Grantham on the Financial 'Titanic' 12 comments
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If I got paid a nickel for every time I heard the phrase “too big to fail” to describe the state of affairs of our major financial institutions, I’d be retired on my private island by now. Jeremy Grantham, famed value investor and Chairman of Grantham Mayo Van Otterloo, recently compared the redesigning of our financial system to the Titanic and aptly described the hubris surrounding the ship’s voyage as “too big to sink!”
Mr. Grantham argues that many of the financial institution reform proposals have an irrelevant, misguided focus on improving the safety of the Titanic’s lifeboats rather than the structural design or competence of the captain. Maybe it’s better to plan for disaster prevention rather than disaster preparation? Grantham adds:
“By working to mitigate the pain of the next catastrophe, we allow ourselves to downplay the real causes of the disaster and thereby invite another one.”
When analyzing system failures, incentives are important to understand too. For example, the ship was “under-designed” and the captain had an ill-advised reward baked into his compensation if he beat the speed record (see article on compensation).
The Solution
Rather than protecting the bankers’ interests, Grantham contends we need “smaller, simpler banks that are not too big to fail.” At the heart of the financial conglomerate pruning is the necessity to separate the risky, proprietary trading departments thereby ridding an “egregious conflict of interest with their clients.” As a former fund manager for a $20 billion fund, I was acutely aware of how my fund trading information and my conversations were being tracked by investment bankers and traders for themselves and their clients’ benefit. When the banks are managing your money alongside their own money, greed can creep in.
Beyond the prop trading desk legislation, Grantham believes those financial institutions too big to fail should be cut down into smaller pieces that can actually fail. Many of these entities are already what I like to call, “too complex to succeed,” evidenced by the stupefied responses by Congressmen and the CEOs of the banking institutions themselves. Reintroduction of some form of Glass-Steagall legislation (separation of investment banks from commercial banks) is another recommendation made by Grantham.
These suggestions sound pretty reasonable to me, but the bankers scream “If we become smaller and simpler and more regulated, the world will end and all serious banking will go to London, Switzerland, Bali Hai, or wherever,” Grantham adds in a mocking voice. If the foreigners want to operate irresponsibly, then Grantham says let them suffer the negative consequences every 15 years, or so.
The political will of legislators will be tested if substantive financial reforms actually come to pass. Jeremy Grantham understands the extreme importance of reform as explained concisely here, “A simpler, more manageable financial system is much more than a luxury. Without it we shall surely fail again.” Fail that is…like a sinking Titanic.
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This article has 12 comments:
Bad businesses go out of business, and they are replaced by better run businesses. Good businesses expand... In all fairness, the ones that go under aren't "bad". They just don't propertly allocate resources and serve the market the way customers want.
Government doesn't work this way. When a government program failes ... like schools, medicare, medicade, social security, freddie, fannie etc.etc. etc. They don't fail, but in fact they ask for MORE money.
There is no free market utopia. All Utopias are fiction, usually based on the writings and fantasy of some naive mind. Whenever 'free' markets are shown to have produced results contrary to their ideals, Libertarians will always make the self-stultifying arguement that market conditions were not truly 'free'. There are no truly free markets, and never will be. This is a faith, exalting the numinous, ignoring reality. It's also annoying.
On Nov 06 11:16 AM John Galt wrote:
> Failure is what makes America great.
>
> Bad businesses go out of business, and they are replaced by better
> run businesses. Good businesses expand... In all fairness, the ones
> that go under aren't "bad". They just don't propertly allocate resources
> and serve the market the way customers want.
>
> Government doesn't work this way. When a government program failes
> ... like schools, medicare, medicade, social security, freddie, fannie
> etc.etc. etc. They don't fail, but in fact they ask for MORE money.
Back in '29, bankruptcy news caused the bank president to climb the stairs to the top floor of his bank building, open the window , take a deep breath, and jump. Those were the days.
On Nov 06 12:39 PM sether wrote:
> Libertarianism is infantile.
> There is no free market utopia. All Utopias are fiction, usually
> based on the writings and fantasy of some naive mind. Whenever 'free'
> markets are shown to have produced results contrary to their ideals,
> Libertarians will always make the self-stultifying arguement that
> market conditions were not truly 'free'. There are no truly free
> markets, and never will be. This is a faith, exalting the numinous,
> ignoring reality. It's also annoying.
>
> On Nov 06 11:16 AM John Galt wrote:
> Libertarianism is infantile.
> There is no free market utopia. All Utopias are fiction, usually
> based on the writings and fantasy of some naive mind. Whenever 'free'
> markets are shown to have produced results contrary to their ideals,
> Libertarians will always make the self-stultifying arguement that
> market conditions were not truly 'free'. There are no truly free
> markets, and never will be. This is a faith, exalting the numinous,
> ignoring reality. It's also annoying.
>
> On Nov 06 11:16 AM John Galt wrote:
When a man declares: "There are no blacks and whites [in morality]" he is making a psychological confession, and what he means is: "I am unwilling to be wholly good—and please don't regard me as wholly evil!"
Observe, in politics, that the term extremism has become a synonym of "evil," regardless of the content of the issue (the evil is not what you are extreme about, but that you are "extreme"—i.e., consistent).
There are only two means by which men can deal with one another: guns or logic. Force or persuasion. Those who know that they cannot win by means of logic, have always resorted to guns.
> Very true sether. There is an underlying truth in what John Galt
> says here - govt spending tends to be inefficient and some level
> of creative destruction is required in the economy. But, unfortunately
> for the Austrians, real life things like externalities, cartels and
> monopolies are just that - real life. Consequently, we will always
> have a need for regulation and markets will never be completely free.
>
So who is going to regulate the regulators? You can go on youtube and find Ben Bernake say he doesn't believe in a housing bubble, and that we are not in a recession. He's so wrong it's comical. We had a few hundred regulators for fanny and freddy. Do you want 600, would they do the job that the previous 300 couldn't?
You had Barny Frank and co pushing these companies to lend to sub prime borrowers that had no business getting loans. Yeah, that's free market.
You had CEO's at Lehman like Dick Fold who laughed because they knew that if their book/leverage ever went sour, that they'd get socialism for the rich in the form of a bailout. Whoops.
- Ludwig von Mises
On Nov 06 12:40 PM Hooligan1 wrote:
> What ever happened to the "good ole" banking days of 1929? Now bank
> presidents hop their corporate jets, zip to D.C. (District of Corruption),
> and grovel before some committee.
> Back in '29, bankruptcy news caused the bank president to climb the
> stairs to the top floor of his bank building, open the window , take
> a deep breath, and jump. Those were the days.
When the government made huge excess financial resources available to banks at near no cost, and the investment banks offered the mechanism (RMBS) for the banks to sell off all their loans at a profit, the banks did what almost any organization would have done, they processed loans and moved them off their books. In essence, they reacted very logically to the circumstances that were presented to them.
The investment banks, especially Goldman, were the most unethical culprits because they knew full well that the instruments they were peddling were of poor quality, but that didn't give them a moment's hesitation about any fiduciary responsibility to buyers. In fact, they shorted the very instruments, as they were selling them! That says it all.
The government was a party to all this in multiple respects: 1) providing way too much "free money" for too long, 2) not enforcing rules against naked short selling, not regulating an out-of-control CDS market, etc., etc.
It's not to say that the banks didn't make errors, some of them grievous, but they were set on their course and sailed into a wall by the actions of the government and the investment banks and were ultimately destroyed, in some cases, or nearly so in others.
For the government to have assisted some banks from destruction due to direct causes they set in play, and due to their own lack of regulation and enforcement in the trading arena, is not entirely irrational in many respects. It confounds me how we'd be better off individually or as a nation if the destructive forces unleased by the government and the Goldman's of the world had been allowed to proceed to their natural conclusion.
here's how "we'd" be better off. rather than bail them out, the government should have taken them over, revealed them to be bankrupt, had the bond holders and stock holders zeroed out and any assets sold to new investors. that's what happens when a bank goes under, if the bank is small. instead, they made all debt holders whole, using tax payer dollars. so, if you mean taxpayers, when you ask how would "we" be better off, that's how. furthermore, all banks would then be on notice that if they take risk and fail, they pay. "we" don't.
instead, our esteemed legislators failed to enforce the first law of capitalism: eat or be eaten. just as teachers in our miserable school system do, they refuse to fail the worse students. what does that teach them? it teaches them that they do not have to study. of course, you might fail to see how failing some students, even the big ones, would benefit us. so, here it is. dead wood would be removed. everyone would try harder. schools would produce better educated taxpayers. our government would have smarter employees regulating a better banking system.
ignoring the sage insight of Paul Volker.
And, although Barack Obama stated that he should be judged by the people who surround him, Abraham Lincoln observed that an individual can not fool all of 'the people' all of the time.