In The Road to Financial Reform, Henry Kaufman (fka "Dr.Doom") considers the recent meltdown and serves up a heapin' platter o' "I told you so." He surveys a catalog of causes and isn't coy about reminding us he warned us about so much of this long ago. And just in case anybody thinks he is cooking the record, he documents his account with extensive reprinted excerpts from his own old speeches.
It's a bracing read, coming from a guy with such gravitas. He turns 83 this year. His memoir, On Money and Markets (2001) is an absorbing account of his long career on Wall Street, with insightful reflections in the his long career, and laced with more than a bit of baffled admiration at the changes he'd seen. Bracing, although not particularly new or pathbreaking: the market is more complicated than it used to be; there's way too much debt; we need better regulation and it needs to be global. Yes, we knew that, but it is interesting to hear it said by somebody whose memory extends back more or less to the invention of money.
Kaufman does pick up on a few points that don't seem to me to be current in the debate. One: he focuses on the shift in bank lending from fixed to floating rates. Nothing intrinsically awful here, but Kaufman rightly points out that it makes it infinitely harder to discipline bank behaviour by jerking the interest-rate leash. Two: he marvels over the still-new-to-him evolution in the definition of "liquidity." It used to be how much cash you had on hand; these days, it means cash plus borrowing power. Indeed, I think he is correct to argue that the very idea of "cash" has lost its salience in a world where you can buy a cup of coffee on your Visa card.
It's probably no surprise that Kaufman takes a dim view of securitization, although his particular approach is perhaps distinctive. He seems to dislike it partly because it is new, and this is actually a better argument than it might appear at first blush. I take it his point is tht we have been letting a lot ride on a mechanism with which we don't have much experience and which we don't understand very well. I should say that recent events have supported his judgment here.
Example: we've found that in a securitized world, where nobody really "owns the debt," then nobody really "owns the problem"--it becomes much harder to figure out just where and how we structure a workout. This is an issue which, I am happy to say, Underbelly, prompted by questions from Joel, was puzzling over nearly three years ago, although I can't say I gained anything by the experience except a bit of puzzled disease. A corollary point is that a lender who will securitie the debt is just not motivated enough to think about risk. Recall the old line about how the best fertilizer is the farmer's footsteps walking over the land (Lyndon Johnson, perhaps). This truism has gone grossly out of fashion in recent years, but read Kaufman and you will find some good prudential reasons for bringing it back.
Oddly, unless I was doing, Kaufman seems never to mention the one most attrractive feature of securitization: portfolioi diversification. I grant that "Diversifiction" is a mantra that can be misued like any other. I recognize that not even a diversified portfolio can protect you in a panic -- "when all the coefficients go to one," as they say. I emphatically acknowledge that much of what passed for "securitization" lately was the very opposite of diversification--recarving your portfolio into segmented risks. Yet diversification itself is a good idea and a sensible reform platform will make sure to preserve its virtues while getting rid of its problems.
In general, if Kaufman has a dominant theme, it is the idea that "there's too much debt." I can see an important core point here: one of the central facts about banking always and everywhere is that it is a huge mountain of debt resting on a little hillock of equity. Yet Kaufman doesn't seem to distinguish between bank debt and corporate debt. A lot of the debt stuff in the book dates back to the junk-bond LBO frenzy of the 80s and early 90s--the age of Michael Milken. Count me as one who believes that Milkin and his ilk probably did the market and the economy more good than harm. Yes, a lot of deals crashed and burned, but a lot did not, and a lot of people (Ted Turner, Craig McCaw) got access to capital they might never have seen otherwise. Oldtime bankers like Kaufman are extremely unlikely to have seen the virtues of that sort of thing.
I'll agree also that my argument may not be entirely dispositive. It may be, as the new agers like to say, that there's nothiing metaphysically different between debt and equity--just different kinds of contracts. Yet markets do tend to treat them differently. Miss a dividend on your stock and the share price may go into the tank. Miss a coupon and all hell may break loose. There seems to be a discontinuity here, and it may not be rational. Yet as Hegel would not say, even if irrational, it is still real.
Still, there's much to be said for sitting at the feat of the past master--of listening to the guy who has seen it all before (and who, not incidentally, seems still to hold a full bag of marbles). If he wants to indulge in "I told you so," I suspect we have to give him a bye.
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