Economic Disasters and Stupid Evil People

Mark C. Chu-Carroll explains how utterly stupid the Wall Street bankers have been in simple language. It's rather long, but Mark has much of the story wrapped up.

I've written about a lot of it, but I have not explained how insurance got mixed up into the rather fetid mess. This, however, it the kind of thinking that you can expect from investment bankers to whom the only thing that matters is how much the traffic will bear. The problem was that there were no regulators reviewing the banking system and pointing out the fact that securities being sold as safe investments were not and could not possibly be safe.

Mark starts out explaining how investors world wide wanted safe, secure investments that paid a decent return. So the investment bankers took mortgages (which home owners will do almost anything to pay first to keep their homes) and repackaged large numbers of them as big money securities. But there weren't enough mortgages to meet the demand, so the bankers lowered the standards for who could get mortgages so that the number of mortgages to securitize got larger. That worked so well they lowered the standards even more. The bankers needed more mortgages to meet the demand and lowering the standards for who could get a mortgage gave them more product to sell. Alan Greenspan had the authority to regulate the mortgage industry, but as a Libertarian banker he refused to do so.

The adjustments in standards might have caused the investors to question the safety of the mortgages, so the bankers creating the massive securities got other companies to provide sham insurance against mortgage default and then paid security ratings agencies to rate them as high grade secure investments. Of course, since the rating agencies got paid only when they provided a rating, they competed with each other to provide the highest possible ratings. Why not? The rating agencies had no skin in the game if the ratings were too high. Then they broke the securities up into what are called "tranches" - groups of mortgages of similar risk levels - which they sold separately from the overall security. The finance experts convinced the investors buying the tranches that they were getting safety through that magic financial word "diversification."

Then, operating on the theory that they were buying safe, secure, insured, highly rated investments, they began to leverage the purchases. The investors put up a small amount of money themselves and borrowed a lot more to buy these safe, secure investments. As long as the interest they paid was lower than the interest on their loons, they made ungodly amount of money and got equally ungodly bonuses every year.

Then they repackaged the loans they had bought with largely borrowed money and sold those packages to other investors who also borrowed money buy the new securities. Bear Stearns was borrowing $33 for every $1 of their own, and Lehman Brothers were also leveraged at 33 to 1. No regulator would have allowed that degree of leverage.

But the mortgages at the base of all this structure were not as secure as they were alleged to be, the ratings agencies were rating them too high, and the companies who sold the default insurance did not have the needed money to cover the losses if the defaults built up. This one paragraph summarizes the last two years of Wall Street as the wheels came off the entire set of scams.

Most of the people in the game were stupid. A few know what was going on and were simply evil. Most of the Wall Street people were too involved in their own little worlds and accepted what they were told about the security of the mortgages and the securities based on them. Some clearly knew how bad the information was - probably at the rating agencies and at the companies selling insurance. But there was not overall regulator responsible for seeing how all the pieces fit together, and no one who was selling those products could have kept their (extremely well-paid) jobs if they had told the public or their customers the truth.

Stupidity, greed, and a great deal of evil intent pushed the ideology of the free unregulated financial markets which was adopted by the individuals in the Reagan Revolution. That ideology was sold as offering a route to great prosperity, a route not offered by merely working hard and building products and businesses. But it's an ideology that inevitably leads to economic boom and bust, with each boom and each bust larger than the previous ones. That led to the bank and security regulations put into place in the 1930's after the Great Depression showed the failure of an unregulated financial industry.

But a lot of financial sales people with a lot of money found themselves frustrated by those regulations. Libertarians like Senator Phil Gramm worked to remove those regulations and the regulators (leading to among other things the collapse of Enron after a great deal of illegality and corruption.) And they have brought their inevitable financial disaster back to America and around the world. Again.

Among other things, America has specialized in banking while underpaying and underrating engineers and technicians who build and maintain real products.

Think anyone will get the message that conservatism is bad news?


[ H/T to Digby ]

Tax cuts do not improve the economy; nor do they ever increase government revenues

When conservative claim that tax cuts improve the economy and increase tax revenues they are either 1) fantasizing or 2) lying. The difference between the two positions depend on how economically educated the person making the claim is.

The Center on Budget and Policy Priorities released Its report, EVIDENCE SHOWS THAT TAX CUTS LOSE REVENUE. (.pdf file)

The claim that tax cuts “pay for themselves” — i.e., cause so much economic growth that revenues rise faster than they would have without the tax cut — has been made repeatedly in recent years and is one of the many tax policy issues that is likely to receive renewed attention in light of the upcoming election. As explained briefly below, this claim is false. The evidence shows clearly that tax cuts lose revenue.1

The 2001 and 2003 tax cuts have not paid for themselves. There is no evidence that the tax cuts caused any increase in economic growth, let alone growth sufficient to offset their cost. In fact, the 2001-2007 economic expansion was among the weakest since World War II with regard to overall economic growth. 2 Moreover, revenue growth was very poor during 2001-2007. Real percapita revenues fell deeply in 2001, 2002, and 2003 and have since risen to barely 2 percent above their 2001 level. Over the course of other postwar economic expansions, they grew by an average of 12 percent.3

Previous tax cuts didn’t pay for themselves either. In 1981, when Congress substantially lowered marginal income tax rates on the well-off, supporters claimed the cuts would boost economic growth. In 1990 and 1993, when Congress raised marginal income tax rates on the welloff, opponents claimed the increases would harm the economy.

In fact, the economy grew at about the same rate in the 1990s, following tax increases, as in the 1980s, following a large tax cut.4 And revenues grew twice as fast in the in the 1990s (3.5 percent in real per-capita terms) as in the 1980s (1.5 percent).5

Capital gains rate cuts, like other tax cuts, lower revenue in the long run. Especially when a capital gains cut is temporary, like the 2003 cut, investors have a strong incentive to realize their capital gains before the old, higher rate returns. This can cause a short-term increase in revenues, as happened after 2003. (Capital gains realizations also went up after 2003 because of the increase in the U.S. stock market. The capital gains tax cut cannot take credit for the stock market recovery, though, since European stocks performed just as well as U.S. stocks during this period.6)

Over the long run, however, there is virtually no evidence that cutting capital gains taxes spurs nearly enough economic growth to pay for itself. As the Congressional Budget Office recently stated, the “best estimates of taxpayers’ response to changes in the capital gains tax rates do not suggest a large revenue increase from additional realizations of capital gains — and certainly not an increase large enough to offset the losses from lower rates.”7

Deficit-financed tax cuts carry significant costs that are likely to outweigh any short-term boost in economic growth. Deficit-financed tax cuts can stimulate an economy in recession and temporarily improve growth. In the long run, however, the resulting deficits lower national savings and are a drag on the economy. Brookings Institution economist William Gale and now-CBO director Peter Orszag concluded that the 2001 and 2003 tax cuts are “likely to reduce, not increase, national income in the long term” because of their effect in swelling the deficit.8

Given the evidence, economists across the political spectrum reject the notion that tax cuts pay for themselves.

In sum, the idea that tax cuts pay for themselves sounds too good to be true because it is too good to be true. Tax cuts lose revenue, and when they are deficit financed, they can also contribute to poorer economic performance over the long term.

The references can be found in the original pdf document.

What this is saying is that giving up tax money to boost the economy simply doesn't work. The money goes primarily to the wealthy or to large businesses which are not short of capital anyway. If they need more money it is easy to borrow it or sell stock.

Now at the moment, there is too little money available to consumers to buy goods and services, so jobs are not being created. That lack of job creation means that consumption is lowered.

There are two ways to make the economy grow. One is to provide more money directly to consumers like the stimulus package last Spring. That had some effect, but it was a quick hiccup that rapidly dissipated. Another stimulus, one that would be more long lasting, was recommended by Robert Reich:

A Second Stimulus: Much Bigger Than the First, and Focused on Infrastructure

It will soon dawn on Congress (although it may never dawn on the White House) that we need a much larger second stimulus package than is now being contemplated in order to give the economy the jump-start it needs and fill in for consumers who can't and won't spend more. My guess is that this second stimulus plan, including infrastructure, will ultimately reach $200 billion or more.

This would both create jobs and rebuild the worn down infrastructure that the tax cuts over the last two or more decades has let wear out. Just rebuilding bridges is a desperate need in America. And the rebuilt infrastructure will help private businesses operate at lower costs.

But the real point is that general tax cuts are the worst possible answer to the current economic problems. They don't work and they damage America.

Supply side voodoo economics described by Ben Stein

Ben Stein recently addressed the idea the Republicans have pushed for the last three decades that tax cuts make the economy grow so much that government revenues increase.

the Republican Party (my party and yours) has for the last 30 years or so been operating under a demonstrably false and misleading premise: that tax cuts pay for themselves by generating so much economic growth that they replace the sums lost by tax cutting.

This would be a lovely thing if true, and the best of all ideas, the “something for nothing” idea. In fact, tax cuts lower federal revenue and generate federal deficits. It is also true that they do stimulate the economy and after a long period of years, federal tax receipts go back to where they were before the tax cuts. [Editors note - but not because of the tax cuts. Inflation and the normal increase caused by the addition of an addition approximately 100,000 workers per month added to the economy simply because of growth of the population is more likely the reason for the increase in nominal tax revenue after tax cuts.]

For example, when President Bush enacted his tax cuts in the early 2000s, income tax receipts fell dramatically. It took almost six years for them to reach the level they had been in the last year of the Clinton administration, while G.D.P. in that period rose by roughly 30 percent.

So essentially Stein is saying that our society has built up huge financial obligations that must be paid. Tax cuts cannot be paid for out of waste and fraud, so they have to come from the revenue that would pay those obligations, forcing the government to borrow to pay them. That leads to huge deficits, with their attendant costs that also must be paid.

So then Ben addresses those deficits and their costs.

...immense federal deficits in modern life are financed largely by foreign buyers of our debt. This means that the American taxpayer must work a good chunk of the year to send money to China, Japan, the petro-states and other buyers of United States debt. In effect, we become their peons.

By flooding the world with debt, we in effect beg foreigners to take our dollars, and this leads to a lower value of the dollar and a higher cost of imports, including oil. If you feel pain filling up the tank, you can partly thank those tax cuts. If you feel the sting of inflation, you can partly thank the supply siders. Deficits matter.

Ben has the mechanism for the costs of the tax cuts down, and they are never repaid from tax cuts themselves. His attempt to show that they do result in increases in tax revenue after many years is a chimera, It's the logical fallacy of post hoc ergo propter hoc. His logic is that because years after a tax cut, government revenues increase, that increase must be because of the tax cut. That has to be true because the revenue increases after taxes were cut. Unfortunately, he cannot demonstrate why the two events are connected and cannot exclude all other reasons for the government revenue to increase in later years.

The real point is that Ben Stein, a committed Reagan conservative, is showing that tax cuts never pay for themselves. The increase government costs a the time they are enacted and the increases in costs are never paid back. In addition, the deficit spending has led to the inflation that is currently most obvious in oil prices and the price of food, but is building up in all parts of the American economy right now.

America is poorer now because of the Reagan Revolution and because of the related government mismanagement of the economy, particularly through Bush's ill-informed tax cuts when he inherited surpluses from his predecessor. We haven't felt it because Alan Greenspan pumped up housing prices through his low interest rates and encouraging real estate refinancing to pay credit card debt and because the federal government has been mortgaging our future revenue by borrowing to pay for its extravagant and misplaced war in Iraq.

Now we are beginning to really feel the costs of all this Republican/bush idiocy. We will feel it for a long time. And what will we have to do to deal with the set of problems that has been created by the Reagan Revolution and by Bush? Continued borrowing merely spreads the costs out to the average person through inflation in costs with no comparable inflation in incomes - except for the very wealthy because our current economy is designed to tax the poor and middle class and distribute the resulting income to the very rich. But that's another problem that needs to ba addressed. Excluding coninued borrowing to pay for taday's expenses, there are only two choices.
Those are either sharp reductions in Social Security and Medical care spending, or a tax increase.

No government that enacts the level of cuts required in those two programs will survive the following election. So the answer is going to have to be the second choice, tax increases. Ben Stein recognizes this also.

[W]hom to tax? The poor are, well, poor. The middle class is struggling to pay for its middle-class life. That leaves the rich. It would be lovely if we did not have to tax them. Many have worked hard for their money. Many have created useful businesses. Many of them are fine people.

But as Willie Sutton said when asked why he robbed banks, “Because that’s where the money is.” By definition, the truly rich have a lot more money than they need. If they don’t, then they are not rich by my standards. The first step toward putting our house in order, once we are past the seemingly looming recession, is much higher taxes on the truly rich and serious enforcement to prevent offshore tax evasion.

To put it even more starkly, the government — which is us — needs the money to keep old people alive, to pay for their dialysis, to build fighter jets and to pay our troops and pay interest on the debt. We can get it by indenturing our children, selling ourselves into peonage to foreigners, making ourselves a colony again, generating inflation — or we can have some integrity and levy taxes equal to what we spend.

So that's the program that is going to be enacted in the next four to eight years. Or at least after the worst recession since the Great Depression begins to let up, which I already don't think will be before late 2010 at the earliest.

Guiliani will raise government revenue by cutting taxes

The main bridge in Minneapolis over the Mississippi river just collapsed during rush hour traffic because the Minnesota Governor, Tim Pawlenty, took the "No new Taxes" pledge and specifically vetoed a 5 cent per gallon increase in the gasoline tax two years ago. The tax increase, the first in 20 years, was specifically intended for Minnesota highway repair. Last week we saw the result of VooDoo economics again.

Now here is Rudy Giuliani promising that he will increase government revenue by raising taxes.

Word has not been released on which asylum Giuliani was released from to speak to the reporters.