THE LIQUIDATION OF AMERICA: Shameless Mainstream Economists Continue to Reward Themselves for Their Monumental Mistakes
Mainstream economists are generally delighted that the Nobel Committee has at last honored research into banks and their fragility. But heterodox economists who have spent years trying to change prevailing beliefs about banking and finance are spitting blood. ___________ Francis Coppola
Of the maxims of orthodox finance none, surely, is more anti-social than the fetish of liquidity… It forgets that there is no such thing as liquidity of investment for the community as a whole. __________ John Maynard Keynes
When an executive claimed his bank had plenty of liquidity, it always meant it didn’t. ___________ Michael Lewis
Recently the so-called Nobel Prize in Economics was given to two obscure financial theorists (Douglas Diamond and Philip Dybvig) as well as “Bailout Ben” Bernanke, the Federal Reserve Chair who first presided over the beginning of our ongoing economic crisis (which began in 2007 and yet remains pretty much unresolved). First-of-all let me point out that there is NO such thing as a Nobel Prize in Economics, it is actually the Swedish National Bank Prize given at the same time as the real scientific prizes (over the objections from the Nobel family). Moreover, this fake prize was created by financial elites to buttress a particular predatory ideology (which has evolved over the last hundred years from neoclassical to neoliberal and now neofeudal economics). The average recipient is a sixty-seven-year-old white man, affiliated with the ultra-reactionary University of Chicago. Generally speaking, the mainstream is much more a cult than a science, dedicated to defending the debased and degenerate oligarchic culture that it itself created, rather than exploring pathways to widespread prosperity. The 2022 prize is specifically designed to enhance the false impression that the inherent fragility of our financial system is somehow all under control. What is so ludicrous about this enterprise is that it is not only a bald-faced lie, but also a complete misrepresentation of the awarded research. The ideas held in such contrived high esteem and misguided actions taken not only dramatically increased the fragility of the total system, they also reinforced festering inequality and add to the mounting disaffection with democratic political institutions.
Before I proceed much further, I should also point out that the Federal Reserve is a privately held banking cartel (not much more federal than the Federal Express) which, nonetheless, pretty much controls our systems of money and banking. While it is subject to governmental regulation, the last several decades witnessed a concerted attack by mainstream economists and politicians (from both parties) to reduce regulatory safeguards. For example, the abolition of Great Depression restrictions such as Glass-Steagall (the firewall between investment and commercial banking) as well as measures to prevent legislative constraints upon items such as financial derivatives via “financial modernization”. This era inspired a closer relationship between deregulated banks and the mushrooming unregulated “Shadow Banking Industry” which includes hedge & private (pirate) equity funds, venture (vulture) capitalists, insurance companies, mortgage brokers, etc.; not to mention the plague of various legalized loan sharks (e.g., usurious credit and payday/title loan firms) and many manufacturers developing their own banks. General Motors, General Electric, and several major firms nearly failed because they became more interested in selling loans than in building better products.
The problems with everybody wanting to be a banker are manifold, but the most obvious problem is that ALL BANKS are born in illiquidity. Their fundamental fraud of fractional reserve requirements (only having approximately 10% of the cash on hand with 90% loaned out at interest) not to mention the allowance for “rehypothecation” (where loans and synthetic instruments twice removed can be used as collateral several times over). These issues make our banking systems extremely vulnerable to runs and panics, especially when illiquidity borders on insolvency.
Illiquid just means that one does not have ready cash on hand, but one still has valuable assets not readily convertible to cash. Insolvency means that the value of one’s assets has fallen or were misrepresented to the point where one cannot produce sufficient cash flow to meet basic operations, even with a massive fire sale.
If merely illiquid, “member banks” can go to the Federal Reserve discount window and get emergency loans and/or have them purchase their illiquid assets. It is noteworthy, however, that this inordinate privilege has been extended recently to include various entities (e.g., foreign banks, manufacturing firms, private equity funds, etc.) over which the Fed has little statutory control. Since, the Federal Reserve (or Fed) has prevented even a single audit in its century plus history, elected officials have little direct knowledge of its burgeoning (im)balance sheet.
Unfortunately, during the new era of over-leveraged hyper-financialization, explosive asset inflation became sacred and many assets (especially exotic and convoluted financial instruments) proved “toxic” on route to being worthless. As Mervyn King, former CEO of the Bank of England, pointed out in his book The End of Alchemy the problem is insolvency not illiquidity. Yet, the Federal Reserve keeps pushing on the string of liquidity, reinflating asset bubbles, making extreme emergency measures (e.g., quantitative easing) permanent features, letting failed bankers pay themselves huge bonuses, and extending their bail outs to include Shadow Banks and nonfinancial institutions, as well as “printing money” pell-mell. This perpetual motion pyramid scheme, will soon collapse, making matters much worse, and we missed the opportunity for significant financial reform (e.g., 100% reserve banking).
Okay now we can turn to mainstream economists’ contribution to our financial chaos. To begin with mainstream economics maintains a good deal of myth and mysticism regarding money and banking. In fact, most macroeconomists completely ignore their actual functioning and/or assume their role is merely neutral mediation. Most of the interesting stuff is “exogenous” (i.e., beyond the tidy boundaries of their models). Like the sea monsters drawn on ancient maps, questioning money and banking should be avoided, so that mainstream mythology about perfect self-regulating markets can prevail. This enforced religiosity holds that financial crises are exceedingly rare aberrations to the mythical order of things, and those unique mainstream scholars who study them generally confirm this myopic and misguided view.
Ben Bernanke studied the Great Depression and concluded that the Fed had behaved badly (withdrawing liquidity at the wrong time) and messing up the otherwise smooth functioning financial system. While this is mostly true (except the last part) he did not fully appreciate the destabilizing effects of excess liquidity (e.g., the roaring 20s). As Hyman Minsky of “Minsky Moment” fame points out, with the same situation as Gentle Ben, our systems are usually highly unstable, and speculative excess quickly drives the entire economy to the “Ponzi point” (where neither interest nor principle can be repaid, without incurring mountains of new debt). Meanwhile, interest bearing debt has displaced most productive activity as the path to ultimate wealth for many elites. As the result of the mainstream myth of “loanable funds”, the average citizen is completely unaware that the vast majority of the money supply comes into being as debt (with interest and fees), and literally “out of thin air”.
If Bernanke actually understood the financial crises, he would have been curbing this attachment to unproductive and phantom gains, not to mention the speculative frenzy which relies upon socializing losses (i.e., via the tax payers). Early on he should have been arguing for the withdrawal of excess liquidity (raising interest rates) back while Greenspan was inflating the mother of all bubbles. Moreover, he would not have thrown the merely illiquid Lehmann Brothers under the bus, while bailing out AIG, the insurance firm that underwrote many of the bets that debts would NOT be repaid (e.g., via the infamous “credit default swaps”). Some might even suggest the bankers crashed the economy on purpose. They certainly benefited from the near collapse.
That is why it is somewhat curious that Bungling Ben was included in the fake Nobel with esoteric financial theorists whose observations, if true, would have led to very different actions on his part. But then the Swedish Bank Prize is often given to very strange bedfellows, with both sides of a debate awarded together, in order to create the illusion of consensus. Moreover, it might be given to co-opt unorthodox scholars into the neoclassical/neofeudal fold and/or to fake a diversity of ideas (e.g., Gunnar Myrdal, Wassily Leontief, Herbert Simon, Amartya Sen, and Elinor Ostrom).
Returning to the co-award for Bernanke, Diamond and Dybvig we see claims being made for the DD model which are factually incorrect, not to mention the series of unfounded assumptions made within the model. For a detailed (yet not too technical) explanation of this intentional misrepresentation see the recent article by Peter Bofinger and Thomas Hass from The Institute of New Economic Thinking (https://www.ineteconomics.org/perspectives/blog/a-nobel-award-for-the-wrong-model). They question the logic DD, where of banks are defined as being in the business of “liquidity creation” by way of their magical “maturity transformations”. Such transformations are NOT factually based, yet the DD provides a fanciful process for homogenizing illiquidity and insolvency by sharing maturity rewards across investors with different time horizons, which is a virtual impossibility. They just assume panicking investors can be easily placated, if they just believe in fake reality of the model. In essence, what the DD really seeks to create was the illusion that insolvency is no longer a problem. More importantly perhaps, the DD maintains that there is NO need for central banks (like to Fed) to step in with liquidity (“become the lender of last resort”). In the real-world of course, Fed policies (negative interest rates, the “Greenspan put” and QE 1,2 …. infinity) make it more like the lender of first resort.
What mainstream economists, like Ben, D, and D, ignore with their models (but attempt to manipulate in secret) is what Carruthers and Stinchcombe identify as a type of social construction of liquidity, and they are not very good at it (https://www.scholars.northwestern.edu/en/publications/the-social-structure-of-liquidity-flexibility-markets-and-states). That is, they believe that their demonstrably inaccurate fairy tales will brainwash a sufficient segment of the population. In reality, liquidity demands widespread transparency and trust. The deregulation of financial practices was designed to increase opacity and extol the virtues of quantitative shenanigans, with extremely lopsided benefits. Consider how investments including piles of subprime mortgages to NINJA (no income, no jobs or assets) home buyers were manipulated to gain AAA (top investment grade) ratings. Major banks (e.g., Goldman Sachs) then pushed this “junk grade” crap upon unwitting investors and pension fund managers, while shorting the same instruments for their preferred clients. Quantitatively cloaked fraud was rampant, but no one went to jail. Meanwhile the societal costs of elite liquidity are astronomical and growing. Much of the mainstream is diabolically gifted at gaslighting and/or “blaming the victims” (“secular stagnation” my ass), but their Jedi mind tricks are well past their sell-by dates.
One related attribute of mainstream economics is worth mentioning, in these turbulent times, it is their marked lack of attachment to democratic institutions. Rather than dealing with the lack of public trust they produce, they would be more comfortable with authoritarian leadership. In what might be considered a final tribute to mainstream icon, Milton Friedman (reference his misadventures in Chile), neo-fascist militias at a recent Trump rally wore t-shirts saying “Pinochet did nothing wrong”. Families of the multitude of “disappeared” might disagree. By pretending they have crises well in hand, while bankers and their well-heeled lobbyists merely applied band-aids to gaping wounds, they guarantee that future crises will be fatal, and further fuel social unrest. Popular support for heretofore cherished institutions hangs by a thin thread. Mainstream economists and their dear friends from Davos already have a “brave new world” of feudal replacements underway (i.e., “The Great Reset”). SERFS UP!
