Five Misconceptions About The Financial Crisis

My friend Nick Martin wrote the following and I thought it would be good to post. Right on Nick!

I, Nick Martin, am no John Maynard Keynes, but these ideas (which are all over the news and the water cooler) are just plain wrong. Comments welcome!

Five Misconceptions About the Financial Crisis

1) If Congress didn’t force banks to lend money to poor minorities, the crisis would have been averted. This is completely false. In reality, the worst offenders have been unregulated companies like American Home Mortgage and giant firms like Bear Sterns, leveraging themselves at 33:1 and taking advantage of the most de-regulated economic system in history. Underprivileged people involved in Carter’s Community Re-Investment Act actually defaulted at a LOWER rate than the average citizen in 2008.

2) The bailout plan will “only” bail out Wall Street. This displays a basic misunderstanding of the way the U.S. economy works. Our economy runs on credit. If the top financial companies stop giving credit, the economy will come crashing down in a heartbeat. Warren Buffet, who has as much authority as anyone in the country right now in economics, called the bailout plan a necessity. Without credit, the value of everything will drop precipitously and all of us will be reduced to our physical assets, like a Third World country. The State of California needs $7 billion in credit just to meet its annual payroll. Furthermore, the bailout plan isn’t just a $700 billon gift. It actually resembles a hedge fund, where all of the investors (the taxpayers) have a managing interest in the fund, and pay the Treasury Secretary a small fee to run it. The bailout bails out everyone who has a stake in the market. Period.

3) Government restrictions and laws regarding banks brought the crisis about; to avert this crisis, we need less regulation. False. I think, after twenty years of Reagan-omics, we ought to know what it’s good for – making the CEOs of companies like Enron and World Com very rich while encouraging highly leveraged positions, market manipulation, and criminal action. The more you read about the financial meltdown, the more it resembles Milken’s junk bond crash of the 80s, or the collapse of the California energy markets in the late 90s. For example, AIG’s dependence on “credit default swaps,” which are basically leveraged bets that a troubled company will not default, resulted in losses of over $18 billion. Like junk bonds, credit defaults only succeed in a bull market- Buffett calls them “financial weapons of mass destruction.” Credit default swaps and other over-the-counter (OTC) derivatives on this scale are only possible in a laissez-faire economy. We need more regulation, not less.

4) We are in The Great Depression. No, we’re not. First, the Great Depression didn’t hit until nearly a year after Black Monday. At that point, the Great Depression boasted a 25% unemployment rate, ours is currently at 7%. Second, stocks have already dropped 36% - in the Great Depression, they lost 50%. We are close to the bottom, not the top. Third, FDIC regulations have ensured that there will not be the massive bank failures of the 1930s. Finally, because this crisis is largely based on lack of credit, it’s more a matter of finding the right economic stimulus than, say, building thousands of bridges to generate jobs, or, say, getting involved in a profitable conflict overseas.

5) The economic system is too complicated to understand; better leave the thinking to the experts. Absolutely not. As this crisis has already proved, CEOs at major financial firms and top dogs in our government have made colossal, unthinkable errors. Would you roll the dice on your paycheck if the odds 33:1 against you? A crash course in high school economics and some careful reading of reputable news sources (The New York Times, The Wall Street Journal, the Economist) and perhaps a class or two in market research, and you will be fully equipped to make intelligent, informed decisions on your own, as opposing to leaving your money in the hands of self-interested morons who might not even have a college degree. Just like politics, the best weapon against a financial crisis (or a stupid President) is well-informed, thoughtful voters.