Did you like the financial crisis of 2008?

Ben Bernanke is a putz. He looked at a major solvency (debt) problem and saw a liquidity problem -- because he was predisposed to see the world that way. So he got the keys to the car, and flooded the economy with even more liquidity. And created an even bigger solvency problem than him and Alan Greenspan had created in the first place by flooding us with too much liquidity, which was what created massive amounts of debt in the first place.

As for Dodd-Frank, don't conflate the sweeping mess that it was with this story. Dodd-Frank is symptomatic of the same thing. At best, it creates a mess by subverting the markets that those "regulated" operate in. And at worst, it was filled with outright corruption that was designed to benefit someone who had access to the people who wrote the bill.

 

Don't confuse the meltdown itself with what our government does in the aftermath of the meltdown. The credit bubbles we keep creating and then crashing from -- pretty much from Long-Term Capital Management in the 1990s to Lehman Brothers in the late 2000s and whatever is next -- have been created by horrible monetary and fiscal policy. Messing with our credit markets in a way that creates too much liquidity and the rampant speculation that that encourages, combined with a government that benefits fiscally from the supression of interest rates because it has created massive amounts of debt.

When you overheat the economy with never-ending manipulation of our interest rate markets, and you get a meltdown somewhere in the financial sector, the question is, "what now?" Our answer has been bailouts supervised by the Federal Reserve, and now there is an implicit understanding that if you are politically connected and you overleverage yourself to bankruptcy, there will be a bailout waiting for you. What the crony-bus bill did was take that implicit understanding and codify some of it to make it explicit. Congrats. We now have law that guarantees that mediocrity gets rewarded -- for certain people who are able to buy that legislation.

That doesn't mean that Citibank itself is on course for another meltdown. It may be. But in fact, it isn't likely. But we are in a bubble economy right now -- the monetary response to what happened in 2008 was to do more of what caused it -- except at insane levels. What we needed was the bust that comes after you create an artificial boom. It would have meant a much shorter, but more intense recession and a lot of pain. And then a natural recovery via creative destruction. They didn't allow that to happen. And they took the existing problem and just added to it. Eventually we will have to get that bust. They are just delaying it. And making the inevitable worse by creating more and more liquidity that creates more of a debt / credit mess throughout the economy.

And all of the liquidity that is sloshing around our economy has created a ton of malinvestment -- similar to the bad investment in housing stock from 2000 to 2008 that everyone now understands. But everywhere. And it is a systematic danger. So when it isn't Citibank that meltsdown, but some other entity, are we going to be there with the bailout? And if so, how are we going to pay for it now that we have quadrupled our debt and in a rising-interest rate environment (when they can no longer manipulate rates) we are drowning in interest payments -- both in terms of public and private debt?

 

DQ, I don't know why it has be a very hard concept for anyone. When you create skewed incentives for people, they respond to those incentives -- rigging our interest rate markets all but forces people to do risky things with money. Suppression of rates by someone rigging our markets skews the risk/reward equation.

For example, taking the risk out of lending by giving a centralized authority control over our credit markets, which they have used (from Alan Greenspan's reign to present) to continually suppress interest rates (and intervene in those markets several times, by actually buying assets to drive the prices up and suppress yields). ... It creates an environment in which investors looking for reasonable yield from safe deposit instruments, can't find it. So they reach into speculative, and unsafe, instruments, to try to find the yield. For example, the retiree who saved their whole life and wants to live off a dividend from some bonds that are no risk of defaulting-- they can no longer do that and meet their goals. Those people still need to eat As a result, they have to lend to riskier and riskier financial instruments in order to earn a reasonable yield. And that creates the malinvestment. Money gets allocated to places it never would have in a self-regulating market.

At the margin, it actually has created rampant speculation. It is cheap to borrow. So people avail themselves of the cheap money and turn around and throw that money into ridiculous things -- into things that would frankly not look like good ideas in a market that is regulating itself, rather than being manipulated in a naive attempt to get people to borrow and spend.

Because everyone is reaching for yield, risky businesses that would normally find it extremely difficult to borrow have had no problem financing their risky businesses. And in fact, they are able to do it relatively cheaply, because interest rates are being suppressed. All of that money flowing to those places is malinvestment that would never have found its way where it has -- without a central bank meddling in our markets and creating the conditions for that malinvestment.

Alan Greenspan thought this was the greatest thing ever. But eventually that kind of fantasy world comes crashing down. It did in 1994. It did again in 2000. It did again in 2008. And it will again, except with greater consequences, because they went bonkers after 2008 -- rather than allow the crash they brought on us to happen and deal with the consequences, they have doubled down. That has created an even bigger problem that ensures the next crash (wherever it begins, from whatever catalyst sets it off) is even worse.

I liken it to a heroin addict. Once you hook yourself, you have to go through withdrawal. But it is really hard. Doing more and more heroin may feel good at the moment, but you are just making it worse. And eventually there is a moment of truth. You OD or somehow clean up.