It is absolutely extraordinary to me that Mr Paulson — almost the richest man (by far) in the world — has not required the rating agencies to close shop. They were a key player in creating the firestorm on the way up (AAA for sale) and are compounding the problem on the way down (“WaMu collapsed as its credit rating was slashed to junk and its stock price tumbled”).
A rating downgrade also pushed Bear Stearns into the waiting arms of that ever-loving couple, JP Morgan and the US Treasury, and it is worth thinking about what path the crisis would have taken if Bear Stearns had not been driven into extinction by the rating downgrade.
Perhaps it would have collapsed anyway, perhaps not. And if not, perhaps the game of dominos that we have been seeing all over the financial sector may not have been triggered with the same intensity that now apparently threatens the very fundament of our financial system, and, in some quarters, the very concept of free enterprise.
Of course, there is no doubt that the fundament of our financial system is sick — very sick. But it is not the free market that is to blame. Rather it is the fact that the architecture of our so-called free market has been designed by inherently well-meaning but, in practice, venal men — interestingly, very few women.
And one of the most egregious elements of this architecture is the explicit government blessing provided to the rating agencies, who themselves claim they are no more than opinion providers. Regulators all the way to Basel-II determine how much capital regulated institutions need to set aside based on approved ratings, which, just to reiterate, are provided by entities who have no accountability whatsoever and who themselves say: hey, these are just our opinions; considered opinions, to be sure, and we are smart people, etc etc, but just opinions nonetheless.
So, if the regulators themselves endorse these ratings, who am I — as, say, the chairman of the investment committee of a pension fund — to quibble? If it’s AAA, let’s put some money in it. And when/if it gets rerated to AA or A or junk, let’s yank our money out. Bye-bye, WaMu.
What I am saying is that there is a deeper root to the credit crisis than the widely-accepted proximate cause: that rating agencies were suborned by greedy bankers, brokers and the like into providing AAA ratings to pieces of **** (recall the terminology during the tech bubble collapse), or what, in today’s more genteel circles, is called toxic waste. The toxic waste is, of course, imploding bank (and other institution) balance sheets, and while the US Treasury is frantically struggling to control the domino effect, it hasn’t yet thought to immediately ban credit rating agencies from opening their mouths. Instead, it has banned short selling in selected financial stocks, remarkably including Moody’s.
Thus, the government-approved oracles of disaster keep at it, undercutting all the efforts to bring the crisis to at least a standstill.
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However, I believe the failure of the bailout plan to pass in the US Congress may well be a sign that we have passed the bottom of the crisis. The politicians who voted “no” were responding to their constituents — the plain people of America, who would never have got things into the kind of mess that Mr Paulson’s friends did. So, it is good that they slapped down Mr Paulson’s plan.
Likely as not, there will be another plan, which will be saner — much smaller, for one; and not delegating huge amount of authority to the very group of people who, while extremely smart, have shown that they are, in the larger analysis, idiots.
Again, and critically, the new plan should certainly ensure that the idiots who ran these huge enterprises into the ground while making out like bandits are personally made to make reparations. This is not just about divine justice; it is necessary to put the Moral Hazard beast back in chains. To quote Peter Bernstein in The New York Times, “...if the government is going to make good so many losses, why would anyone set limits on future risk taking? The situation could turn into a free-for-all that makes the current disregard for risk look like child’s play.”
The five large investment banks that are causing a large part of the pressure on the system paid over $3 billion in bonuses to their top management over the past five years, while the sub-prime goose was being cooked. These lions of finance, many of whom are pillars of the community, and their brothers (very few sisters) at other implicated institutions, should be made, under criminal threat, to disgorge these sums (or whatever they have left, for they have doubtless taken some hit in the market) as reparations.
I know this goes against one of the fundamental underpinnings of the free enterprise system — the law protecting private property. But, hey, in today’s day and age, it’s clear that the free enterprise system has been suspended.