Randomly Noted

A socialist U.S. senator and a central banker issued very separate critiques of the U.S. banking system, but in their own ways they both question the interconnectedness of the big-time, global financial system.

The seemingly odd couple consists of Sen. Bernie Sanders, the independent from Vermont, who was much in media demand on Wednesday, since he was key to forcing the Federal Reserve to reveal the names of the recipients of the Fed’s loan largesse during the dark days of the financial crisis. The other is Thomas M. Hoenig, the president of the Federal Reserve Bank of Kansas City and a lone, serial dissenter from the super-easy monetary policies of the U.S. central bank.

Both implicitly were praising a bygone time, when national politics and policies were not so out of sync with the fully global and totally tangled nature of the financial services world. It’s an open question whether U.S. decisions alone can challenge that structure and leave a vibrant financial services industry in its wake.

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Call it the authoritarian advantage.

The notion gets tossed around all the time in macroeconomic discussions. In difficult economic times, non-democratic countries have an advantage. They can make fast decisions by fiat, steering their economies as they see fit. In democracies, of course, things are messier and slower.

Of course, no one here is advocating dictatorship, economic or otherwise. The freer the economy and the citizen the better. But it is worth noting in these troubling times, America is following an expected pattern in which so-called economic and business elites believe in certain paths to economic improvement and growing numbers of voting citizens think otherwise.

Call it a populist backlash.

Example one is the bank bailout. Lots of people now call TARP (Troubled Asset Relief Program) some variant on the best program that also managed to be the most hated. Many people understand that letting the financial system collapse in 2008-09 would have meant greater disaster for everyone, but having voted for bank bailouts is now no badge of honor for politicians seeking re-election.

Trade is another one. It wasn’t long ago there was a pretty broad coalition in the U.S. that believed the freer the trade, the better. The U.S. would benefit because from agriculture to banking services to manufacturing equipment, we had some useful things to sell the world.

Sure, many unions and other advocates of manufacturing workers, whose jobs could easily be shipped abroad, stood long opposed to freer trade, but they now have lots of company. It’s understandable that when jobs get scarce people want to build walls around the jobs that remain, but such policies, especially if widely adopted by nations, will hurt everyone.

The U.S. Federal Reserve is expected to embark on another round of quantitative easing to help spur the stuck-in-the-mud economy. The essential increased printing of money to buy Treasury securities will hurt the value of the dollar, but the Fed believes a stronger level of inflation and even higher inflation expectations are needed to get people and businesses spending again, eventually increasing employment and keeping the scary deflation monster at bay.

But the notion of higher inflation, especially engineered by a central bank, likely won’t sit well with many people. In a recent issue of The New Yorker magazine, James Surowiecki cited a 1996 study by the well-known Yale economist, Robert Shiller, that showed “sizable majorities” of people globally are dead set against inflation, even in a trade-off for higher employment.

That might well be a reasonable stance, because once ignited inflation and its expectations are tough to tame. Also, the Treasury bond buying plans bythe Fed might simply not work. At least Fed officials don’t have to worry about getting re-elected.

People in Congress do, and that’s why it’s a pretty sure bet there won’t be another big round of fiscal stimulus coming, absent an economic disaster. Too much worry about the giant federal deficits already created.

Even though, abstractly at least, the case could be made the Fed’s efforts would have a better chance of success if there was a stimulative assist from fiscal policy, leaving the essential and extraordinarily diffiicult deficit reduction issue for another day.

If you are wondering how exactly the further empowered Federal Reserve and the bevy of other U.S. bank regulators plan to do a better and faster job the next time a financial crisis comes around, take a look at some common sense dispensed by Eric S. Rosengren, president of The Federal Reserve Bank of Boston.

In the text of a Sunday speech in Washington, Rosengren uses sophisticated language and slides to get to this basic point: when things are headed south in the financial sector, get to the banks’ dividends, early and decisively.

With the benefit of hindsight, Rosengren notes that certain clear signs emerged in the latter part of 2007 that real trouble was brewing. Still, ”the dividends on common stock declared by the largest banking organizations … actually increased in the fourth quarter of 2007, and did not show dramatic reductions until after the financial crisis hit a crescendo in the fall of 2008.”

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It’s fashionable to call TARP (Troubled Asset Relief Program, to be official) the most effective program that everyone hates. Hated because of the perception the big banks got bailed out for what’s perceived as their own mistakes, hated because of the notion that Main Street was handed the short end of the stick while Wall Street pretty much gets to merrily ramble on.

With expectations now that even the humbled insurance giant, AIG, is coming around to payback time, government officials are touting TARP as the plan that saved us from financial disaster and ends up not destroying the taxpayer.

“The direct budget cost of the program and our full investment in the insurer AIG is likely to come in well under $50 billion – $300 billion less than estimated by the Congressional Budget office last year.” So wrote Treasury Secretary Timothy Geithner in an “op-ed” article published Sunday in The Washington Post.

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How about this -  a synthetic CDO that allowed one to go long or short the U.S. Senate Permanent Subcommittee on Investigations hearings today into Goldman Sachs and its role in the subprime mortgage meltdown. Something tells me there would be more people looking for the short position than the long position.

This subcommittee has spent 18 months looking into Goldman and its mortgage operations. A good six hours into the hearings, and in this blogger’s view, there have been no smoking guns. In fact, if anything, you come away with the feeling that these senators don’t understand what they are looking into.

For example, Chairman Carl Levin repeatedly asks the executives of Goldman if the firm had a significant short position. And they keep saying, yes we did, to offset a long position (something called hedging, Mr. Levin). And Levin replies that’s not what he asked (the long position answer).

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The New York Fed on Maiden Lane

The Securities and Exchange Commission today approved a rule today designed to reduce the risk in markets like those for asset-backed securities. But some real questions remain as to whether the new rule would really prevent much of anything.

Basically, the SEC wants issuers of asset-backed securities to retain at least 5% of the securities they are offering. As SEC Chairman Mary Schapiro says: It will force them to have some “skin in the game.”

But will making issuers have “skin in the game” really make them more responsible in evaluating risk?

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The New York Fed yesterday revealed some details of its Maiden Lane holdings – funds that were set up to assume some of the crappy assets that weighed down Bear Stearns and AIG. And when you take a close look through the more than 150 pages of holdings, you see that the taxpayer is really sitting on a bum portfolio of securities, ranging from commercial real estate loans to bad residential mortgage securities to collateralized debt obligations.

But one eye opener for this blogger – it looks like among the Bear Stearns securities the Fed (and therefore you and I) assumed were credit default swaps. And swaps that were connected to mortgage insurers. Is it possible that on one hand Bear Stearns was putting together packages of bum mortgage securities it was selling to investors while at the same time betting that the insurers who were backing these and similar securities were going to run into trouble (which of course they did)? At a minimum, it all looks very odd.

To see the Fed report, click here and then go to the bottom of the Fed press release to access the three PDF files on the Maiden Lane holdings. The first PDF details the Bear Stearns holdings.

When it comes to annual letters to shareholders, Jamie Dimon is no Warren Buffett.

Dimon, JPMorgan Chase’s chairman and chief executive, recently deposited 37 pages on unwitting holders that included none of the folksiness nor clever turns of phrase that pepper the writing of the famous Omaha investor.

Somebody should have told Dimon, arguably the most influential person in banking, that 37 pages is just too long and a little humor never hurts.

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The top bankers at Big British financial institutions appear to be more responsive than their American counterparts to public outrage about large bonuses, especially for those banks that received government aid.

Our Newswires colleague Patricia Kowsmann inLondon reports Lloyds Banking Group Chief Executive Eric Daniels waived his 2009 bonus. He was entitled to 2.3 million British pounds despite the company planning to report a net loss for the year and being 41%-owned by the British government.

Stephen Hester, who heads Royal Bank of Scotland, 84% owned by the U.K. government, will turn down a 1.6 million bonus, Kowsmann reported.

Perhaps more surprising was the bonus turn down by Barclays CEO John Varley. That bank has thrived and taken no government assistance.

Might simply be a case – rare as it seems - of true long-term thinking in the executive suite. The Barclays restraint should serve the bank well with an angry public. 

Significant bonuses at loss-making institutions are no doubt harder to understand.

“This is not Bolivia,” U.S. Treasury Secretary Timothy Geithner is quoted by The Wall Street Journal as having said when pushed by others to not honor contractually mandated bonuses to certain employees of American International Group.

It’s a good quote and a better policy. Give Geithner credit for a willingness not to bend to populist demands. In the end, upholding contracts and reinforcing that the U.S. is  a place where legal agreements are honored even when they become wildly unpopular and perhaps even grossly unfair is much more important than scoring an immediate political point or two.

The profile today of Geithner in The Wall Street Journal by Deborah Solomon is well worth reading. One interesting point: despite the criticism he’s endured in the role, largely on Capitol Hill, a significant part of the U.S. population doesn’t know who Geithner is.