Monday, May 11, 2009

We are all socialists now

Richard Nixon once famously said “We are all Keynesians now.” Within a decade of that comment, Keynesian ideas had become largely discredited. Now, the world is turning Left after a long period of embracing free market ideas. Avner Mandelman noted with some indignation on this Leftward lurch:

What did Mr. Obama say? He said he stands with the unions against Wall Street, and vehemently faulted hedge fund bond investors for insisting on their legal rights in a bankruptcy.

I am not sure if you grasp how momentous this is. A U.S. president effectively said the law be damned, the sanctity of commercial contracts be damned, if such constructs cause pain to unions.

Indeed, the Economist recently commented that:

Rather than challenge dirigisme, the British and Americans are busy following it: Gordon Brown is ushering in new financial rules and higher taxes, and Barack Obama is suggesting that America could copy some things from France…

Is America that much a bastion of the free market? Barry Ritholz wryly made these observations about the differences between Europe and the US and asked "Who is the Welfare State":

-Europe has cradle to grave health care plans, generous unemployment benefits, and free or subsidized college costs.

-The US gives away public assets (oil, gas, mineral rights) for pennies on the dollar, has huge subsidies and tax breaks, and bails out reckless speculators.

Is the free market system, as it’s set up, broken? Tyler Durden over at Zero Hedge, claims to have found an article by Deepak Moorjani, formerly of Deutsche Bank, who wrote on the socialization of risk:

Our asymmetric incentive structure is fundamental to our problems. The question remains: Do we maintain the status quo and naively hope for better results, or do we begin to implement structural reforms in order to align the incentives? If taxpayers are forced to pay for the losses from bad trades, this socialization of risk adds to the moral hazard problem. This socialization of risk actually encourages more aggressive behavior in the future.

The call-option bonus structure has led to the ascendency of sales over risk management. Maintaining the status quo is not a smart bet, and we cannot afford to ignore the fundamental issues of structure and compensation.

I have written before on how to fix the asymmetry problem – bring back the partnership investment bank. Meanwhile, nothing changes on Wall Street. Paul Krugman recently commented:

Does anyone remember the case of H. Rodgin Cohen, a prominent New York lawyer whom The Times has described as a “Wall Street éminence grise”? He briefly made the news in March when he reportedly withdrew his name after being considered a top pick for deputy Treasury secretary.

Well, earlier this week, Mr. Cohen told an audience that the future of Wall Street won’t be very different from its recent past, declaring, “I am far from convinced there was something inherently wrong with the system.”

For too long, the Right hid behind the principles of the free market when it was to their advantage and now the chickens have come home to roost. This wave of socialization will pass in time. In the meantime, please stand and join in a singing of Internationale.


Eric said...

Good stuff!

Cam Hui, CFA said...

Thank you - Comrade Eric!