LTCM Revisited
Tyler Cowen says maybe the “Committee to Save the World” deserves a share of the blame for our current predicament:
Because Long-Term Capital owed large sums to banks and other financial institutions, the Federal Reserve Bank of New York organized a consortium of companies to buy it out and cover the debts. Alan Greenspan, then the Fed chairman, eased monetary policy to restart capital markets, which were starting to freeze up. Long-Term Capital’s shareholders were wiped out, but none of the creditors took losses.
At the time, it may have seemed that regulators did the right thing. The bailout did not require upfront money from the government, and the world avoided an even bigger financial crisis. Today, however, that ad hoc intervention by the government no longer looks so wise. With the Long-Term Capital bailout as a precedent, creditors came to believe that their loans to unsound financial institutions would be made good by the Fed — as long as the collapse of those institutions would threaten the global credit system. Bolstered by this sense of security, bad loans mushroomed. [...]
The Long-Term Capital episode looks small when viewed against all of that. But it was important precisely because the fund was not a major firm. At the time of its near demise, it was not even a major money center bank, but a hedge fund with about 200 employees. Such funds hadn’t previously been brought under regulatory protection this way. After the episode, financial markets knew that even relatively obscure institutions — through government intervention — might be able to pay back bad loans.
I might put this differently. When LTCM was on the verge of collapse, it seemed to regulators that allowing it to collapse would have unacceptable consequences for the world economy. Therefore, they had to leap into action to prevent it from defaulting on its debts. At the time I think everyone was clear on the idea that if institutions such as LTCM were “too big to fail” that they had to be brought into a regulatory umbrella. But as soon as it was clear that disaster had been averted, a lot of people became complacent about operationalizing this determination to expand the scope of regulation and some of the key participants — especially Alan Greenspan — in the bailout only redoubled their opposition to regulation.
But if you are going to take a libertarian line on financial regulation then the only reasonable option is to follow Cowen and take an anti-intervention line on bailouts. The combination of lax oversight and implicit federal guarantees has been disastrous.
45 Responses to “LTCM Revisited”
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December 27th, 2008 at 1:20 pm
To be fair to Greenspan, I think it wasn’t as much libertarian ideology as having lived through the economically traumatising 70’s, choke-full of government regulation (although that is hardly the major cause of the economic trauma). He is probably just instinctively and reflexively oppose any sort of policy that reminds him of the lost decades.
December 27th, 2008 at 1:59 pm
Probably everyone knows this but the two in the back of the Time’s cover are Larry Summers and Robert Rubin who sit on Obama’s economic advisory board and were also in Clinton’s administration. Rubin, by the way, is director of Citigroup – one of the bailed out banks. If one was outraged at Halliburton getting contracts from the government, then I do not see how Rubin’s situation cannot provoke similar sentiments. Or do some conflict of interest stink less than others?
This is to say that to blame the current mess – and the way it is dealt with – only on Republicans is not correct. Obama got a lot of funds from Wall Street through Charles Schumer (see here:
http://tinyurl.com/7bp4yg
). And these presumably were not blank checks.
Now I am confident/hopeful that Obama will navigate with decency (i.e. not bending more than needed to Wall Street) this situation. And yes Republicans are not paradigms of morality either. But please let’s not think that the democrats are good because they care to Main Street while republicans are bad because they are captured by the financial community. Things are a bit more complex.
And since soon we will have a democratic administration, sharp minds such as Matt’s one should apply the same rigor to the analysis of Obama’s policies as they applied to the ones of Bush.
December 27th, 2008 at 2:20 pm
i do not understand the fascination with what tyler cowen types. the idea, for example, that had LTCM gone under, we would have avoided the current mess has exactly zero empirical support of any frickin’ kind. amazingly enough, year in and year out, hedge funds have failed and been allowed to fail, so there was plenty of indication that the government had not simply taken on the obligation to bail out relatively obscure institutions (putting aside that there were certain markets in which LTCM wasn’t obscure, which is why the bailout took place in the first place).
but enough about my annoyance with the simplicities of cowen’s words; let’s turn instead to what i think is an important comment by stephen myles st. george: a lot of people (and cowen, btw, is among them) have an enormous confusion between government “planning” and government “regulation.” that’s their simple-mindedness, but that doesn’t mean, as stephen suggests, that it wasn’t a powerful force.
December 27th, 2008 at 2:40 pm
Stephen Myles St. George is obviously too young to remember the 70s and too stupid to read anything about them. Otherwise he might have noticed that the mania for deregulation had nothing to do with a real “over-regulation” and everything to do with allowing greedy fuckers to privatize the gains and socialize the losses. That this is remarkably similar to Reagan’s idea of budgeting (lower taxes on those who can afford to pay them, raise them on those who can less afford it) is not a coincidence.
That this all came to a disastrous head under the ideological son of Reagan – George W. Bush is hardly a coincidence. Con artists like Stephen Myles St. George’s script writers had been successfully selling the snake oil of a great Reagan Presidency for a long time and people bought it. The fact that he didn’t even qualify as a mediocre President didn’t stop the Reagan Legacy project and so we had the ultimate conclusion – the Bush Presidency with full Republican control of all of the levers of power.
The Reaganesque borrow and spend policies are the model for the LTCM bailout and set the stage for the newest massive raid on the treasury. A decent regulatory scheme would make “too big to fail” synonymous with “too big to exist” and would let the market take care of failure. But Reagan & Bush have made it clear – consequences for the wealthy is just not the Republican way.
December 27th, 2008 at 3:09 pm
But as soon as it was clear that disaster had been averted, a lot of people became complacent about operationalizing this determination to expand the scope of regulation and some of the key participants — especially Alan Greenspan — in the bailout only redoubled their opposition to regulation.
I don’t think that it was complacency in fading memories of the crisis that caused people to redouble their opposition to regulation, but rather the fact that the LTCM fix succeeded that seemed to firm up people’s belief in “self regulation” that led people astray. Keep in mind that what the fed did was get all of LTCMs creditors around a table and convinced them to take over LTCM and let it liquidate in an orderly fashion. This fooled people into believing that the future to averting disaster was to keep a legal hands-off approach and expect everyone to “self regulate”, perhaps with the guidance of the fed coordinating the players when necessary. This created a false sense of security and gave an example that everyone could point to that demonstrated supposedly how regulation was not required.
December 27th, 2008 at 3:12 pm
Stephen Myles St. George is obviously too young to remember the 70s and too stupid to read anything about them
I was not personally present during the 70’s, but I think denying some fundamental economic, social, and moral decay throughout the 60’s and 70’s is like denying the Republicans have in times been anti-government. Stagflation. Inflation. The shocking five-year long sideways slump of the Dow index in the early 70’s. Dying Midwestern towns. Unsafe streets. Urban riots. Hippies. The imagery is so visceral it is impossible to deny it.
The government policies of the time reflect this. The extreme, radical-left Democrats of 1968. McGovern and McGovernism. The last, desperate gasps of Keynesism as a peacetime, normal economic philosophy as opposed to an emergency one. Those were reflected even in Nixon’s administration, where he extended social welfare despite considering them basically useless. The whole political tone of the time was one of hopeless malaise.
Remember Ronald Reagan and his welfare queen driving around in a Cadillac? That was the symbol of that reprehensible era. And to claim that government policies did not at all reflect this overwhelming insanity is, to say the least, audacious.
I remember reading about one particular incident, where middle-class New Yorkers were complaining about it being utterly unsafe to walk in Central Park of that era, and the liberal-patrician response from the old-money chairman of the parks commission being that they didn’t sufficiently appreciate the “diversity”.
That is how sick and hemorrhaged America was, economically and socially, in that era. Trying to deny that truth will not help your cause.
December 27th, 2008 at 3:16 pm
Nice cover photo! . . . But this time was way different since “nobody could have known this would happen.” You would have had to be really smart to have even imagined that 30 to 1 leverage and BBB garbage rated AAA could have led to this. . .
Plus, if this really did ever happen, can you imagine the punishment that would be levied against the Financial community and Rating agencies? Fear of such punishment (and the wisdom of markets) will keep us safe and wealthy forever.
December 27th, 2008 at 3:20 pm
“[O]perationalizing this determination”? Really? Couldn’t have written that any better?
December 27th, 2008 at 3:45 pm
I don’t have time for a full evisceration of the moronic reply to my points, but there this:
Remember Ronald Reagan and his welfare queen driving around in a Cadillac? That was the symbol of that reprehensible era.
Yes. Yes, we do remember. We remember that it was a lie. And moreover, we remember that it was a racist lie. Thanks so much for reminding us that the Republican majority of 2000-2006 was founded on Reagan’s dishonesty and racism. That it also founded on greed was the point of my other post so I don’t need to expound further on that here.
December 27th, 2008 at 3:47 pm
Oh, and Reagan’s successes were the ultimate triumph of Keynesian thought – Reagan’s massive debt (brought back in spades by Bush) was the result of massive government spending based on massive government borrowing.
December 27th, 2008 at 3:51 pm
Reagan’s PR to justify his economic policies is not how it was. The elderly eating pet food is about as cartoonish, but a bit more accurate. “Welfare queens” in tent cities is way more accurate.
December 27th, 2008 at 3:55 pm
Re: Dying Midwestern towns. Unsafe streets. Urban riots. Hippies.
What is your fixation with hippies? Of all the things that marked the 60s/70s the short-lived hippie movement was the most trivial. It lasted from about 1967 (Summer Of Love) until around 1972. Certainly by the late 70s the hippies were long gone– either moved to Vermont to practice organic farming; or else hung up their tie-dyes and bongs for nylon shirts and coke spoons at the local disco. Nowadays there’s a small but prosperous market in hippie nostalgia. Visit Haight-Ashbury in San Francisco sometime. Or check out all those late night ads for collections of hippie-era music (”If you going to San Francisco…”). That’s hardly evidence of some great public trauma.
December 27th, 2008 at 4:02 pm
What is your fixation with hippies?
I know. Myles’s missive, particularly that aforementioned line, reads as almost a parody of right-wing anxieties.
December 27th, 2008 at 4:12 pm
What is your fixation with hippies?
I don’t think the nation ever recovered from events like Columbia’s campus takeover by anti-war students.
December 27th, 2008 at 4:25 pm
To be fair, Reagan did sail into office (both as california governor and president), in part, by whipping up resentment against hippies (really). It’s not that this was an actual problem of the 70s, but it was a facet of social anxiety that swung support to conservatives. Most people under the age of 70 are generally too embarrassed to admit this, which is what provided the humor value in Stephen Myles’s post…. like saying that the biggest problems in the 70s were long haired people and cadillac-driving welfare queens… it was more of a political rhetorical device that rarely do you see people, in this day and age, claim was a tangible problem. Part of Stephen Myles’s problem might be that he didn’t quite realize that these were merely rhetorical claims raised to get the blood pumping of resentful voters, as explained by his claim that we’ve “never recovered” from the takeover of Columbia campus buildings during an anti-war protest, not actual serious problems.
December 27th, 2008 at 4:25 pm
well stephen myles st. george, i can see it was a mistake to compliment you, even backhandedly: your notion of history is decidedly inaccurate on so many levels as to barely be worth the attention.
for example, what the nation has barely recovered from during that period is the richard nixon administration, whose spiritual heirs lived on to afflict our own era as well….
December 27th, 2008 at 4:35 pm
Myles
I was present during the eras you disparage. Your view of history is colored by decades of GOP propaganda.
The government policies of the time reflect this. The extreme, radical-left Democrats of 1968. McGovern and McGovernism.
Well, sort of. Remember who won the election in 1968? Fellow named Nixon. A republican who invented what came to be known as “the Southern Strategy”, a not-so-covert appeal to racism and cultural conservatism, which Lee Atwater (for Bush I) and eventually Rove (for Bush II) carried to its logical, and finally, destructive conclusion.
Oh, and how many states did McGovern win? Look it up.
Nixon was elected at least in part on his “secret plan” (his words) to end the Vietnam war. As awful as Iraq has been, Vietnam was (literally, based on the number of US combat deaths) ten times worse, and in retrospect made just about as much sense.
Not as stupid and JohnF have eviscerated some of your other statements, so I needn’t bother.
More history lessons: stagflation and inflation may have reached their peaks during the late Carter years, but not-for-nothing was the Republican Gerald Ford flogging the stupid “WIN” (Whip Inflation Now) buttons.
BTW, while you’re looking up some history, see who imposed federally-mandated price freezes. Hint: It wasn’t a Democrat.
Were there wacko liberals? Sure. And fewer serious people paid attention to them than pay attention to the wacko conservatives of our time.
And yes, Reagan’s “welfare queen” slogans were baldly racist, and also untrue.
December 27th, 2008 at 4:49 pm
Tyler Cowen and the Libertarians propose leaving infrastructure provision up to the private sector. They totally ignore that much of the public infrastructure (without which, libertarianism would be unthinkable) required government to build it and the infrastructure would not exist if left to the private sector. They have no coherent model of how leaving infrastructure to the private sector would see any infrastructure at all.
Libertarianism can work as a brake against the expansion of the public sector into the private sector, but libertarianism is not a useful philosophy for actually governing.
December 27th, 2008 at 4:51 pm
The point people miss about things like hippies and urban riots is their powerful emotional symbolism. What does it say about an America where its future leaders, students at one of its most elite colleges, were openly disobeying authority and disrupting social order?
And the fact that Nixon imposed price/wage controls precisely validates my point: that even a Republican president has fallen to policies springing from the intellectual and economic malaise that gripped the era.
And I am aware how monumentally McGovern failed. What was indicative of the times was the fact that such a reductio ad absurdum delusional radical was even nominated by one of the two national parties, in a same way that Barry Goldwater, despite his monumental loss, iconised the eventual dawn of a new era. It’s all very symbolic.
December 27th, 2008 at 5:05 pm
The point people miss about things like hippies and urban riots is their powerful emotional symbolism.
Were long hair and tie-dyes “powerful emotional symbolism”? There was an element of class-resentment involved, certainly, but as a serious issue? It’s like saying that Cadillac-driving-welfare-queens was a serious issue– you’re mistaking myth and rhetoric for reality.
What does it say about an America where its future leaders, students at one of its most elite colleges, were openly disobeying authority and disrupting social order?
What does it say? It says, “Wow! Just like the good old days when I was in college!”
December 27th, 2008 at 5:17 pm
Man, it says a lot about how tough we are as a nation that we were able to defeating the Nazi and Japanese fascist armies in WWII (along with others), we survived the overthrow of the post-Civil War racial fascism of the American South, but, by god, we never recovered from kids wearing long hair and temporarily blockading campuses.
Are hippies our kryptonite?
December 27th, 2008 at 5:25 pm
My what an impressionable young man Myles is!
He has totally bought into the GOP symbology (is that a made-up word? sorry) view of the last forty years.
How is it that McGovern was a reductio ad absurdum but Goldwater, in 1964 was not? From the perspective of history, sure, you can see that Goldwater’s intellectual underpinnings led to the modern GOP, but to what end? So we could be lied into a war of choice in Iraq, as we were in Vietnam? So the financial sector could end up in an unregulated disaster, in which the regulators actually colluded with those they were supposed to control? So that the basic protective tasks of government (FDA, FTC, CPSC) were starved of funds, people and backup? So that the greatest scientific minds of the time have been marginalized by the most anti-intellectual administration in history?
And what is the relationship between Goldwater’s intellectual underpinnings and the current Bush travesty? Barry has been rolling in his grave, for sure.
And the fact that Nixon imposed price/wage controls precisely validates my point: that even a Republican president has fallen to policies springing from the intellectual and economic malaise that gripped the era.
Well, not exactly. Nixon imposed controls because the guns/butter dichotomy didn’t work any better for him (or LBJ) than it did for Bush II. Nixon tried to stop the inflation by controls. Bush just let the debt and the deficit balloon to historically unsurpassed levels.
Symbols, no matter who is using them, may be signals. But they are not policies, nor actions, nor a substitute for thought.
December 27th, 2008 at 5:26 pm
Sorry, I missed turning off the italics in the previous post. Whis Matt had a preview function.
December 27th, 2008 at 5:53 pm
This all seems underdetermined to me. Just because LTCM got a bailout, and it could have been a bad example for onlooking finance types, doesn’t mean that it was.
If you show me some emails from said finance types dated 2006 or 2007 saying ‘Hey, LTCM got a great deal, we’ll just go crazy and we’ll get looked after nicely’, or indeed anything showing that this was actually a pattern of thought, then I’ll take the point. Otherwise we’ve got correlation, not causation.
December 27th, 2008 at 7:38 pm
Re: I don’t think the nation ever recovered from events like Columbia’s campus takeover by anti-war students.
News flash: I don’t think most of the country has even heard about that fairly obscure incident. It certainly isn’t up there with the Detroit riots of ‘67 or the assassination of MLK.
Look, it’s 2008. About half the country (myself at 41 included) is too young to have any direct recall of the 60s. The 60s are fading into pure history, their passions no more current than the passions of the 1860s (a far, far more ferocious and divisive decade, that). It’s weird beyond belief that conservartives are still trying to wave the tie-dyed T shirt of the 60s when so many of us have no idea what they are talking about, and could not care less. I consider myself exceedingly well informed, but until Stanley Kurtz started having the vapors about William Ayers I had never heard of the man. Again: it’s 2008– deal with today’s issues and problems. There’s no shortage of them. The 60s should belong to the Society For Creative Anachronism.
Re: To be fair, Reagan did sail into office (both as california governor and president), in part, by whipping up resentment against hippies (really).
Maybe governor, but by 1980 the hippies were long gone. That was the era of disco, leisure suits, platform shoes, universal coke and truly tasteless interior design. Reagan may have sailed into the White House in a vast reaction to the horrors of late 70s epically hideous taste, but that ain’t about hippies.
Re: What does it say about an America where its future leaders, students at one of its most elite colleges, were openly disobeying authority and disrupting social order?
Did you go to a really boring college? What you described is the typical frat party, today, yesterday and probably tomorrow too. Students (and young people in general) always push envelops, question established ways, and raise general cain. when I was at the UofM (Ann Arbor) in 1989, a basketball championship victory was occasion for turning half of downtown into a wild mix of bacchnalia and war zone. If God wrote a user’s manual for humanity he would have to devote a very large chapter to The Upheavals Of Youth.
December 27th, 2008 at 10:59 pm
I would hardly consider Wesleyan in Connecticut, my current college, boring. And I am a member of a fraternity, a notably boisterous fraternity at that.
I don’t know about your time, but the consensus seems to be that civilisation and manners have crept, and are creeping, back into (at least the better) colleges. Even Berkeley no longer is crawling with radicals.
December 27th, 2008 at 11:01 pm
By the way, recklessness and lawlessness were hardly universal trait even in that tumultuous era. Dartmouth, for example, was notably and commendably peaceful during that time as its men focused on the life of the mind.
December 28th, 2008 at 6:29 am
Okay, for all that I’m much smarter than Republicans (roughly the same level of compliment as “wow, you aren’t really an idiot”), I admit I didn’t realize that Stephen Myles St. George was a parody until today. Oh well.
December 28th, 2008 at 10:08 am
stephen, if you’re a representative of what wesleyan, my own alma mater, is currently admitting, then i’m going to have to reconsider my alumni giving.
meanwhile, you might look up the argus from the period of 1968-72 instead of relying upon invented memories concocted by right-wing liars and thugs.
December 28th, 2008 at 3:56 pm
Re: I don’t know about your time, but the consensus seems to be that civilisation and manners have crept, and are creeping, back into (at least the better) colleges.
I haven’t been around a college for some years (graduated in 1992; the last of my friends finished up some years later). I have no idea if wild frat parties and small bands of raucous radicals are still to be found. Anyone know?
Re: Even Berkeley no longer is crawling with radicals.
It’s not clear to me that radicalism must necessarily be rude and unmannerly. Robespierre was one of the most debonair gentleman of old France.
December 29th, 2008 at 4:24 am
I haven’t been around a college for some years (graduated in 1992; the last of my friends finished up some years later). I have no idea if wild frat parties and small bands of raucous radicals are still to be found. Anyone know?
Oh I am speaking of course about the majority. There used to be a time when one could hardly expect accepting tolerance (i.e. “agree to disagree” etc.) toward a conservative on many campuses. That atmosphere has changed, not necessarily the political orientation. While college kids remain perhaps just as liberal, conservatives could now expect to (at Wesleyan at least) have some sort of a reasonable discussion about issues and not hear raised voices. I don’t think anyone would suggest this is detrimental.
And frat parties…since I am in a fraternity, I will abstain from that discussion.
And by no means am I saying that radical must necessarily equal unmannered. I am just saying that Berkeley is less radical than it used to be. It is also probably better-mannered than it used to be. Correlation, yes; causation, not necessarily.
December 29th, 2008 at 4:37 am
stephen, if you’re a representative of what wesleyan, my own alma mater, is currently admitting, then i’m going to have to reconsider my alumni giving.
You can rest assured that Wesleyan remains liberal. Your money, I suspect, hardly helps any conservatives. (The College Republicans are so meagerly funded compared to the College Democrats, it is almost pathetic). Although you perhaps read in the paper that the place lost 27% of the endowment in the recent market meltdown (how it has such awful money managers is beyond me); it is sad that when school makes news, it is about its lack of acumen.
I find this humorous, however. I believe it was Georges Clemenceau who noted (variously attributed to Churchill, Disraeli, Bismarck, among others) that “Any man who is not a socialist at age 20 has no heart. Any man who is still a socialist at age 40 has no head.” Socialism, or anything resembling, should have been long past the sell-by date for you.
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