March 15, 2010
Thanks to the great work of Anton Valukas, as court-appointed bankruptcy examiner investigating the collapse of Lehman Brothers, people are finally beginning to realize how significant a role fraud plays on Wall Street. It turned out that the Enron scandal wasn’t the once-in-a-lifetime event people thought it was. Accounting fraud occurs on a regular basis, as does fraudulent stock price manipulation. The 2200-page report prepared by Valukas and his team at Jenner & Block has everyone talking. It’s about time.
Other lies are getting more exposure as well. President Obama justified the bank bailouts with the rationale that giving the money to the banks creates a “money multiplier” effect because banks can loan out 8-10 dollars for every bailout dollar they get, giving the economy more bang for the bailout buck. As I pointed out on September 21, Australian economist Steve Keen published a fantastic report from his website, explaining how the “money multiplier” myth, fed to Obama by the very people who helped cause the crisis, was the wrong paradigm to be starting from in attempting to save the economy. Here’s some of what Professor Keen had to say:
He justified giving the money to the lenders, rather than to the debtors, on the basis of “the multiplier effect” from bank lending:
the truth is that a dollar of capital in a bank can actually result in eight or ten dollars of loans to families and businesses, a multiplier effect that can ultimately lead to a faster pace of economic growth. (page 3 of the speech)
This argument comes straight out of the neoclassical economics textbook. Fortunately, due to the clear manner in which Obama enunciates it, the flaw in this textbook argument is vividly apparent in his speech.
This “multiplier effect” will only work if American families and businesses are willing to take on yet more debt: “a dollar of capital in a bank can actually result in eight or ten dollars of loans”.
So the only way the roughly US$1 trillion of money that the Federal Reserve has injected into the banks will result in additional spending is if American families and businesses take out another US$8-10 trillion in loans.
* * *
If the money multiplier was going to “ride to the rescue”, private debt would need to rise from its current level of US$41.5 trillion to about US$50 trillion, and this ratio would rise to about 375% — more than twice the level that ushered in the Great Depression.
This is a rescue? It’s a “hair of the dog” cure: having booze for breakfast to overcome the feelings of a hangover from last night’s binge. It is the road to debt alcoholism, not the road to teetotalism and recovery.
Fortunately, it’s a “cure” that is also highly unlikely to work, because the model of money creation that Obama’s economic advisers have sold him was shown to be empirically false over three decades ago.
Now that Australia’s economy is beginning to recover, they have already found it necessary to begin raising interest rates. As I pointed out last September:
If only Mr. Obama had stuck with his campaign promise of “no more trickle-down economics”, we wouldn’t have so many people wishing they lived in Australia.
Michael Shedlock (“Mish”) recently referred to Professor Keen’s debunking of the money multiplier myth in a fantastic essay:
However, conventional wisdom regarding the money multiplier is wrong. Australian economist Steve Keen notes that in a debt based society, expansion of credit comes first and reserves come later.
Indeed, this is easy to conceptualize: Banks lent more than they should have, and those loans are going bad at a phenomenal rate. In response, the Fed has engaged in a huge swap-o-rama party with various banks (swapping treasuries for collateral of dubious value) in addition to turning on the printing presses.
This was done so that banks would remain “well capitalized”. The reality is those excess reserves are a mirage. Banks need those reserves for credit losses coming down the pike, as unemployment rises, foreclosures mount, and credit card defaults soar.
Banks are not well capitalized, they are insolvent, unwilling and unable to lend.
Blogger George Washington recently wrote an extensive, thought-provoking piece about public banking and other potential alternatives to resolve the economic crisis, which appeared at the Naked Capitalism website. The essay began with a discussion of Steve Keen’s work in exposing the “money multiplier” as a sham.
Speaking of shams, former Labor Secretary Robert Reich recently wrote a great essay entitled, “The Sham Recovery”. Reich has exposed the propagandists touting the imaginary economic recovery in his unique, clear style:
Business cheerleaders naturally want to emphasize the positive. They assume the economy runs on optimism and that if average consumers think the economy is getting better, they’ll empty their wallets more readily and — presto! — the economy will get better. The cheerleaders fail to understand that regardless of how people feel, they won’t spend if they don’t have the money.
It’s always nice when a big lie gets exposed. It’s even better that we are now learning that the true cause of the financial crisis was plain, old sleaze.
The Lehman Fallout
March 16, 2010
Everyone is speculating about what will happen next. The shock waves resulting from the release of the report by bankruptcy examiner Anton Valukas, pinpointing the causes of the collapse of Lehman Brothers, have left the blogosphere’s commentators with plenty to discuss. Unfortunately, the mainstream media isn’t giving this story very much traction. On March 15, the Columbia Journalism Review published an essay by Ryan Chittum, decrying the lack of mainstream media attention given to the Lehman scandal. Here is some of what he said:
At the Zero Hedge website, Tyler Durden reacted to the Columbia Journalism Review piece this way:
One probable reason why the Lehman story is being buried is because its timing dovetails so well with the unveiling of Senator “Countrywide Chris” Dodd’s financial reform plan. The fact that Dodd’s plan includes the inane idea of expanding the powers of the Federal Reserve was not to be ignored by John Carney of The Business Insider website:
Just think: It was only one week ago when we were reading those fawning, sycophantic stories in The New Yorker and The Atlantic about what a great guy “Turbo” Tim Geithner is. This week brought us a great essay by Professor Randall Wray, which raised the question of whether Geithner helped Lehman hide its accounting tricks. Beyond that, Professor Wray emphasized how this scandal underscores the need for Federal Reserve transparency, which has been so ardently resisted by Ben Bernanke. (Remember the lawsuit by the late Mark Pittman of Bloomberg News?) Among the great points made by Professor Wray were these:
It remains to be seen whether anyone in the mainstream media will be hitting this story so hard. One possible reason for the lack of significant coverage may exist in this disturbing point at the conclusion of Wray’s piece:
Oh, boy! Not good! Not good at all! We’d better change the subject to March Madness, American Idol or Rielle Hunter! Anything but this!