CT Blue

Several days ago I wondered whether we really needed the various financial instruments that have led us into the mess in which we currently find ourselves. I am, at best, merely a relatively well informed citizen, but it has always appeared to me that these instruments serve no useful purpose. They simply allow their creators to skim massive amounts of money out of our economic system, leaving us to pick up the pieces when things go wrong.

This morning, I was delighted to see that Paul Krugman, he of the Nobel Economics Prize, agrees:

Underlying the glamorous new world of finance was the process of securitization. Loans no longer stayed with the lender. Instead, they were sold on to others, who sliced, diced and puréed individual debts to synthesize new assets. Subprime mortgages, credit card debts, car loans — all went into the financial system’s juicer. Out the other end, supposedly, came sweet-tasting AAA investments. And financial wizards were lavishly rewarded for overseeing the process.

But the wizards were frauds, whether they knew it or not, and their magic turned out to be no more than a collection of cheap stage tricks. Above all, the key promise of securitization — that it would make the financial system more robust by spreading risk more widely — turned out to be a lie. Banks used securitization to increase their risk, not reduce it, and in the process they made the economy more, not less, vulnerable to financial disruption.

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Much discussion of the toxic-asset plan has focused on the details and the arithmetic, and rightly so. Beyond that, however, what’s striking is the vision expressed both in the content of the financial plan and in statements by administration officials. In essence, the administration seems to believe that once investors calm down, securitization — and the business of finance — can resume where it left off a year or two ago.

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As you can guess, I don’t share that vision. I don’t think this is just a financial panic; I believe that it represents the failure of a whole model of banking, of an overgrown financial sector that did more harm than good. I don’t think the Obama administration can bring securitization back to life, and I don’t believe it should try.

Alas, it seems only too true that Geither’s objective (and therefore Obama’s) is to return us to the status quo ante. If they are successful that merely means that at some point in the not too distant future we will return to the just plain status quo. Undoubtedly, had McCain been elected, he would have sought to do the same, but that is scant solace. The truth is that it is always a mistake to bring in an insider to reform any system; only the most singular of insiders can avoid buying in to the assumptions of the group. Geither is clearly not a singular individual. It’s as if Franklin Roosevelt had dedicated the New Deal to restoring the excesses of the 20’s.