to 1, the Office of the Superintendent of Financial Institutions spared Canada the need for bank bailouts.

The biggest blunder of all had nothing to do with deregulation. For some reason, the Federal Reserve convinced itself that it could focus exclusively on the prices of consumer goods instead of taking asset prices into account when setting monetary policy. In July 2004, the federal funds rate was just 1.25 percent, at a time when urban property prices were rising at an annual rate of 17 percent. Negative real interest rates at this time were arguably the single most important cause of the property bubble.

All of these were sins of commission, not omission, by Washington, and some at least were not unrelated to the very considerable political contributions and lobbying expenditures of the financial sector. Taxpayers, therefore, should beware. It is more than a little convenient for America’s political class to blame deregulation for this financial crisis and the resulting excesses of the free market. Not only does that neatly pass the buck, but it also creates a justification for . . . more regulation. The old Latin question is highly apposite here: Quis custodiet ipsos custodes? — Who regulates the regulators? Until that question is answered, calls for more regulation are symptoms of the very disease they purport to cure.

Niall Ferguson is a professor at Harvard University and the Harvard Business School and the author most recently of “The Ascent of Money: A Financial History of the World.”

Every civics/economics/history teacher should read this simple column, and require their classes to read it as well.

Oh, and here's a little blurb on regulation. An honest account that regulation hurts competition, and helps the current large players.

http://www.coyoteblog.com/coyote_blog/20...ation.html

yep, and his book is suppose to be good. I'm suprised he didn't mention the first Market economy Bubble in Holland(The Tulip Bubble). Probably in his book though.

he takes it to all the chest thumping economist too, not just the libs but those predicting a dollar collapse and have quickly moved the goal post.

a year ago they were telling us to buy Gold(it plumented), that Gas was going even higher than $4(it plummeted) and the cost of food would skyrocket by years end(it plummeted). They didn't see a Deflationary Recession but an Inflationary recession instead.

There are only really two types of Economist:

1) Those who know they don't know everything.

2) Those who don't know they don't know everything.

the truth is, there are some areas we need better Regs and some areas we need less regulations. Politics gets in the way of making the rules as beneficial as possible.

(05-18-2009 11:07 AM)GGniner Wrote:  There are only really two types of Economist:

1) Those who know they don't know everything.

2) Those who don't know they don't know everything.

the truth is, there are some areas we need better Regs and some areas we need less regulations. Politics gets in the way of making the rules as beneficial as possible.

Many times it's just the need of better enforcement. When it comes down to it, you don't need much more than the 10 commandments. But you need good judges to get those applied properly.

(05-18-2009 11:03 AM)GGniner Wrote:  he takes it to all the chest thumping economist too, not just the libs but those predicting a dollar collapse and have quickly moved the goal post.

a year ago they were telling us to buy Gold(it plumented), that Gas was going even higher than $4(it plummeted) and the cost of food would skyrocket by years end(it plummeted). They didn't see a Deflationary Recession but an Inflationary recession instead.

Yeah, those are good points. I was talking to my wife over the weekend, telling her how I see some businesses really tightening the belt (Fo's among them).

She mentioned reading an article where many economists were predicting an upturn by the end of the year.

I told her I didn't see it, and that I was tired of economists pushing their theories while ignoring empirical evidence. (Kind of a theme w/ me when you read my posts on GW and other science issues.) Not much different than those Ferguson addresses.

(05-18-2009 11:07 AM)GGniner Wrote:  There are only really two types of Economist:
1) Those who know they don't know everything.
2) Those who don't know they don't know everything.
the truth is, there are some areas we need better Regs and some areas we need less regulations. Politics gets in the way of making the rules as beneficial as possible.

I'm definitely a type (1). I'm well aware there are lots of things I don't know. One of them is how the "stimulus" could possibly work. If it does work, I will have to admit that would showcase something about economics that I don't know. Hopefully I would learn from it. As a practical matter, I just don't think it's going to happen.

I have an undergraduate degree in math and economics, a master's degree in accounting, and a doctorate in law. I'm a CPA/attorney with 30+ years of business experience. Everything I've learned from all of that tells me that we have deep-seated problems going back long before Obama--or Shrub--and that the moves being made by Obama--and those made by Shrub before him--were precisely the wrong things to do. I think the combination of Shrub's moves and Obama's moves has us headed toward 20-50 million unemployed and 20%-50% inflation, as a steady state condition lasting 10 years or more.

Only Reagan and Clinton in my adult lifetime really did much in the way of moves that I thought made sense about the economy--Reagan primarily for drastically enlarging the tax base and reducing tax rates, and Clinton for making the necessary minor tweaks to Reagan's work in order to balance the budget. And make no mistake, despite republican complaints and democrat hosannas, Clinton's moves were minor tweaks that did not materially alter what Regan did.

We need more moves toward an enlarged tax base and lower tax rates if we are to remain competitive in the global economy. Why? Because that's the direction everyone else in the world is headed, and our goods and services won't remain competitve if we don't follow suit. Obama is doing exactly the opposite, shrinking the base and raising rates.

That's what I believe, in any event. Whether I'm right or not will reveal a lot about what I do know and what I don't know about economics. I'm well aware of that, and I'm fine with it.