Saturday, August 23, 2014


No sooner do I run into (and begin reading) one book on the 2008 financial crisis than I run into another, contrasting one: How Markets Fail by a New Yorker writer named John Cassidy.

As a reporter of facts Cassidy is streets and streets ahead of Matt Taibbi . . . Wall Street seems to be his beat (he also wrote a book on the prior Wall Street fiasco, the tech bubble) and he actually understands a bit of what lies behind the alphabet soup of financial offerings (RMBS, CDOs, etc.).

He also understands a lot of the economic theory and mathematical work behind the new Wall Street. To Taibbi it's easier just to write it all off as fraud, but to anyone who knows anything about the recent history of risk analysis, the 2008 debacle is a fascinating mixture of error, fraud, greed, negligence, mystifcation, arrogance and incompetence.

But untangling all these strands doesn't make for quick and easy propaganda, and elicits more mixed emotions than Taibbi's righteous anger.

Cassidy does a very good job of both explaining each strand, and giving us a good sense of the motley fabric they made when woven together.

I've read a number of books about Wall Street and its changing culture: from the establishment, WASPy, "white shoe" firms to the emergence of the Jewish up-and-comers, to the macho "big swinging dicks" who emerged in the 1980s, to the rise of the quants in the 1990s. One thing that struck me is reading Cassidy's book is the fundamental vulnerability Wall Street firms suffer from as remnants of several of these cultures fail to come together. Wall Street these days is built upon the foundation of mathematical analysis, but is run by people with big dicks--which is why Wall Street has suddenly taken such an avid interest in politics--those swinging dicks don't have much when it comes to finding new bits of margin to work, but they can create new ones by initiating government actions that work to their advantage.

The irony of our situation today is that government, far from being irrelevant to economics, has become one the last means of manipulating the outside world to gain particular advantage. (Though I condemn this sort of manipulation, I don't think the solution is to get rid of the government. With a mediocre system of oversight and a lot more transparency & openness, this would be a minor problem.)

A curious sidelight to Taibbi's take on the Wall Street disaster . . .

For Taibbi, the big thing about the financial crisis is that it provides an opportunity to stoke the rage of the lower orders. His expression of sympathy for the Tea Party is based first on the fact that they are dissatisfied enough to utter the word "revolution," but also on the fact that they are a force for instability, which he hopes some sort of revolution from the left could take advantage of. "The worse things get, the better" for revolutionaries.

And, at first, it seemed he might have it all his way--no one could explain how the financial crisis could have happened, no one could explain the financial instruments involved. But this was mainly because the American press corps is almost incredibly stupid. When you laugh at the malapropisms on Tea Party placards, or the fact that Americans can't do math, or the fact that they can't find a foreign country on a map. you should realize that journalists come from these people, and in terms of native intelligence they by no means leave them in the dust. As someone who has worked directly with folks from a journalism school which was, by a long stretch, the worst at the university (the warehouse for not-bright athletes and not-bright wanna-be athletes), and as someone who covered a fairly specialized beat for a while (science) I can tell you: I'd much much rather teach a scientist how to get a story and write than teach a journalist how to think critically about a science story. The first is possible. The second, generally, is not. Whenever they are told an issue is too complicated to allow for a snap judgment, they are certain you are covering something up. Complexity simply does not exist for the well-trained doltish journalist. Complexity is the new opiate of the masses as far as they are concerned.

Taibbi isn't dumb, but the fact that most journalists are was very convenient for someone who would have liked to boil down the financial crisis to mere criminality. Bad things happened, and those people were there, those people are bad, let's get 'em.

But trying to string together Taibbi's story--what motivated these evil people to crash their own money making machine? Certainly not robbing the poor. Given the choice what greedy robber robs the poor? You rob the rich when you can, because as Willie Sutton said about banks, "that's where the money is."

But Taibbi's half-story wasn't the only one out there. Adam Davidson of Planet Money had a story which hung together a bit better as to how the financial debacle happened:

Over the course of the 1990s and early 2000s the amount of capital in the world went up a great deal--more than doubled. A lot of this money was sovereign capital, pension funds and other really big individual pools of cash. A lot of the directors of what to do with those big pools of cash were under instructions both to get some interest for it and to keep it almost absolutely safe. The usual recourse for these folks was the US Treasury Bill. But after 9/11 the US central bank had been keeping interest rates quite low and T-Bill rates were pathetically low. This combination of circumstances: lots more capital and the low rates offered by the traditional obvious resort made for a huge demand for alternative AAA-rated investments. This huge demand meant that Wall Street stood to make loads of money placing this excess capital. But they needed places to put it. There were plenty of options for that portion of the money that could go toward riskier investments, but not so for the money that had to go to AAA-rated investments.

Thus the intense pressure bankers put on the ratings companies to rate the top tranche of CMOs AAA. While this was perhaps justified when there were loads of low-risk mortgages in the pool, it certainly wasn't when they were all subprime--all high-risk. There was a great deal of money to be made in offering a more AAA-grade investments, the bankers and the ratings companies would benefit from the fees of these transactions.

And once the bankers had achieved the acquiescence of the ratings companies, they basically had there hands on a AAA-making machine. They just needed mortgages to serve as the basis of the bonds, and once reasonable legitimate mortgages weren't enough, the pressure came down to get anyone they could into a mortgage. They just needed a counterparty.

Brokering crap mortgages would not have been a big business unless there was somewhere for the originator to dump them and get out from under the risk. Wall Street was providing that dumping ground and were screaming for more crap mortgages to put into it, because they were selling them on and making plenty of money doing so.

The crucial motivating factor in this whole equation is the opportunity to profitably absorb that capital glut. The lack of anything like ethics all up and down the process--from the pure borrow, buy and flip artists who were just riding the real-estate price bubble, to the brokers seeking warm bodies to put at the other end of Shylockian mortgages, to the originating banks, to the Wall Street bond builders to the ratings companies to the supposed masters of that glut of capital--there's very little to see here that makes one feel good about being human.

Eventually, the firms that had moved those AAA tranches easily found it hard to sell some of the riskier ones, where demand wasn't as strong, particularly toward the end of the real-estate bubble. So they held on to them--warehoused them in hopes they could eventually move them to less risk-averse investors.

Unfortunately for them, that day never came: real estate prices began to decline, default rates turned those lower tranches into worthless holdings, and heavily leveraged firms were suddenly in a world of financial hurt. Hence Lehman and all the dominoes that fell afterwards. So even *some* of the banks ended up believing their own bullshit to far too great an extent. Not, however, Goldman Sachs.

Not that there wasn't criminality here. There was. But this is a richer explanation, both in terms of a variety of factors coming together--capital glut, greed, criminality, highly leveraged companies, naive or complicit borrowers, etc.--and in the range of behaviors it explains fairly well.

Taibbi says he makes a villain of Goldman Sachs because villains bring readers, but he also does it because his story won't hang together without some villainous figure who more or less crashes the ship of state out of pure malice. The alternative provided by Adam Davidson doesn't require the cartoon character: all you need is the normal run of human failure and vice.

But Davidson would not go unanswered. A couple of Taibbi's associates, Yasha Levine and Mark Ames, with whom Taibbi had wrote and edited The eXile in Moscow, took Davidson to task for some ethical conflicts, some of which were not really his. That Planet Money had a single underwriter in the financial industry (Ally) is a matter for NPR, not Davidson personally. The underwriting is through NPR, not through Davidson or the production company. It's an issue, but it's not an issue with Davidson.

Davidson's on-air "mugging" of Elizabeth Warren sounds very much like a rising star getting a bit too in love with his own press clippings. And it does sound as if he's getting a bit too close to his Wall Street sources, absorbing not just their information, but their sensibilities as well. But that was about a year of press clippings after he introduced the theory I sketch out above.

Credit to them, Levine and Ames don't make any bones about why they dislike Davidson:
Although Davidson's segment was praised for making the murky world of finance easier to understand, his framing of the subprime housing debacle served another purpose: It let Wall Street off the hook for its role in rampant criminal mortgage fraud and predatory lending.
"This was a crisis that was caused by willing participation of every single person. Nobody was coerced," said Davidson's co-producer and partner in Planet Money, Alex Blumberg. "And there was fraud. But that was not what caused the crisis. What caused the crisis was something bigger and more systemic that required the involvement of everybody at every step."
This evasion-by-exaggerating-the-complexity strategy is one that Davidson and Planet Money have deployed often to whitewash and deflect the role of criminality in the housing crisis. . . . Davidson provided a narrative frame that comforted the American Establishment at a time when it badly needed comforting, and was duly rewarded for his services [with a Peabody, among other things].
I'm not at all sure I'd have used Blumberg's phraseology to describe the crisis, but he did so in an interview with the Chicago Tribune not on the show. Having listened to much of the actual series at this time, I don't think that attitude is very important to their narrative. Far more important were the tales of out-and-out fraud and hearing from some of the victims, for instance, an African-American family who were robbed of the home they had nearly paid off by a predatory second-mortgage vendor. I think what Blumberg is getting at with the Tribune is that bubbles, by their nature require broad participation--everyone in the housing market has to assent to the huge spike in housing prices. A LOT of people participate in and condone the fraud in one way or another. But there is no lack for folks in the series who went well beyond assent and condoning--they ripped people off, they victimized people and spent the money on five-figure nights out with "B-list celebrities." And of course there were those a bit higher up who enables, and even commanded those men. We hear from them as well.

But the trouble that Taibbi, Levine and Ames have with Davidson's story is not whether it is true, it is whether it is useful. And for some reason ANY complication to the story vampire squid of Wall Street is to be extirpated.