Plunder and Blunder; How the 'Financial Experts' Keep Screwing You

By Dean Baker, PoliPoint Press. Posted February 7, 2009.

Wall Street sold these instruments to pension funds and other institutional investors. It also persuaded state and local governments to pay them billions of dollars in fees for issuing auction rate securities and for buying credit default swaps and other exotic financial instruments. In addition, many of the same institutional investors lost billions of dollars by holding the stock of companies like Merrill Lynch, Citigroup, and Bear Stearns, the value of which was driven into the ground by very highly paid executives.

The real problem is that the public, including many of the pension fund managers who were taken for a ride, still don't understand what has happened. Perhaps the main reason for this confusion has been the quality of economic reporting. The media relied almost exclusively on the folks who got it wrong. The industry bubble-pushers and the bubble-deniers in policy positions were almost the only sources for economic reporting during the bubble years. The vast majority of the people who follow the news probably never heard anyone argue that the economy was being driven by a stock bubble in the 1990s or a housing bubble in the current decade. Such views simply were not permitted. (The New York Times deserves special mention as a media outlet that actively sought alternative voices, especially during the housing bubble.)

Knowingly or not, these outlets have covered up the extraordinary incompetence and corruption that allowed these bubbles to grow. For example, in a recent three-part series on the housing bubble, the Washington Post reported a claim from Alan Greenspan that he first became aware of the explosion in subprime mortgage lending as he was about to leave his post as Fed chair in January of 2006. According to the article, Greenspan said he couldn't remember if he had passed this information on to his successor, Ben Bernanke.

This article makes it sound as though the explosion in subprime lending was an obscure piece of data only available to a privileged few. In reality, the explosion in subprime lending was a widely discussed feature of the housing market during the bubble years. If Greenspan was implying that he was unaware of this explosion, he was unbelievably negligent in his job as Fed chair. The notion that Greenspan would have to pass this information on to his successor  -- as though an economist of Bernanke's stature could be unaware of such an important development in the economy  -- is equally absurd. In other words, the Post article helped Greenspan present a remarkably straightforward development  -- namely, the massive issuance of bad loans  -- as complex and confusing.

In the same vein, the Wall Street Journal provided cover for Treasury Secretary Henry Paulson by explaining how the collapse of Fannie Mae and Freddie Mac caught him by surprise. These two financial institutions hold almost nothing except mortgages and mortgage-backed securities. What did Mr. Paulson think would happen to them in a housing crash?

The secret of these two bubbles is that there is no secret. Anyone with common sense, a grasp of simple arithmetic, and a willingness to stand up against the consensus could have figured out the basic story. The details of the accounting scandals in the stock bubble and the convoluted financing stories in the housing bubble required some serious investigative work, but the bubbles themselves were there in plain sight for all to see.

The public should demand a real accounting. Why does the Fed grow hysterical over a 2.5 percent inflation rate but think that $10 trillion financial bubbles can be ignored? Where was the Treasury Department during the Clinton and Bush administrations? What about congressional oversight? Did no one in Congress think that massive bubbles might pose a problem? Why do economists worry so much more about small tariffs on steel and shirts than about gigantic financial bubbles? What exactly do the people who get paid millions of dollars by Wall Street financial firms do for their money? And finally, why don't the business and economic reporters ask any of these questions?

The stock and housing bubbles have wreaked havoc on the economy and will cause enormous pain for years to come. We can't undo the damage, but we can try to create a system that will prevent such catastrophes from recurring and that ensures that people responsible for these preventable events are held accountable. That would be a huge step forward.

Copyright PoliPoint Press 2009.

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Plunder and Blunder: The Rise and Fall of the Bubble Economy

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Dean Baker is co-director of the Center for Economic and Policy Research.

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