Category: Commentary

What Is Wrong With Cutting Taxes?

By Simon Johnson

The president and congressional Republicans have reached a deal that would cut taxes “for all Americans.” Their argument is that this package will stimulate the economy, create jobs and help lead to economic recovery and sustained growth.

This proposal, which seems likely to pass Congress, is not a good idea. Why? (To see me explain these points in a five-minute video, click here.) Vice President Dick Cheney said, loud and clear, in 2002: “Reagan proved deficits don’t matter.”

He was right that Ronald Reagan showed the Republican Party that you can get away with running significant deficits as a result of tax cuts – exactly the strategy of President George W. Bush.

But Mr. Cheney was completely wrong with regard to the implication that there are no economic consequences of sustained fiscal deficits. Continue reading “What Is Wrong With Cutting Taxes?” →

More on the Tax Deal

By James Kwak

First, the comic relief. From the Times:

“Senator Jim DeMint, Republican of South Carolina, said that he still wanted the Bush-era rates extended permanently and that the cost of the package was worrisome.”

I got some valid criticisms for my last post on the tax cut deal. In particular, that post may make it seem as if my criticism of President Obama has to do with his negotiating ability. But if Obama really wanted the outcome he ended up with, then he is a master negotiator; where I really differ from him, then, would be in what policy should be.

Continue reading “More on the Tax Deal” →

Should Megabanks Be Broken Apart? (NYT Room For Debate)

By Simon Johnson.  This material was prepared as part of the New York Times’ Room for Debate on “Should Mega-Banks Be Broken Apart“?  I strongly recommend the post by Anat Admati.

Writing in the Washington Post, in November 2009, Jamie Dimon, chief executive of JP Morgan Chase, argued:

“Creating the structures to allow for the orderly failure of a large financial institution starts with giving regulators the authority to facilitate failures when they occur. Under such a system, a failed bank’s shareholders should lose their value; unsecured creditors should be at risk and, if necessary, wiped out. A regulator should be able to terminate management and boards and liquidate assets. Those who benefited from mismanaging risks or taking on inappropriate risk should feel the pain.”

But the Dodd-Frank financial reform legislation does not create a “resolution mechanism” that can deal with cross-border megabanks; this point is admitted by all involved. And there is nothing in the G20 process or underway with any other international forum that would make a difference in this regard. Continue reading “Should Megabanks Be Broken Apart? (NYT Room For Debate)” →

Tax Cut Ironies

By James Kwak

From The New York Times:

“Congressional Republicans in recent days have blocked efforts by Democrats to extend the jobless aid, saying they would insist on offsetting the $56 billion cost with spending cuts elsewhere.”

Instead, as it turns out, they agreed to offset the cost with tax cuts elsewhere.

Still, though, I place the blame for this one squarely on the White House. The Republicans are just doing what Republicans do: arguing for lower government spending and lower taxes. The fact that they justify the former by saying it will cut the deficit and the latter by saying it will stimulate the economy (when you could just as easily switch the arguments and make them point the other way) is just a detail.

Continue reading “Tax Cut Ironies” →

What Jamie Dimon Won’t Tell You: His Big Bank Would Be Dangerously Leveraged

By Anat Admati, Professor of Finance and Economics at Stanford Graduate School of Business.  To see her explain these issues in person, watch this Bloomberg interview.  This is a long post, about 3,500 words.

The debate is raging about banks and their size, financial regulation, and the international capital standards known as “Basel”.  Jamie Dimon of JP Morgan Chase, in his New York Times magazine profile, expresses admiration for the Basel committee and says,

“… they are asking the questions that, in theory, bankers ask of themselves: how much capital do banks need to withstand the inevitable downturn, and what is an acceptable level of risk?”

There is one problem, however. Basel may have asked the right question, but it did not come up with the right answers, mainly because it allows banks to remain dangerously leveraged, setting equity requirements way too low. This fact is not understood because the debate on capital regulation has been mired with a cloud of confusion, and filled with un-substantiated assertions by bankers and others. As a result, the issues appear much more mysterious and complicated than they actually are.

After a massive and incredibly costly financial crisis, we seem to have financial system that is a more consolidated, more powerful, more profitable and, yes, as fragile and dangerous as we had before the crisis. How did this happen and what can we do?

Here are some questions on which the confusion is staggering. Continue reading “What Jamie Dimon Won’t Tell You: His Big Bank Would Be Dangerously Leveraged” →

Jamie Dimon: Becoming Too Big To Save – Creating Fiscal Disaster

By Simon Johnson

In Sunday’s New York Times magazine, Roger Lowenstein profiles Jamie Dimon, head of JP Morgan Chase.  The piece, titled “Jamie Dimon: America’s Least-Hated Banker,” is generally sympathetic, but in every significant detail it confirms that Mr. Dimon is now – without question – our most dangerous banker.

Mr. Dimon is not dangerous because he is in any narrow sense incompetent.  On the contrary, Mr. Dimon is very good at getting what he wants.  And now he wants to run a bigger, more interconnected, and more global bank that – if it were to fail – would cause great chaos around the world.  Lowenstein writes,

“Dimon has always been unusually blunt, and he told me that not only are big banks like JP Morgan (it has $2 trillion in assets) not too big, but that they should be allowed to grow bigger.” Continue reading “Jamie Dimon: Becoming Too Big To Save – Creating Fiscal Disaster” →

Imminent Eurozone Default: How Likely?

By Simon Johnson

The big question of the week in Europe is deceptively simple – will any countries that share the euro as their currency default on their government or bank debts in the foreseeable future?  The answer to this question determines how you regard bonds from countries such as Portugal, Spain, Italy, and Belgium.

Answering this question is not as simple as it seems, however, because it involves taking a view on three intricate issues: What exactly is the eurozone policy now on bailouts, can big eurozone countries really be bailed out if needed, and what happens to the politics of these countries and of the eurozone has a whole as pressure from the financial markets mounts?

The prevailing consensus – and definite official spin – is that over the weekend European leaders backed away from the German proposal to impose losses on creditors as a condition of future bailouts, i.e., from 2013.  The markets, in this view, should and likely will calm now; there is no immediate prospect of any kind of sovereign default or (more politely) “reprofiling” on debt, including the obligations of big banks.

But a close reading of the Eurogroup ministers’ statement from Sunday suggests quite a different interpretation.  It’s a straightforward text, just 2 ½ pages long, but it has potentially momentous consequences – as it envisages dividing future eurozone crises into two kinds. Continue reading “Imminent Eurozone Default: How Likely?” →

The Economics and Politics of Elizabeth Warren

By Simon Johnson

Congressional Republicans are apparently intent on a big showdown with Elizabeth Warren, who is currently building up the new Consumer Financial Protection Bureau (CFPB).

This is very good news for the White House, if they use this opportunity wisely.

Some Republicans seem to think that Ms. Warren is about “big government” or “intrusive regulation”.  But this is not the case – Elizabeth Warren’s approach is much more appealing and already popular with almost everyone on right and left: Transparency. Continue reading “The Economics and Politics of Elizabeth Warren” →

The Eurozone Endgame: Four Scenarios

By Peter Boone and Simon Johnson

In the aftermath of the Irish bailout, the German proposal for a future sovereign and/or senior bank debt restructuring mechanism within the eurozone makes complete political sense to the electorate in stronger European countries.  They do not want to write “blank checks” to weaker countries and to out-of-control financial institutions going forward; creditors to countries that run into trouble will face likely losses.

While the details of this “burden sharing” approach remain to be hammered out (after Sunday’s announcements), there is no way for German or other politicians to backtrack on the broad strategic principles.  But once this arrangement is in place, say in 2013 or thereabouts, all eurozone countries will (a) be able to sustain less debt than has recently been regarded as the norm, and (b) become vulnerable to the kinds of speculative attacks in debt markets that we have seen in recent weeks – to reduce funding rollover dangers, they will all need to lengthen the maturity of their outstanding debt. 

The end point is clear.  Last week the markets began to work backwards to today’s debt profiles; major disruptions still lie ahead.

Ultimately, there will be a eurozone will greater shared fiscal authority, a common cross-border resolution authority for failed banks, and likely greater economic integration.  But there are four scenarios regarding who ends up in that eurozone – and how we get there. Continue reading “The Eurozone Endgame: Four Scenarios” →

Will Ireland Default? Ask Belgium

By Simon Johnson

On the face of it, Ireland seems poised on the brink of default. Its debts are very large relative to the size of its economy, most of this money is owed to foreigners and – unless there is an unexpected growth miracle – the country will struggle to pay its debts in full for many years to come.

Yet all the indications are that, as part of the historic rescue package to be introduced this week by the European Union and the International Monetary Fund, Ireland will not default on or otherwise restructure its most substantial debts. Why not?

To be clear, Ireland owes a huge amount of money to the outside world. In the best scenario, Ireland’s government debt is likely to stabilize at more than 100 percent of gross national product (G. N. P.); in the worst scenario, with greater real estate losses and a deeper recession, this level could reach 150 percent. Continue reading “Will Ireland Default? Ask Belgium” →

Who Gains From The Eurozone Fiasco? China

By Simon Johnson

Ireland will get a package of support from the EU and the IMF.  Will the money and the accompanying policy changes be enough to stabilize the situation in Ireland or more broadly around Europe?  Does it prevent Ireland from restructuring its debt – or move the Irish (and other parts of the European periphery) further in that direction?

And who gains from the delay and mismanagement we continue to see at the highest European levels?

This is complicated economic chess within Ireland, across Europe, and at the international level.  In my Bloomberg column this morning, I suggest we look several moves ahead, recognizing the underlying political dynamic:

There is a much more general or global phenomenon in which powerful people cooperate to build an economic model that provides growth based on a great deal of debt. When the crisis comes, those who control the state try to save their favorite oligarchs, but there aren’t enough resources to go around

…..

Here is the present problem: It’s not just the Irish elite that is under pressure and struggling to sort out who should be saved. It’s also the European bankers who funded them. Continue reading “Who Gains From The Eurozone Fiasco? China” →

“We Have Good Processes and Good Controls”

By James Kwak

One of the things I can’t stand about the corporate world is the tendency of senior executives to say things that they wish were true, without verifying whether they actually are true or not. Perhaps my favorite example of all time is Stan O’Neal’s internal memo from mid-2007:

“More than anything else, the quarter reflected the benefits of a simple but critical fact: we go about managing risk and market activity every day at this company. It’s what our clients pay us to do, and as you all know, we’re pretty good at it.”

But here’s another good one from Barbara Desoer, head of Bank of America’s home loan division (to Bloomberg):

“We believe that our assessment shows the basis for past foreclosure decisions is accurate. We have good processes and good controls.”

And apparently she’s sticking with this line. This week she told Congress, “Thus far we have confirmed the basis for our foreclosure decisions has been accurate.”

Continue reading ““We Have Good Processes and Good Controls”” →

Fixing The US Budget – Straightforward Or The Hardest Problem On Earth?

By Simon Johnson

The conventional wisdom is that we face a serious budget problem, ballooning debt and political deadlock that prevents any semblance of progress either in the short term or over the next 20 years. “The sky is falling — cut everyone’s wages, slash Social Security, buy gold!” summarizes the mood of this midterm moment.

But step back and look at American public finances from any angle — historical, comparative with other nations, from Mars — and the picture is very different. We have a simple economic problem — we need to fix our tax system, irrespective of how much revenue we want from it. And we continue to face the central American political problem of the last 200 years: how much inequality are we willing to accept as reasonable and fair? Continue reading “Fixing The US Budget – Straightforward Or The Hardest Problem On Earth?” →

The Law of Software Development

By James Kwak

I recently read a frightening 2008 post by David Pogue about the breakdown of homemade DVDs. This inspired me to back up my old DVDs of my dog to my computer (now that hard drives are so much bigger than they used to be), which led me to install HandBrake. The Handbrake web site includes this gem:

“The Law of Software Development and Envelopment at MIT:
Every program in development at MIT expands until it can read mail.”

I thought of that when I heard that Facebook is launching a (beyond) email service.

(The side benefit of this project is that now I get to watch videos of my dog sleeping whenever I want to.)

The Debt Problems of the European Periphery

By Anders Åslund, Peter Boone and Simon Johnson

Last week’s renewed anxiety over bond market collapse in Europe’s periphery should come as no surprise.  Greece’s EU/IMF program heaps more public debt onto a nation that is already insolvent, and Ireland is now on the same track. Despite massive fiscal cuts and several years of deep recession Greece and Ireland will accumulate 150% of GNP in debt by 2014.   A new road is necessary: The burden of financial failure should be shared with the culprits and not only born by the victims.

The fundamental flaw in these programs is the morally dubious decision to bail out the bank creditors while foisting the burden of adjustment on taxpayers.  Especially the Irish government has, for no good reason, nationalized the debts of its failing private banks, passing on the burden to its increasingly poor citizens.  On the donor side, German and French taxpayers are angry at the thought of having to pay for the bonanza of Irish banks and their irresponsible creditors.

Such lopsided burden-sharing is rightly angering both donors and recipients.  Rising public resentment is testing German and French willingness to promise more taxpayer funds.  German Chancellor Angela Merkel’s hasty and ill thought out plan to demand private sector burden sharing, but only “after mid-2013”, marks a first response to these popular demands.  We should expect more. Continue reading “The Debt Problems of the European Periphery” →