There WAS a BIG connection between Investment Banks like Lehman Bro.s and the Real Estate bubble. Lehman invested heavily in Real Estate securities. Had Glass Steagall been still in force this would have been strictly verboten,
Nope. Glass-Steagall prevented commercial banks from engaging in investment banking activities. It did not attempt to regulate what investments investment banks could make. Mortgage backed securities are favored investment properties, because they are seen as safe. They are secured by real property, and the property owners have the strongest incentive to preserve their investment. (What would you do to keep your house?) Lots of institutions with investment portfolios held them. If you are covered by a pension plan or contribute to a 401K, you might indirectly hold some.
The notion that you should try to tell an investment bank what it can invest in is profoundly wrong-headed. What you can do, and what various regultations try to do is mandate controls so it's clear exactly what the level of risk from an investment is, and require the retention of sufficient capital that a loss in an investment won't sink the firm.
It's gambling: you don't bet more than you can afford to lose, and you know when to fold and walk away from the table. Too many financial outfits failed to observe those pronciples.
DM & Bert have you seen Lehman around lately ?
Nope. They went belly-up in 2008. Exposure to sub-prime mortgage assets was only part of the problem. A larger part was a confused asset strategy, and being way over-leveraged. They made bets they couldn't cover when they bet wrong.
As Engineers we have all had some exposure to Control Theory and some actually use it every day ( perhaps unknowingly ) in Timing Analyses for Digital circuits. Even normally well behaved and self - balancing systems pushed too far ( speculation ) can easily become unstable ( Liapunov Integrals ). They do not become stable by themselves, you either have to change some control parameters ( regulations ) or even totally redesign the system ( break it up ). If as reasonably well - educated Engineers we accept that as a valid strategy then whats the hang up about controlling the financial system that is clearly out of whack and riven wih feedback ( insider trading, too big to fail ) ?
In spite of our mathematical education are we still hung up on the philosophical musings of some 18 th century Scottish Quack ( Adam Smith and his Free Market Theory ) ?
Or is it just the Kool Aid they've been feeding us ?
DMc: You're right that there were problems with the activities of subprime lenders, but not so right in saying they weren't part of the big banks. Here's a list of the Top 25 subprime lenders at the time of the meltdown. They include HSBC, Well, Citi and Chase, and No. 4 was division of Merrill. No. 1, Countrywide, was bought by BofA in 2008. And those big mortgage brokerage firms feeding the demand for mortgages from big banks, which generated the cash for more loans through MBOs.
And I wouldn't say the problems were limited to subprime loans by mom-and-pop homeowners. Massive speculative investment in housing in areas like Las Vegas and Miami, where some investors bought up hundreds of homes, or built hundreds of homes to fuel demand, added to the fire behind the meltdown.
All this, of course, is far off track from the story at hand, which is about the outlook for the global economy. Not about the home mortgage crisis of five years ago.
Obsessing over Glass Steagall is a diversionary tactic. Lets just stick to facts as evident to anyone paying attention to the daily news.
Better yet, return to the original topic of role of Wall St. in denying investment to US manufacturing industries - thus preventing them from modernizing ( steel, Auto till the mid '90s ). Read up about Henry Ford's fight with Wall St. and their smear campaign against him when he hit hard. And for the last 20 years Outsourcing, sending US manufacturing knowhow free to future competitors like China, destroying US competitiveness to make a quick buck, using part of that to buy Politicians and media so as to get favorable legislations, squeezing US industries and then sending the excess profit to invest overseas ( sure any investor would want the highest return but this has almost become Suicide by Free Market ) and then hiding behind lawyers & gated communities ...
"There WAS a BIG connection between Investment Banks like Lehman Bro.s and the Real Estate bubble."
That's true, almost all of the financial institutions at the epicenter of the financial meltdown (e.g., Bear Stearns, Lehman Brothers, Merrill Lynch, and AIG) were not commercial banking entities. And most of the commercial banks that got into trouble (e.g., Bank of America and Wachovia) did so as a result of acquiring mortgage lenders. None of this however has anything to do with Glass Steagall - it simply wouldn't have applied in the case of the former institutions, and wouldn't have prevented the acquisitions by the latter.
I was expecting to see "Engineers" use more facts and figures in their debates - albeit in an area outside their normal competence.
There WAS a BIG connection between Investment Banks like Lehman Bro.s and the Real Estate bubble. Lehman invested heavily in Real Estate securities. Had Glass Steagall been still in force this would have been strictly verboten
Bert22306: I guess my main point in all of this is, the economy is SUPPOSED to work correctly with greedy people operating in it. It's SUPPOSED to be self-regulating. So when you describe the bankers' recklessness, you need to acknowledge the causes.
And in fact it is self-regulating and does work. We simply don't like the consequences.
The old stock market adage is "A bull makes money sometimes, and a bear makes money sometimes, but in the long run, a hog always gets slaughtered."
Lots of folks participated in the real estate bubble and were hogs. The bubble burst and they got slaughtered. That's self-regulation with a vengeance - make the wrong calls and you go belly up.
I know folks who think the big banks should have been allowed to fail, as the punishment for greed and stupidity. Unfortunately, I think they underestimate the collateral damage that would have caused. Volker and the Feds wrestled with that same question in choosing to bail out the big banks - "What happens if we let them fail?" - and didn't like the answers they could see.
The bigger question, which we've been asking in one way or another since the Great Depression, is "How do we prevent such boom and bust cycles?" My feeling is, we can't. Such things will happen.
What we want and need is a robust, diversified, and flexible economy that can recover quickly when it does happen, and too many well intentioned regulations intended to prevent such problems from occuring don't prevent the problems, but do impede solutions.
Tom Murphy: I never said the big banks were blameless. The problems began in sub-prime lenders who weren't part of the big banks, but the big banks certainly didn't help.
I simply said that Glass-Steagall would not have prevented the financial meltdown, and it wouldn't have. Glass-Steagell was intended to prevent commercial banks from participating in the investment banking business, and that bit was a response to the Great Depression. It did not regulate commercial lending.
As mentioned, the meltdown was on the connercial banking side. If Glass-Steagall had been in effect, it still would have happened.
Go read the Glass-Steagall act for yourself. You have an inaccurate idea of what it says and what it's intended to do.
I guess my main point in all of this is, the economy is SUPPOSED to work correctly with greedy people operating in it. It's SUPPOSED to be self-regulating. So when you describe the bankers' recklessness, you need to acknowledge the causes.
Here's a good scholarly article on the subject, Tom:
Government complicity in this fiasco is described happening on several levels. Another factor was that banks were infused with foreign investment capital, which made them even more likely to get reckless.
I remember very well that in the few years before 2008, our assessment was going up by insane amounts each year. I'm talking in the 25 to 30 percent range, year after year, starting in the late 1990s or early 2000s. It made me panic. Everyone else seemed giddy with greedy excitement. Of course, the more articially created demand there is, caused in large part by reckless government slogans and practices, the worse the problem will be.
The article describes two such wrenches as being government loan guaranatees for unqualified buyers, and the lowering of interest rates by the fed, during a time when home prices were still rising too fast (pre-2008-2009). You have to expect trouble when government policies deliberately short circuit the self-regulation machinery.