Pearlstein: Geithner looks better in hindsight than foresight

Apr 14, 2010

A year ago, Treasury Secretary Timothy F. Geithner was in the national dog house, vilified for bank bailouts and clumsy efforts to launch financial regulatory reform. Today, Geithner looks like a genius, with markets marching back toward recovery and regulatory reform legislation inching toward passage. But columnist Steven Pearlstein cautions readers against buying too much into either version of conventional wisdom and says that Geithner's approach to regulation still contains significant flaws. Pearlstein will discuss his column on Wednesday, April 14 at 11:00 ET.

Your columns are always thought-provoking. Aren't the banks and other mega-players still sitting on hundreds of billions worth of bad debt, overvalued commercial real estate, etc? To what end? Robert Reich wrote in WSJ that much of the job increase represents temporary boost from Census work. Your thoughts?

Thanks for your kind words.

     There are lots of bad debts the financial institutions are still "sitting on," but its probably a stretch if you mean that they haven't yet acknowledged them with write downs or by taking reserves. Auditors and regulators are pretty much on their case about that, although some of the smaller  regional banks are probably dragging their feet (despite their attempt to claim that they had nothing to do with causing the crisis).

     You can't explain the job creation numbers in either the household survey or the payroll survey by just census workers.

Like everyone else in Washington, Geithner is captive to the laissez-faire, gold-based, Free Market principles of William F. Buckley, Jr.'s conservatism, also called Supply Side Economics/Reaganomics, which has been the dominant paradigm since 1981. Alan Greenspan was exactly correct when he admitted his modeling was flawed, but is now trying to revive what should be a dead issue, except that nobody wants to actually confront their own embrace of ideological crap.

I think you exaggerate, although it is true that Sec. Geithner is a bit too in the thrall of markets and too timid about direct intervention by regulators.

How did Geithner, a former Goldman boy, give his old firm 100 cents on the dollar for their AIG investments, when the creditors for the auto industry only got 30-40 cents on the dollar? That was ridiculous, and to me, the biggest outrage of the Obama admin.

First, Geithner never worked at or for Goldman. Factually inaccurate, though widely believed in Internet chatter.

Second, AIG was a mistake, although Geithner won't admit it. In the press of the crisis, there was the belief that if all contracts with all counterparties were not honored, it would start a run on the derivatives market that would bring the whole system down. This wasn't designed to "save" Goldman or any other particular counterparty. It was to prevent a run on the system. The concern was very legitimate. But if they had taken a few more hours or days to address the AIG problem and thought it through a bit more, they could have crafted a solution that would not have given every creditor and counterparty 100 cents on the dollar. People make mistakes -- get over it.

     That said, in exchange for the 100 cents, the US government now owns assets that, in fact, have appreciated in value more than anticipated, so the "cost" of the AIG bailout will turn out to be less than first thought.

     As for the auto creditors getting less than 100 cents, that was a different matter that did not involve trying to prevent a financial meltdown. That was an industrial bailout. There was a good reason for it, considering the state of the economy, but it did not require giving all creditors 100 cents on the dollar.

     This isn't about fairness. Sorry about that, but it just isn't. It is about solving very real, very pressing and urgent, economic and financial system problems in a way that costs the least amount of money to the taxpayer and causes the least distortion to the markets and the economy. There are lots of things in life that are unfair, and this is one of them.

The recent PR blitz on Geithner has called attention to his success in preventing a full-on depression. However, he was not an innocent bystander in the lead up to the disaster, and does not seem inclined to put in place serious regulation to prevent such a mess from occurring again. He cleaned up the mess, but is he the right man to clean up Wall Street?

Well, that is the question of the day, isn't it. As it happens, it will be Congress that has the final say on much of this, and there is this guy called Obama that is also involved, along with a number of others in the administration. So its not strictly Geithner's deal. I wish Obama had other sources of advice that he trusted, since this stuff can be a bit wonky and complicated. The president's instincts are pretty good on this but I think sometimes he doesn't get a full range of advice.  Actually, I know he doesn't.

Could you tell me if I'm on-base on this? In Adam Smith's world of principals -- producers, consumers and distributors -- market forces work to bring the economy into equilibrium, punishing oversupply and rewarding filling a void. The financial world in which most players are speculators trying to guess price movements, by contrast, tends to move markets away from equilibrium, leading to bubbles and crashes in stocks, housing, commodities, and currencies. Finance and speculation have a role to play in a capital economy; but if they become the economy, they distort the legitimate economic activity of the principals. Hence, if a company's primary business is to guess which way markets are moving, they can't be allowed to become too big to fail at it. Assuming this is a reasonable outline, can you explain how your position today contrasts with what Mr. Geithner's column yesterday?

Here is the op-ed that Secretary Geithner wrote for Tuesday's Washington Post:  How to prevent America's next financial crisis (April 13)

Like a lot of analysts, I don't believe the primary problem is the size of the banks, aside from the question of whether some have become too big to manage. The evidence on that varies -- Citigroup was too big to manage, but JP Morgan seems to be doing fine.

     There are lots of things most of us agree on, including Geithner -- need for more open and transparent derivatives markets, need for higher capital and lower leverage, eliminating gaps in the regulatory structure, the need for a systemic risk regulator, better consumer protection on loan products. And so there is a lot in the bills as presented to the House and Senate that are to be admired.

      Where we disagree, fundamentally, is that I think the culture of the regulatory agencies and the culture of Wall Street need radical change.

    We need to blow up the regulatory apparatus and start again with a new agency working under a new law and mandate and new leadership that is the single point of supervision for all bank-lilke financial institutions. Geithner is content to pretty much preserve the Fed and the OCC and the FDIC as they are. He's an institutionalist and actually defends the performance of the regulators and denies they have been captured by the industry or by a deregulatory philosophy or an undue faith in risk management models. I respectfully disagree.

     He also doesn't present a fundamental criticism of Wall Street and, in particular, the investment banks and the shadow banking system over which they preside. He doesn't think they abuse their customers. He doesn't think they overpay. He doesn't think  they celebrate games playing and regulation avoiding. He thinks they create a lot of real value for the economy. I am much, much more skeptical, so I want to impose some hard limits on what they do and h ow they do it, and if that reduces their size or their profits or the advantage they have over other market participants, I really don't give a damn. He aopparently does.

The administration expects mortgage rates to either stay low or go back down when investors look for good rates. Is this reasoned?

I expect they will rise a bit. If they don't, it will only be because the government continues to pump money into the secondary mortgage market, but that has really got to begin to come to an end.

Don't you realize that nowadays perception is more real than reality? If the gossip (especially online) says something untrue, it's like a bell that can't be un-rung!


From a recent column: "Their cramped view is that regulators can take only those actions specifically and explicitly authorized by statutes, ignoring the fact that many laws are so old that they never could have anticipated the dramatic changes in technology and the economy." So your view is that if the Executive Branch thinks a situation has changed they can just make up new laws? No thanks. I have plenty of contempt for Congress, but I'd rather they wrote the laws. You know, like it says in the Constitution.

No, and I would you appreciate not putting words in my mouth. The laws I was referring to are very simply put and give very broad authority to the agencies. It is only the agencies themselves, and the courts, that have narrowed and narrowed the scope of those laws so that they have become almost characatures of what Congress actually legislated. This is what happens when you put public policy in the hands of lawyers.

Steven, if you could select the person or persons who would advise Obama on how best to regulate the financial markets, whom would you pick? Would Brooksley Born be on the list?

Don't know Brooksley. She has been courageous, but every time I have tried to reach out to her she hasn't even bothered to give me the courtesy of a call back.

     There are people Obama could reach out to, even within the Treasury, who have worked on Wall Street and worked in banks and regulatory agencies and have a more jaundiced view of how they operate, drawn from real experience. I don't think he is hearing from them. he hears from Geithner and Mary Shapiro and Larry Summers and economists, none of whom share such a deep-seeded skepticism. I'm not talking about populist ideologues, but people who respect markets and disrespect people who manipulate and soil them.

Your question in the Leadership blog regarding the nuclear summit was interesting: "How does a leader fight the natural tendency among followers to put off dealing with what seem like such abstract and complicated threats?" Doesn't this question pertain to complex and abstract financial threats as well?

Absolutely, although the threat is now not so abstract coming out of the financial crisis.

Why not just beg Congress types to institute an enforceable law that says Wall Street Megaliths and others who play in the repo and phony paper markets to do simply this: They all have to borrow money at Payday Loan rates and terms. If it's good enough for those who vote for Bob Corker it's good enough for the swells who keep Princes Schumer, Dodd, and Frank on their velvet thrones. Sauce for the goose, 'eh? Thanks much. HLB

You mention exactly what I am talking about, the way the banks used repo financing to hide the lousy assets on their balance sheets or make it look like they had less debt than they really did. This is the kind of gamesmanship that consumes much of the time on Wall Street, generates much of the profits, causes most of the problems for the rest of society and is richly awarded at bonus time. And Geithner thinks, oh well, its just part of the game and maybe we ought to require that they have higher capital standards against such activity so that it becomes a bit less profitable. To me, it borders on fraud and the right response for a regulator (including the Secretary of the Treasury) ought to be: "I read about that in the paper today and if I find you playing those games again, I'm gonna come down on you like a ton of bricks and insist that you be fired and maybe close down your bank. So don't f*** with me because you won't like it. " And he ought to be that blunt and that crude about it, because it is the only language -- the ONLY language -- the Wall Street wise guys understand. I'm sorry if that bothers the securities lawyers out there in the audience -- it probably seems so arbitrary and capricious and all that. But unless there are a few more public hangings, I don't think these guys will get the message, particularly now that their profits are back to record levels. They believe, honestly, that record profits justify ANYTHING. And I mean ANYTHING.

Hey Steven, The stock market low last April happened the same day FASB changed the rules for mark to market accounting. William K. Black of UKMC said on the PBS Newshour that Congress extorted FASB by threatening to revoke its authority if it didn't make the change. I actually agree with the idea that mark to market is too procyclical and assumes that markets are more efficient than is the case. However, why isn't that a bigger story? Until FASB 157 is reinstated, why is Geithner going around proclaiming mission almost accomplished?

I'm not sure I understand your complaint. You are right that the rule was counter-productive because the old mark-to-market rule was so inflexible given the market situation and would have made the crisis even worse. So at the behest of the banks, Congress changed it. But the new version isn't a license to mark things at any level the banks find convenient. There still has to be a rational economic basis to the marks, and the SEC can remind auditors that it is their job to make sure that is done conservatively. So I don't see the problem at this point.

What, if anything, has the Governor of Virginia done about jobs in his state? Do you feel it's even realistic for executives, be they Governors or Presidents, to sell themselves as private sector job creators?

It's a good question, because they can't have much of a short run impact -- particularly governors. It is the job of journalists to point this out again and again, so your note is a reminder to me to start reminding Virginians that their governor is blowing smoke.

Maybe much less money will be spent on bailouts, but the collateral damage to people's jobs, mortgages, etc. is real and affects millions of people.  Real people, really hurting. Paybacks do not make everything whole.

Fair point, and one that Sec. Geithner, in all fairness, would be the first to emphasize.

After finishing the book this weekend I was actually physically ill (I should be a strawberry picker). I'm not sure that anyone did anything illegal (perhaps the higher-ups at the ratings agencies) however, the system is just set up to screw the investors. Now that the credit balloon has popped (but there is still a lot of air to be let loose), we hear that the Treasury might actually make money on the deal. How is that possible? I realize that the Goldman Sachs' of the world might have paid their money back, but that is only because the government guaranteed the losses of AIG. Until AIG pays us back (not going to happen) the US is still underwater on these loans.  Also, AIG insured the early loans, apparently European and Japanese interests insured the later loans which maybe haven't reset yet. There is still a lot of pain to be had, and debt to be written off. What we need is regulators that actually ask the question of where do the large banks' profits come from, and whether they are based on legal and sound investing instruments.

Amen, brother.

you wrote, "Many of the D.C. Circuit judges have long since stopped pretending to defer to the factual determinations and policy judgments of duly appointed regulators, as the law requires." Which law?

There are specific statutes in some cases, but mostly it is case law from the Supreme Court that requires deference.

One of things that's really difficult to get past with Geithner is his unwavering support for the current head of the Office of the Comptroller of the Currency. Just wanted to put that out there.

As you know, I have been agitating for Duggan to be fired for a while now, to no particular effect. The justification for letting him serve out his entire term is that there has been a admirable effort over the years for presidents and treasury secretaries not to politicize the office by removing comptrollers before their terms are up. But in this case, this isn't partisan -- the guy did a lousy job and ought to be replaced, by another Republican if need be to reinforce the non-partisan nature of the job. The question I ask is simple:  How bad would the banking crisis have to have been before it would be okay to fire Duggan? 

Thanks for tuning in. No chat next week -- I'll be away for a few days. Hope to "see" you in a couple of weeks.

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Steven Pearlstein
Steven Pearlstein is a business columnist for The Washington Post. He won a Pulitzer Prize in 2008 and is co-moderator of the On Leadership discussion site.
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