Reader Shogg on Markets

Reader Shogg sees the news and ponders a question…. (I’ve edited his/her e-mail slightly so it stands alone as a blog post.)


Over the years, I’ve heard lot of praise for letting the “market” do its thing rather than resort to government regulation. So, we now have a situation where various “markets” (subprime, derivatives, structured investment thingies) are experiencing difficulties. It would appear that CDOs that include subprime mortgages were not as good of investments as people initially thought, maybe not Alt As either, and it even appears that the ratings agencies didn’t do such a hot job of
rating (ie.., little evidence to support their ratings). It also appears that there may have been a hefty amount of overleveraging by various entities, sectors, what have you. That’s just my vagueish description, I am still trying to figure out what an increase in basis points in those relatively new indices (CDX in the US) mean or why it’s so important. I finally found a good definition of credit swaps yesterday, in the Financial Times (or was it an editorial in Bloomberg News online?).

But the response is not what one would expect if one were a believer in letting the markets work things out (since they do it best, right?) as say, Andrew Mellon did according to new biography of him I read a few months ago).

Instead, Germany helped bailout a lender that had gotten in over its head. Bear Stearns tried to bail out two of its funds and if I recalls, has halted redemptions in another fund. Goldman Sachs has halted redemptions in at least one fund. Then I read that both the Fed and I think it was the ECB are scrambling to inject “liquidity” (or more money) into the system by a method I don’t wholly understand but it appears to be pumping billions more dollars into the system.

My question is: why? If the markets are so great, why are government institutions seeking to manipulate them (in the case of the Fed, I couldn’t tell if they were doing the manipulation with tax dollars or not)? Why are gov’ts organizing bailouts of lenders who have made poor investment decisions? As Mellon (and many others) have pointed out, isn’t that just encouraging stupid/overly risk taking behavior? Even more to the point, isn’t that messing with the “normal” or natural
workings of the market?

I guess that’s my question: what’s a free market or a market if any time it looks as though things are getting a big too messed up, gov’ts and central banks leap in and interfere? Effectively protect big banks, etc, from the consequences of their stupidities? Will it be the S & L bailout (125 billion cost to the taxpayers) all over again? If the gov’t will interfere to bail out, then why can’t it interfere to stop the idiocies that result in the bailouts? (i.e., why did Greenspan–allegedly, I guess–encourage the development of at least two bubbles?).

There seem to be some philosophical and logical inconsistencies at work here. Or that’s the way it seems to me. I guess another question is: that’s how it looks to me, but is my vision flawed by ignorance? Failure to understand some essential principles of the “market”? What would be the principles or concepts that I’m unaware of that would make gov’t/market interplays make sense? (i.e., that the market is getting free play, make things more “economically” if not physically more
“efficient”. Now that I think about it, I’m not that sure of what markets are supposed to do, let buyers buy, sellers sell, I guess).


This post was by reader Shogg.

I’ll throw my two cents in, then open it up for comments…

Cent 1. There’s a quote often attributed to Martin Luther King that goes something like this: “In this country, there is capitalism for the poor and socialism for the rich.” I think whoever said it, whether MLK or someone else, is right. Capitalism requires being allowed to fail. If my business tanks, nobody will do anything to keep me from failing. The Fed won’t convene a meeting, there won’t be a taxpayer bailout, and it will be nobody’s problem but my own. That sort of thing – Fed meetings, taxpayer bailouts – that’s only for the big dogs. And most of them come out of the process reasonably well. A poor person who declares bankruptcy is screwed. But Donald Trump, apparently, uses bankruptcy as a financial instrument.

Cent 2. Nouriel Roubini has a great post on the current problems.