Anarchy for Wall St.

Investors didn't know what they bought, but they knew they could trade it

In July, former Sen. Phil Gramm said our country was in a "mental recession." He was more correct than anyone realized. The remark got him booted from Sen. John McCain's presidential campaign, but subsequent events kept Gramm in the news. His 1999 Financial Modernization Act triggered a proliferation of financial instruments that now have our economy on its knees.

It turns out the economic growth over the past several years has all been in our minds. We are still hard workers, inventive and resourceful, if a bit underemployed. Our fisheries and farmland are a bit overburdened and abused, but we haven't poisoned them like the Soviets did. We have plenty of coal, oil, and gas if we can tame our gluttony. Manufacturing has moved overseas to a greater extent than might be wise, but none of this adds up to a trillion-dollar collapse. The fundamentals are stable; they've just been drowned out by financial mind games.

Easy credit kept consumer spending up, but lenders decided to milk a bit more profit from us. They invested heavily in politicians and got interest rates doubled and fees tripled. Now there are enough people with $10,000 in credit-card debt to justify millions of dollars worth of radio and television ad buys. Debt counseling is a growth industry! Bush told everyone to go shopping after the 9/11 attacks, and we got mental growth, an economic brain tumor.

Easy credit for mortgages was great for real estate markets and the construction industry. Lending to stimulate spending is routine government business, not a trigger for crisis. To turn easy credit into disaster took a mental recession of a different sort.

Republicans won't shut up about free markets, yet they don't know what a free market is. They think it's an unregulated market, but that is anarchy. An actual free market is one where buyer and seller are free to negotiate a fair price. It requires enough competition for either party to walk away from a bum deal, and it also requires what economists call "perfect information." Buyer and seller know enough about each other and the object of negotiation not to be deceived. Regulation is necessary to assure competition and disclosure, but the simplistic Republican perversion of free markets erodes both.

In the 1990s, Republican Congresses allowed consolidation among banking, investment, and insurance industries that had been kept apart since the Depression. Competition was degraded and beasts too big to fail grew. Now they are failing. Before he became Treasury Secretary, Henry Paulson was CEO of one of these beasts, Goldman Sachs, and current SEC Chairman Christopher Cox compounded the problem in 2004 by allowing five elite firms, including Goldman, to triple their capital leverage. All have either failed or undergone major restructuring this year.

On top of the easy credit, with Gramm's help, financiers built derivatives and securities so complex that most experts claim not to understand them. Perfect information went out the window with these instruments, but investment bankers traded them like candy, expanding their value and separating issuers from the consequences of bad loans. The seeds of crisis grew in that information shadow.

When fuel and material costs went up and the dollar fell, the housing bubble deflated. Wall Street boys suddenly realized they had no idea what their MBSs and CDOs were worth. They thought they could hold their breath long enough to get McCain elected. Oops.

Ordinary Americans don't need to bail them out because we didn't inhale. Foreclosures are on the rise among house flippers and in commercial real estate. Don't buy Republicans' absurd scapegoating of the poor; it's just another symptom of their mental recession.

If it will take a trillion dollars to fix things, there are plenty of billionaires to shake down. They should accept steep tax hikes in the highest brackets as penance. If not, we should take golden parachutes and sheltered savings from the guilty and put them up in secure government housing with cable TV and shuffleboard lanes and lots of time to think.