Misjudging Motives: Why Bernanke (and Geithner and Summers) Are the Wrong People for Their Jobs

I wonder what President Obama would say to this post. Reading and re-reading the first two quoted passages below, I find myself thinking that America will never - not ever - recover from its financial crisis until its President has in place a financial team that carefully assesses the motives of the Wall Street elite whose "risk-free" financial innovations ran the world's economies into the ground. Of course Wall Street never intended for its innovations to backfire as they did - clearly it intended to do something else. But what? And more to the point of motive, why? Answers given in the two revealing passages below, both from mid-2006, could hardly be more disparate. Which comes closer to unearthing the truth? Here's my take. Judge for yourself .

In June of 2006, Ben Bernanke concluded his speech on "Modern Risk Management and Banking Supervision" by voicing confidence in the ability of banking organizations and banking agencies - Fedspeak for private banks and government regulators - working in tandem, to eliminate the possibility of systemic risk:

We expect that risk management and banking supervision will continue to develop along parallel tracks. The Basel II framework [the latest recommendations on banking laws and regulations issued by the senior representatives of the ten Western central banks who form the Basel Committee on Banking Supervision] represents an important effort by supervisors to integrate leading-edge risk management practices with the calculation of regulatory capital requirements. The ongoing work on this framework has already led large, complex banking organizations to improve their systems for identifying, measuring, and managing their risks. Indeed, banking organizations of all sizes have made substantial strides over the past two decades in their ability to measure and manage risks. The banking agencies will continue to promote supervisory approaches that complement and support banks' own efforts to enhance their risk-management capabilities.

Ben Bernanke strikes me as a decent man. Yet his blind faith in the status quo - his assertion that "substantial strides" had been made towards managing risks - tells me not just that he was oblivious to immanent disaster but that he was so because he had fallen in the wrong crowd. As we now know, this crowd was doing more to abet than to curb the excesses of America's financial elite.

The right crowd? It was a group of economists, finance writers and businessmen - a fairly large group - that was willing to examine and discuss, with due scepticism, the likely effects of the innovations of this elite and the wellspring of their motives as well. (Their findings were by no means identical.) The paragraphs below, written by one of this group, appeared in May, 2006, a month before Bernanke's speech:

Free markets are based on choice. But more and more homeowners are discovering that what they got for their money is fewer and fewer choices. A real estate boom that began with the promise of “economic freedom” almost certainly will end with a growing number of workers locked in to a lifetime of debt service that absorbs every spare penny. Indeed, a study by The Conference Board found that the proportion of households with any discretionary income whatsoever had already declined between 1997 and 2002, from 53 percent to 52 percent. Rising interest rates, rising fuel costs,
and declining wages will only tighten the squeeze on debtors.

But homeowners are not the only ones who will pay. The overall economy likely will shrink as well. That $200 billion that flowed into the “real”economy in 2004 is already spent, with no future capital gains in the works to fuel more such easy money. Rising debt-service payments will further divert income from new consumer spending. Taken together, these factors will further shrink the “real” economy, drive down those already declining real wages, and push our debt-ridden economy into Japan-style stagnation or worse. Then only the debt itself will remain, a bitter monument to our love of easy freedom.

So said University of Missouri/St. Louis economist Michael Hudson, whose "Illustrated Guide to the Coming Housing Collapse" is a core text for me. Now what's the difference between Bernanke and Hudson? How could one professional economist be so blind to immanent disaster and the other so prescient? President Obama is a smart man. Has he ever asked himself this question? If he's going to serve America well as president, shouldn't he?

If he does, the answer is plain to see. The difference is partly one of perspective: of the economy as seen from the contrasting vantage points of the Wall Street lender and the American borrower. But the main difference is one of motive. Bernanke, on one hand, presumably sees Wall Street's "leading-edge risk management practices" as motivated by a benign desire to realize a fair profit while helping borrowers realize the American dream. Hudson, on the other, sees these same practices darkly, as intended to subjugate borrowers to lenders in a manner more appropriate to a feudalistic society than a democracy. And he sees them as motivated by a desire for absolute control and power.

This, granted, is an extreme assertion. Many will question it. But from what we know today about the effects of sub-prime lending and the motives of Wall Street and the Federal Government - far less pure than pure, at a minimum - Hudson's account has to be much closer to the truth than Bernanke's.

I therefore find myself, on balance, asking how Ben Bernanke can serve effectively at the Fed. Removing him, Larry Summers and Tim Geithner is impracticable at the moment, even unthinkable. But sometimes it's important to think the unthinkable. Simon Johnson does so. He's an M.I.T. economist and past chief economist for the International Monetary Fund. In "The Quiet Coup," appearing in the latest Atlantic Monthly, he argues that Wall Street's wildly innovative financial practices were nothing short of oligarchical. Here's a summary:

The crash has laid bare many unpleasant truths about the United States. One of the most alarming, says a former chief economist of the International Monetary Fund, is that the finance industry has effectively captured our government—a state of affairs that more typically describes emerging markets, and is at the center of many emerging-market crises. If the IMF’s staff could speak freely about the U.S., it would tell us what it tells all countries in this situation: recovery will fail unless we break the financial oligarchy that is blocking essential reform. And if we are to prevent a true depression, we’re running out of time.

How would recovery occur once America's financial oligarchy was broken? Who would replace President Obama's current financial team? I'll be looking for answers at The Baseline Scenario, Simon Johnson's problem-solving site. I wonder if the White House is following it. Here Terry Gross of NPE interviews Simon Johnson - for 44 minutes!