Why No
Through history,
outrageous financial
behavior has been
met with outrage. But
today Wall Street's
recklessness has
been met with
near-silence, from a
too-tolerant populace,
argues James Grant



Raise less corn and more
hell," Mary Elizabeth Lease
harangued Kansas farmers
during America's Populist era,
but no such voice cries out
today. America's 21st-century
financial victims make no
protest against the Federal
Reserve's policy of showering
dollars on the people who
would seem to need them
Long ago and far away, a brilliant man
of letters floated an idea. To stop a
financial panic cold, he proposed, a
central bank should lend freely, though
at a high rate of interest. Nonsense,
countered a certain hard-headed
commercial banker. Such a policy
would only instigate more crises by
egging on lenders and borrowers to take
more risks. The commercial banker
wrote clumsily, the man of letters
fluently. It was no contest.
The doctrine of activist central banking owes much to its
progenitor, the Victorian genius Walter Bagehot. But Bagehot
might not recognize his own idea in practice today. Late in the
spring of 2007, American banks paid an average of 4.35% on
three-month certificates of deposit. Then came the mortgage mess,
and the Fed's crash program of interest-rate therapy. Today, a
three-month CD yields just 2.65%, or little more than half the
measured rate of inflation. It wasn't the nation's small savers who
brought down Bear Stearns, or tried to fob off subprime
mortgages as "triple-A." Yet it's the savers who took a pay cut --
and the savers who, today, in the heat of a presidential election
year, are holding their tongues.
Possibly, there aren't enough thrifty voters
in the 50 states to constitute a respectable
quorum. But what about the rest of us, the
uncounted improvident? Have we, too,
not suffered at the hands of what used to
be called The Interests? Have the
stewards of other people's money not
made a hash of high finance? Did they not
enrich themselves in boom times, only to
pass the cup to us, the taxpayers, in the
bust? Where is the people's wrath
The American people are
famously slow to anger, but
they are outdoing themselves in
long suffering today. In the
wake of the "greatest failure of
ratings and risk management
ever," to quote the considered
judgment of the
mortgage-research department
of UBS, Wall Street wears a
political bullseye. Yet the
politicians take no pot shots
Barack Obama, the silver-tongued
herald of change, forgettably told a
crowd in Madison, Wis., some
months back, that he will "listen to
Main Street, not just to Wall
Street." John McCain, the angrier of
the two presumptive presidential
contenders, has staked out a
principled position against greed
and obscene profits but has gone no
further to call the errant bankers and
brokers to account.
The most blistering attack
on the ancient target of
American populism was
served up last October by
the then president of the
Federal Reserve Bank of St.
Louis, William Poole. "We
are going to take it out of
the hides of Wall Street,"
muttered Mr. Poole into an
open microphone,
apparently much to his own
If by "we," Mr. Poole meant his employer, he was off the mark, for the Fed has burnished Wall
Street's hide more than skinned it. The shareholders of Bear Stearns were ruined, it's true, but
Wall Street called the loss a bargain in view of the risks that an insolvent Bear would have
presented to the derivatives-laced financial system. To facilitate the rescue of that system, the
Fed has sacrificed the quality of its own balance sheet. In June 2007, Treasury securities
constituted 92% of the Fed's earning assets. Nowadays, they amount to just 54%. In their
place are, among other things, loans to the nation's banks and brokerage firms, the very
institutions whose share prices have been in a tailspin. Such lending has risen from no part of
the Fed's assets on the eve of the crisis to 22% today. Once upon a time, economists taught
that a currency draws its strength from the balance sheet of the central bank that issues it. I
expect that this doctrine, which went out with the gold standard, will have its day again.
Wall Street is off the political agenda in
2008 for reasons we may only guess
about. Possibly, in this time of widespread
public participation in the stock market,
"Wall Street" is really "Main Street." Or
maybe Wall Street, its old self, owns both
major political parties and their
candidates. Or, possibly, the $4.50
gasoline price has absorbed every
available erg of populist anger, or -- yet
another possibility -- today's financial
failures are too complex to stick in
everyman's craw.
I have another theory, and that is
that the old populists actually
won. This is their financial
system. They had demanded
paper money, federally insured
bank deposits and a heavy
governmental hand in the
distribution of credit, and now
they have them. The Populist
Party might have lost the
elections in the hard times of the
1890s. But it won the future.
Before the Great Depression of the 1930s, there
was the Great Depression of the 1880s and
1890s. Then the price level sagged and the value
of the gold-backed dollar increased. Debts
denominated in dollars likewise appreciated.
Historians still debate the source of deflation of
that era, but human progress seems the likeliest
culprit. Advances in communication,
transportation and productive technology had
made the world a cornucopia. Abundance drove
down prices, hurting some but helping many
The winners and losers conducted a spirited
debate about the character of the dollar and the
nature of the monetary system. "We want the
abolition of the national banks, and we want the
power to make loans direct from the
government," Mary Lease -- "Mary Yellin" to
her fans -- said. "We want the accursed
foreclosure system wiped out.... We will stand
by our homes and stay by our firesides by force
if necessary, and we will not pay our debts to
the loan-shark companies until the government
pays its debts to us."
By and by, the lefties carried the day. They got their
government-controlled money (the Federal Reserve opened for
business in 1914), and their government-directed credit (Fannie
Mae and the Federal Home Loan Banks were creatures of
Great Depression No. 2; Freddie Mac came along in 1970). In
1971, they got their pure paper dollar. So today, the Fed can
print all the dollars it deems expedient and the unwell federal
mortgage giants, Fannie Mae and Freddie Mac, combine for
$1.5 trillion in on-balance sheet mortgage assets and dominate
the business of mortgage origination (in the fourth quarter of last
year, private lenders garnered all of a 19% market share).
Thus, the Wall Street of the
Morgans and the Astors and the
bloated bondholders is today an
institution of the mixed economy.
It is hand-in-glove with the
government, while the
government is, of course -- in
theory -- by and for the people.
But that does not quite explain
the lack of popular anger at the
well-paid people who seem not
to be very good at their jobs.
Since the credit crisis burst out into the open
in June 2007, inflation has risen and
economic growth has faltered. The dollar
exchange rate has weakened, the
unemployment rate has increased and
commodity prices have soared. The gold
price, that running straw poll of the world's
confidence in paper money, has jumped.
House prices have dropped, mortgage
foreclosures spiked and share prices of
America's biggest financial institutions
One might infer from the lack of popular anger that the credit crisis was God's fault
rather than the doing of the bankers and the rating agencies and the government's
snoozing watchdogs. And though greed and error bear much of the blame, so, once
more, does human progress. At the turn of the 21st century, just as at the close of the
19th, the global supply curve prosperously shifted. Hundreds of millions of new hands
and minds made the world a cornucopia again. And, once again, prices tended to
weaken. This time around, however, the Fed intervened to prop them up. In 2002
and 2003, Ben S. Bernanke, then a Fed governor under Chairman Alan Greenspan,
led a campaign to make dollars more plentiful. The object, he said, was to forestall
any tendency toward what Wal-Mart shoppers call everyday low prices. Rather, the
Fed would engineer a decent minimum of inflation.
Now began one of the wildest chapters in the history of lending and
borrowing. In flush times, our financiers seemingly compete to do the
craziest deal. They borrow to the eyes and pay themselves lordly
bonuses. Naturally -- eventually -- they drive themselves, and the
economy, into a crisis. And to the scene of this inevitable accident rush
the government's first responders -- the Fed, the Treasury or the
government-sponsored enterprises -- bearing the people's money. One
might suppose that such a recurrent chain of blunders would gall a
politically potent segment of the population. That it has evidently failed
to do so in 2008 may be the only important unreported fact of this
otherwise compulsively documented election season.
Mary Yellin would spit blood at the catalogue of the
misdeeds of 21st-century Wall Street: the willful
pretended ignorance over the triple-A ratings
lavished on the flimsy contraptions of structured
mortgage finance; the subsequent foreclosure blight;
the refusal of Wall Street to honor its implied
obligations to the holders of hundreds of billions of
dollars worth of auction-rate securities, the auctions
of which have stopped in their tracks; the
government's attempt to prohibit short sales of the
guilty institutions; and -- not least -- Wall Street's
reckless love affair with heavy borrowing.
In that vein, the central bank pushed
the interest rate it controls, the
so-called federal funds rate, all the way
down to 1% and held it there for the
12 months ended June 2004. House
prices levitated as mortgage
underwriting standards collapsed. The
credit markets went into speculative
orbit, and an idea took hold. Risk, the
bankers and brokers and professional
investors decided, was yesteryear's
For every dollar of equity capital, a well-financed regional bank holds
perhaps $10 in loans or securities. Wall Street's biggest broker-dealers
could hardly bear to look themselves in the mirror if they didn't extend
themselves three times further. At the end of 2007, Goldman Sachs had
$26 of assets for every dollar of equity. Merrill Lynch had $32, Bear
Stearns $34, Morgan Stanley $33 and Lehman Brothers $31. On average,
then, about $3 in equity capital per $100 of assets. "Leverage," as the
laying-on of debt is known in the trade, is the Hamburger Helper of
finance. It makes a little capital go a long way, often much farther than it
safely should. Managing balance sheets as highly leveraged as Wall Street's
requires a keen eye and superb judgment. The rub is that human beings err.
Wall Street is usually described as an
industry, but it shares precious few
characteristics with the metal-fasteners
business or the auto-parts trade. The big
brokerage firms are not in business so much
to make a product or even to earn a
competitive return for their stockholders.
Rather, they open their doors to pay their
employees -- specifically, to maximize
employee compensation in the short run.
How best to do that? Why, to bear more
risk by taking on more leverage.
"Wall Street is our bad example
because it is so successful," charged
the president of Notre Dame
University, the Rev. John Cavanaugh,
in the time of Mary Lease. He meant
that young people, emulating J.P.
Morgan or E.H. Harriman, would
worship the wrong god. The more
immediate risk today is that Wall
Street, sweating to fill out this year's
bonus pool, runs itself and the rest of
the American financial system right
over a cliff.
It's just happened, in fact, under the
studiously averted gaze of the Street's risk
managers. Today's bear market in financial
assets is as nothing compared to the
preceding crash in human judgment. Never
was a disaster better advertised than the
one now washing over us. House prices
stopped going up in 2005, and cracks in
mortgage credit started appearing in 2006.
Yet the big, ostensibly sophisticated banks
only pushed harder.
Huey Long, who rhetorically picked up
where Lease left off, once compared
John D. Rockefeller to the fat guy who
ruins a good barbecue by taking too
much. Wall Street habitually takes too
much. It would not be so bad if the
inevitable bout of indigestion were its
alone to bear. The trouble is that, in a
world so heavily leveraged as this one,
we all get a stomach ache. Not that
anyone seems to be complaining this
election season.
is the