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Wall Street owes the administration a really nice Christmas card


Things are getting ugly as Congress considers financial reform. Legislators don't like the (entirely accurate) perception that the banks got a sweetheart deal last fall. The public wants someone to lose a pound of flesh over what happened to the economy, and since Tim Geithner didn't take it from the banks, some in Congress want to take it from Geithner.

Thursday's hearings saw multiple calls for the Treasury secretary to resign, the Congressional Black Caucus blocking a vote on financial reform, and Ron Paul passing a bill to audit the Federal Reserve. That's bad news for the administration. Vulnerable legislators need to punish someone, and if the banks aren't available, the government institutions that protected them may be the next best thing.

Also, remember last week, when I was predicting that Republicans might be more cooperative on financial regulation than they were on health-care reform? That's looking like it was entirely wrong. The new Republican tactic is to demand that Democrats launch a -- sigh -- congressional investigation into the causes of the financial crisis before attempting any sort of regulatory response. Because that's what's absent from our understanding of the financial meltdown. The results of an inquiry conducted by the United States Congress.

Photo credit: AP Photo/Jose Luis Magana.

By Ezra Klein  |  November 20, 2009; 10:04 AM ET
Categories:  Financial Regulation  
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Next: Cloture vote on health care scheduled for Saturday. Also on the agenda: Cruel, cruel irony.


Its hysterical to me that you ever thought for a second the republicans would actually cooperate on regulatory reform, or anything else.

I mean, it has to be an assault on the idealism of people who like to believe the best about others, but we have one party trying to govern this country the best it can, and the other who sees its role as being not much more than that of an arsonist.

Posted by: zeppelin003 | November 20, 2009 10:29 AM | Report abuse

zeppelin003 beats me to the punch: the idea that the gop congresspeople we have today would in any way, shape, or form behave in a cooperative matter about anything is deranged.

i know it's hard to believe, but there simply isn't a single responsible, adult member of the gop in the senate or house: not a single solitary one. regardless of what they are like individually (and many of them are exceptionally stupid people), collectively they have are oppositional thugs and they have every intention of remaining that way.

and if the obama administration doesn't start calling them out for the thugs they are, they are going to win the pr battles: as bill clinton pointed out long ago, strong and wrong wins out over weak and right.

Posted by: howard16 | November 20, 2009 10:36 AM | Report abuse

Yeah, what zepp and howard said. You're dreaming if you anticipate that Republicans will cooperate with the administration on any -- *any*! -- significant piece of legislation. Part of it is that they're stuck in a George Bush mentality where anything other than doing it exactly their way is unacceptable, where cooperating with others and making compromises is considered a sign of unacceptable weakness. And part of it is that they just badly want to see Obama fail, and they're willing to sacrifice the country to see it happen.

Posted by: jeffwacker | November 20, 2009 10:54 AM | Report abuse

Face it, he bailed out AIG so Goldman would get all their money.

Posted by: obrier2 | November 20, 2009 10:54 AM | Report abuse

when liberals, conservatives and libertarians all agree that the Fed needs to be audited you can bet its going to happen and then hopefully FINALLY we can see irrefutable proof of what caused the housing bubble. The FED needs to keep its finger off interest rates. The sheer fact that some are complaining that this will politicize the Federal Reserve is absolute nonsense. ITS ALREADY POLITICIZED. This is just pulling back the curtain to see who has been politicizing it.

Posted by: visionbrkr | November 20, 2009 11:07 AM | Report abuse

visionbrkr: it's the job of the fed to set interest rates. what in the world are you talking about that it should keep its hands off interest rates?

and obrier2, i know it sounds all archly cynical and all, but you realize that if there had been an AIG haircut, all it would have meant is that the government would have loaned more money to goldman to make up for the haircut (putting aside, for the moment, goldman's claim that it was hedged either way).

Posted by: howard16 | November 20, 2009 11:10 AM | Report abuse

Howard, if the govt loaned the money at least GS would have to pay it back. That's better than giving GS a mutli-billion dollar gift.

Posted by: fuse | November 20, 2009 11:14 AM | Report abuse

fuse, that's a different matter: that's a question of whether AIG was handled correctly.

but obrier2 isn't saying that; obrier2 is saying the whole purpose of the AIG bailout was to make goldman whole, which, as i say, sounds knowing and all, but really isn't.

Posted by: howard16 | November 20, 2009 11:22 AM | Report abuse

The easiest way to make the bastards pay is to raise top income tax rates. Granted it is somewhat of a blunt instrument, but given the size of the financial sector and the proportion of folks from the financial sector among top earners, it is pretty good. But it is so much easier to beat up on a bureaucrat than an investment banker, an d if there is one thing we have learned about the GOP, they are frightened as well as spoiled children.

Posted by: Mimikatz | November 20, 2009 11:22 AM | Report abuse

I don't understand why we can't move on to fixing the problem, instead of trying to blame someone.

Regardless of how one thinks Geithner has performed, calling for his resignation and starting childish fights like Rep. Brady did is beyond my comprehension.

Do these people not understand that the run the U.S. Government and have more important things to do?

Their complete and utter disregard of history is not only mindboggling, but scary. They seem to be (scratch that, are) blaming Geithner for TARP and the economic downturn, while their party was the one that oversaw it and organized TARP. I'm not blaming it on the GOP, but it simply doesn't make sense for them to point the finger.

Posted by: drewhigham | November 20, 2009 11:23 AM | Report abuse


yes its the job to set interest rates but its NOT its just to keep interest rates low even though market pressures would normally increase rates. The government FOR YEARS (both Democrats and Republicans) have been holding down interest rates to make sure everyone can buy a home. Heck, if everyone can buy a home then we're all doing great right! Then people LOVE their politicians. Who cares if they can actually afford their mortgages? Go ahead and get second and third mortgages you can't afford to keep the economy going. The bill is finally coming due and that's why we're in the mess we're in. But still, knowing that, they still hold interest rates arbitrarily lower. They're screwing with the normal workings of the market and they need to stop.

And as far as AIG, the biggest problem that I have is the "deal" that Geithner gave to those purchasing parts of AIG. I have a client who "bought" a piece that they admit was pennies compared to what it was worth. That company just a week or two ago announced huge increases in profits while one of their compeititors in their market just yesterday just announced that their profits were down. Now they're obviously not tied together but I will say that if i EVER need to negotiate anything I won't be looking to Tim Geithner for help.

Posted by: visionbrkr | November 20, 2009 11:32 AM | Report abuse

Their complete and utter disregard of history is not only mindboggling, but scary. They seem to be (scratch that, are) blaming Geithner for TARP and the economic downturn, while their party was the one that oversaw it and organized TARP. I'm not blaming it on the GOP, but it simply doesn't make sense for them to point the finger.

Posted by: drewhigham | November 20, 2009 11:23 AM | Report abuse

I love this. I'm not blaming Republicans but i put THIS in there "while their party was the one that oversaw it and organzied TARP"

I'm sorry but you ARE blaming them. That's like a "john" complaining about infidelity while walking out of a seedy motel.

I'd like to ask Democrats if McCain had won if they would be harping on unemployment at its current levels. I voted for McCain but I'll readily admit now that Obama was better for the recovery than I think McCain would have been (although I'll also say after that, that the current administration's policies are continuing to hamper the economy).

I'd also like to say that IF a Republican president came out and said we're going to have a "jobs summit" and "give us your best ideas" he'd be slammed for not coming up with ideas and asking the American people for ideas. Well what the heck do we need you for then???

Posted by: visionbrkr | November 20, 2009 12:00 PM | Report abuse

I'm not blaming them for the financial crisis. I'm blaming them for TARP because, well, you know, they helped design and implement it.

The GOP, Congressman and tea baggers alike, keep blaming the Democrats for the bailout and acting as if their hands are clean. It simply is absurd.

Posted by: drewhigham | November 20, 2009 12:57 PM | Report abuse

I think it's far more accruate to say that the Fed's responsible for the crisis from a regulatory perspective than due to loose monetary policy.

Sure, the federal funds rate was kept low for a long time, but we need to remember just how weak the economy was in 2003. Unemployment rose faster from Jan03-Jun03 than Jan01-Jun01. Core measures of inflation fell to just 1.1% yoy in late 2003/early 2004, and the trend was lower and lower rates of inflation. Real GDP growth averaged just 1.4% from 2000Q3-2003Q2. As productivity grew quickly from 2000-2003, weak growth was a result of insufficient aggregate demand growth.

The economic fundamentals of the time suggested easy monetary policy. In mid 2004, when core inflation was approaching 2%, unemployment was around 5.5% and trending lower, and GDP growth solidly above 3%, the Fed began to tighten. And they couldn't have tightened all at once - that would have almost assuredly put the economy into recession in 2005, and instead of criticizing Greenspan for the 2007-2009 economic crisis, and instead of being criticized for contributing to 10.2% unemployment in 2009, it would have been for 8.5% unemployment in 2006. If the Fed had been perfect, they might have started tightening at the beginning of 2004, and would have been wrapping up in late 2005 - though I doubt that would have really made a difference in the grand scheme of things.

The problem was leverage, not monetary policy. The Fed/Congress let a bunch of people get heniously overlevered and when things went bad there was a lot of pain. If people were required to put 15%-20% down when they bought a home, there almost certainly would have been no mortgage crisis. Regulating leverage at the bank (and shadow bank) level would have been beneficial as well, but I'm fairly certain that no money down mortgages was the problem.

Easy money would have flowed into stocks or, more likely coming off an equity bubble, consumer prices. Once consumer prices started rising too rapidly, probably in 2005 or 2006 under this alternative scenario, the Fed could have tightened and cooled down aggregate demand, hopefully resulting in a mid cycle slowdown.

I agree with Scott Sumner that the Fed should target NGDP futures/expectations rather than interest rates, but in the context of monetary policy as it was conducted in 2003, I don't think the Fed made any huge mistakes given the information available at the time.

Posted by: justin84 | November 20, 2009 1:16 PM | Report abuse


you sound a LOT smarter than I am admittedly in regards to this policy but when you say:

The Fed/Congress let a bunch of people get heniously overlevered and when things went bad there was a lot of pain.

I would take that to believe that they DID hold interest rates down and in turn people GOT mortgages that they couldn't afford and then got second and third mortgages. Sure they also should have regulated the banking and mortgage industry better. I'd be 100% in favor of stating that when you purchase a mortgage you cannot mortgage more than a set percentage (70%) of your home's current value. If interest rates were allowed to rise to normal levels (or at least close to normal levels) then people wouldn't have been able to qualify for those mortgages. There also should be a mechanism in place that you need to have a certain income level over a certain period of time to get an ARM loan. Poor people that got ARM loans just to get into a house never should have been homeowners in the first place.

Posted by: visionbrkr | November 20, 2009 1:40 PM | Report abuse

There was no reason not to let AIG fail. That's what I'm saying. The only reason I've seen so far was Timmy helping out his banker friends with my dime.

Posted by: obrier2 | November 20, 2009 1:42 PM | Report abuse

I don't understand why we can't move on to fixing the problem, instead of trying to blame someone.

Posted by: drewhigham | November 20, 2009 11:23 AM | Report abuse

I'm not blaming them for the financial crisis. I'm blaming them for TARP because, well, you know, they helped design and implement it.

Posted by: drewhigham | November 20, 2009 12:57 PM | Report abuse

forgetting the contradiction here is it not Obama, Geithner, Summers etc that are now "IMPLEMENTING" the policy? Isn't it Geithner who negotiated the horrible deals for pieces of a broken up AIG? Is that our government at work?

I agree that Republican's screwed up and I'm 100% for getting rid of too big to fail. Bankruptcy worked for many other companies and it would have worked for AIG. But the fact that many on here give Democrats a "pass" i'm guessing because they're democrats is absolutely ludicrous.

Posted by: visionbrkr | November 20, 2009 1:46 PM | Report abuse


I'm not going to disagree that low interest rates played a role - they certainly did. However, interest rates are a blunt tool. Outside of housing, the macroeconomic backdrop was weak in 2002/2003. From 2002Q2 to 2003Q2, the economy in total grew just 1.7%, with residential real estate growing 5.4%, and everything else 1.5%. Over the same time, business productivity grew at a 3.1% pace, and so the supply side of the economy was expanding quicker than the demand side of the economy, as evidenced by the unemployment rate rising from 5.8% in January 2003 to 6.3% in June 2003. Over the next four quarters, to June 2004, GDP grew by 4.0%. GDP ex-residential real estate grew 3.5% - a decent pace of growth that the Fed was happy to see - and residential real estate investment grew at a blistering 13.0% pace.

Given twelve straight quarters of growth well below potential, the 3.5% pace of GDP growth outside of housing wasn't all that fast. However, part of the 13% growth in housing was clearly due to froth in the housing market. What was causing that froth? Well, as I said before, I agree that low interest rates were a part of it. However, I also believe that if the Fed has sent the Federal Funds Rate to a high enough level to have kept residential real estate investment growth at 5% or less from 2003Q2-2004Q2, the rest of the economy's growth would have probably be restrained at 1-2%. Given that productivity growth grew 3.9% over that time period, unemployment could have been around 7%-8% during the summer/fall of 2004. Also, core CPI inflation would probably have been at or close to 0% at that point, and with commodity prices probably falling with such tight monetary policy, overall CPI inflation would have been around 0% as well. With the federal funds rate at 4% or 5% at the same time, real short interest rates would have been about 4%-5%, which would almost certainly have put the economy into a rough deflationary recession by 2005. In that event, today we'd be upset at how the Fed put us into the great recession of 2005 rather than of 2008/2009.

That scenario is certainly speculative, but I think that is a fairly textbook reaction of a weak, disinflationary economy to sharply tighter monetary policy. Maybe the economy could have taken it, but it would have been quite the risk.

That is why I think the proper regulation should have been to regulate the financial sector so that easy moeny would translate primarily into demand for goods and services rather than assets, and if persistent inflation resulted the Fed would be obliged to fight it, without worrying about what tight money would do to an overleveraged financial system. Perhaps there could have been broad regulatory changes, but I would guess than requiring 20% down would have ended most of the speculatory froth in the housing market from 2004-2006.

Posted by: justin84 | November 20, 2009 3:50 PM | Report abuse


thanks for educating us all.

One question for you:

When the economy grew at 1.7% and residential real estate grew at 5.4% should that not have clued in the FED that they needed to adjust policy? THen even moreso shouldn't they have seen it the following year when GDP grew at 4% and residential grew at 3.5% but real estate investment grew at 13% which is a ridiculously high number. If not for the numbers maybe all those late night "NO MONEY DOWN" infomercials could have clued them in, no?

There absolutely needs to be serious reform in the mortgage market to fix this so it never happens again.

Posted by: visionbrkr | November 20, 2009 4:06 PM | Report abuse


Should the Fed/regulators have been more concered about a housing bubble in 2003/2004? Sure. I think the data supported that. For what its worth, a growing number of market commentators thought that the market was becoming a bubble in 2003/2004, IIRC.

I just don't think they should have tightened monetary policy aggressively to cool off the bubble. Economic growth of 1.7% in the context of 3%+ productivity suggests very weak aggregate demand growth, which is disinflationary. If core inflation is running at 1.1% and on a declining trend, unemployment is above 6% and rising, then tightening monetary policy is probably a mistake. A much tighter monetary policy could have killed the housing bubble, but it would have also reduced aggregate demand in sectors which were barely growing/contracting, and killed the expansion as well. The Fed could have started hiking earlier and finished sooner, but I highly doubt that even an aggressive Fed would have finished the rate hike cycle before early 2005, probably too late for a great deal of the housing bubble damage.

The appropriate policy move in my view would not have been to hike interest rates, but to have made the "No money down!" commercials illegal, because lenders would have been prohibited from making no money down loans.

I agree that ARMs in particular might need regulation. It could either be straight out prohibition or a stress test (e.g. mortgage payment must be less than 33% of borrower's current income if they must refinance at the end of the ARM's fixed period into fixed rate loans 200bps above current levels). I'd probably straight out prohibit negative amortization mortgages, except perhaps for high net worth borrowers. In general though, I think 20% down would do most of the heavy lifting here. Government regulation reform that could fit on an index card (or for that matter a fortune cookie)!

Posted by: justin84 | November 20, 2009 5:34 PM | Report abuse


its funny because i'm a huge advocate of Peter Schiff as he called it several years before it happened. I remember when he was on the Daily Show and they showed clips of Jim Cramer bashing him and then he was proven right. Hysterical but scary. He's also in favor of the audit of the FED. Its a shame he's not getting more press about his Senate run. i guess as long as Dodd loses then I'll be fine but I'd rather Schiff in there.

Posted by: visionbrkr | November 20, 2009 11:52 PM | Report abuse

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