JEFFREY BROWN: The failure of major financial institutions, extraordinary government bailouts, gut-wrenching drops on the stock market, an economy in deep recession, and fears of worse.
These past few months we’ve used the word “unprecedented” an unprecedented number of times. And why not?
We take stock now with four writers who’ve been trying to keep track of and understand it all: Jim Ellis, assistant managing editor of BusinessWeek magazine; Chrystia Freeland, U.S. managing editor of the Financial Times; Steven Pearlstein, financial columnist for the Washington post; and Greg Ip, U.S. economics editor for the Economist magazine.
Well, I want to go into a number of issues, but first I’d love to go around once and let each of you pick one thing that most jumps out at you or strikes you as the most compelling thing to take from what we’ve been through these past few months.
Jim Ellis, why don’t you start?
JIM ELLIS, BusinessWeek Magazine: I think that one thing that really jumped out at me was just how fragile our system is. A lot of us like to think that, you know, this is something — with hundreds of years of experience, traders and investors know how to behave.
In this case, we saw that, you know, things like fear, things like complete, you know, sort of crowd mentality take over, and all of a sudden you’ve got a real crisis on your hands, a crisis of confidence, a crisis where psychology means a lot more than rational behavior.
JEFFREY BROWN: Chrystia Freeland, what jumps out at you?
CHRYSTIA FREELAND, Financial Times: I think the single event that surprised me the most was the cataclysmic impact of the Lehman bankruptcy, and that speaks to Jim’s point about the fragility of the system. It was really astonishing how quickly around the world credit markets froze up, really, hours, the day after Lehman went bankrupt, and we’re still living with those consequences.
JEFFREY BROWN: Greg Ip?
GREG IP, The Economist: I think, Jeff, what surprises me most is the breadths of the change in the attitudes towards risk we’ve seen among the entire economy among banks, investors, and households.
We went from a world where virtually anybody could get a loan no matter how close to bankruptcy you were, no matter how poor your collateral was, to a world where virtually nobody can get a loan unless the government is guaranteeing it for you.
And I think that speaks to how lax our whole attitude about risk had gotten in the past. And going forward, there will be a permanent change where people will pay more to borrow, and we will see a world where we will not have an economy as driven by borrowing and consumption as we’ve had in the past.
JEFFREY BROWN: And, Steven Pearlstein, your turn. What jumps out at you?
STEVEN PEARLSTEIN, The Washington Post: Well, Jeff, many people were surprised at how quickly things came unwound the last few months. I’m actually surprised at how long it’s taken for this train wreck to happen.
There’s been a long period of self-delusion and denial on the part of Wall Street, on the part of economic policymakers and ordinary Americans. We’ve been living beyond our means for many years.
The economy has essentially been in recession for a year. House prices have been falling for two years. This is something that has been available for us to see that we’ve been in a deep hole for a long time and we just haven’t wanted to see it.
Americans lived 'beyond means'
JEFFREY BROWN: Well, let me stay with you, because that leads to another question. A lot of people have come up to me and asked -- and they probably ask all of you guys -- how in the world did this happen? Sort of the "who's to blame" question, you know, the Wall Street financiers and the regulators, and maybe journalists who might have blown the whistle or talked about this earlier, or people who bought homes that they maybe couldn't afford, how do you answer that one?
STEVEN PEARLSTEIN: Well, it's a complicated answer. It's like the "Orient Express." Everybody did it. And there's no question that regulators were asleep at the switch, Wall Street investment houses that didn't do good underwriting, lenders who didn't make good loans, borrowers who borrowed too much, all of these people are implicated in this.
But one of the things that I think is important for everyone to remember is that none of that would have happened but for huge imbalances in the world's macro economy. We were living as a country beyond our means, and other people were willing to finance that.
And that is what created the credit bubble that led to and made it possible for all those individuals to make all those individual mistakes. And that's important to realize, because if you think that it wouldn't have happened but for the bad loans or the bad investment decisions by the investment banks or the bad rating, that's actually wrong.
It would have come out somewhere else in the system because of these huge imbalances that we're building up and building pressure on this system. And it had to come out somewhere.
JEFFREY BROWN: Jim Ellis, how do you answer that, who's to blame or where do we look to? Or is it even a relevant question at this point?
JIM ELLIS: I think at this point it's a little -- you know, the horse is out of the barn now. But I think that everybody's to blame. But there's so much money to be made out of the way the system became sort of out of kilter that nobody really wanted to call the party off.
And let's face it. I mean, there was horrible underwritings done in the last five years. I mean, the underwriting standards were basically thrown out. The old days of people in the mortgage business saying that no one can get a mortgage if they pay more than 28 percent of their gross income.
Those were the -- a lot of us grew up in that era. That went out with the bathwater. We thought that we could find ways to get rid of all the risk. We'd find ways to securitize. We could find ways to spread this risk around where actually there was no risk anymore.
It was foolish in hindsight, but it seemed when the smartest guys in the room were saying it, it made a lot of sense, particularly if you could make a lot of money doing it and you could have -- you could maintain a lifestyle that we actually can't afford to have in the United States. As long as foreigners were willing to give us the money to do this, why not do it?
Markets didn't 'self-regulate'
JEFFREY BROWN: So, Chrystia, another way of asking us -- a lot of you seem to be talking about -- is the model, this question of, has the model failed?
I think we had Alan Greenspan at one point a few months back saying that he found flaws in the model. So how do you think about the model in the larger sense? It is ruptured? Is it being repaired now? Can it be repaired?
CHRYSTIA FREELAND: Well, I think that Alan Greenspan put it really well. I think that the model -- if the model was an absolute faith in markets, as Alan Greenspan said in his testimony to Congress in October, he said we believed that banks and the people who ran them were the best people to protect their shareholders and their own equity, and that turned out to be not absolutely the case.
I mean, in a way, I think that part of the problem really stems back to 1989 and the collapse of communism. And I think following that there was this great ideological revolution. Remember we used to talk about the end of history, and we became convinced that free-market capitalism was the only way to run an economy.
I still think that's absolutely right, but I think intellectually we went a little bit overboard. And there was a belief that markets could self-regulate absolutely perfectly. One of the lessons of this crisis is, is that's not true.
Mortgage markets clearly can't self-regulate themselves personally. You can't trust, it turns out, the lenders to always lend prudently. You can't trust the borrowers always to borrow prudently.
And that turned out not just to be the case with maybe uneducated people taking out subprime mortgages, but it turned out to be the case with, as Jim was saying, some of the smartest guys in the room, people who were earning huge salaries, people who had absolutely sophisticated, complex mathematical models that turned out to be very, very bad at valuing risk.
JEFFREY BROWN: Well, you raised this earlier, Greg Ip, with the whole -- you think the whole attitude towards risk is shattered or changed at this point?
GREG IP: Yes, I think -- almost I draw comparison to 9/11, where everything we thought about the risk of terrorism before 9/11 utterly changed on that day.
It's not that the attitudes before then were necessarily wrong. They were formed in the context of what we had grown up with. And today, now that we have had the experience of storied, hundred-year-old firms collapsing into bankruptcy, attitudes about risk and borrowing are going to be very different going forward.
We're going to see the government having a much more pervasive role in the running of the financial sector. We're already seeing it. Companies that fought like cats and dogs to avoid the heavy hand of federal regulation are now rushing to turn themselves into banks, where they'll have to basically submit themselves to regular inspections by bank regulators telling them how much they can borrow, how much they can lend, and how much capital they have to have.
Emerging economies hit hard
JEFFREY BROWN: Let me start with you, Greg, on this. Another model that's called into question here, of course, is the whole globalization, global capital system that we have. We've been talking here mostly focusing on the U.S., but the implications of this well beyond the U.S., well beyond Europe.
GREG IP: Yes, I think that there are two very troubling implications. First of all, when the United States has come off a period of telling the rest of the world, "Follow the free-market model, look how well it worked for us," we can't say that any longer without, you know, frankly, getting laughed at.
Secondly, we're entering a very serious global downturn, probably the worst global recession in 50 years. And in those periods, people always become more protectionist, more self-interested. And we're seeing rising signs of protectionism in places like China and India, and that could be very bad for the entire global system.
JEFFREY BROWN: How do you see that, Steven Pearlstein, the global implications of all this?
STEVEN PEARLSTEIN: I think perhaps it's overblown, the fear that we're going to get into 1928-style tariff barriers and trade barriers. I think we've probably gotten beyond that.
I don't really worry about that so much as I worry about the developing world and how badly they are going to suffer in the coming years. They will not only recoil from the model, but they are not going -- they have been a source of great growth in the whole economy, and getting people out of poverty, and that's been a singular accomplishment of this period since, say, 1989.
And we're going to have some reverse of that now, and that's unfortunate.
JEFFREY BROWN: Chrystia Freeland, do you want to weigh in here, from the Financial Times' perspective?
CHRYSTIA FREELAND: Yes, absolutely. And I think actually the single most important global consequence of this crisis is, really, the paradoxical fact that this is an economic crisis, the first one in a long time, which was made in America and exported to the rest of the world.
But even though it started here, it is other parts of the world, particularly those emerging market economies, which are being much more badly hit than the United States itself.
And I think one of the big stories of 2009 is going to be a lot of those emerging market economies really being flattened by this crisis. The way the developed countries, which themselves are suffering a tremendous recession, respond to that, I think, will have a very, very great impact on how the global economy looks a decade from now.
Volatility continues into 2009
JEFFREY BROWN: Well, Jim Ellis, speaking of looking to 2009, everyone's now waiting for a new administration, of course. Everybody talks about, have we hit a bottom in the market?
What signs do you watch for? Help our viewers here. What signs do you watch for to know how this is going to go over the next months and year?
JIM ELLIS: Well, it's a little difficult to look at this particular sort of recession and say, you know, it's going to behave the way it did in previous recessions, because it's actually -- you know, we're in sort of uncharted territory, because we not only had a recession, we've also had this sort of financial meltdown, the credit crisis, which is somewhat removed from that.
It was weird. We actually didn't feel the recession for a long time. And all of a sudden, when the credit crisis came and slammed us this year, all of a sudden, we said, "My god, we've been in recession actually for a year now."
I think that that makes it very difficult to predict that this is going to behave like previous recessions. As we know now, it's probably going to be as long a recession as we've had since the '30s, but we're probably at least halfway through it.
The good thing about this is that financial markets tend to respond four to six months before the actual economy does. So we may actually see some better times for financial markets in the middle of 2009.
But if you're looking for a big bounce-back in the economy, that's not going to happen. It's just -- the same way that we didn't have a giant tanking in the economy this time around, we're not going to have a giant pop-back at the end of 2009 or maybe even at the beginning of 2010.
That, unfortunately, is the future. We managed the economy much better than we used to. We don't have to hit the brakes like we used to that cause recessions, but it also means that we can't jam the accelerator pedal and just sort of roll out of this.
JEFFREY BROWN: Greg? Oh, go ahead.
STEVEN PEARLSTEIN: I don't know whether we're going to be saying that in six months, Jim, when unemployment is at 9.2 percent. I think that we have not anywhere hit bottom, and I doubt very seriously if we're halfway through this in an economic sense.
JEFFREY BROWN: Greg Ip, what are you looking for?
GREG IP: Well, I think it's quite possible that financial markets are close to, if not at a bottom. I'll add the caveat, Jeff, that I thought the same thick in March just before we got a whole new blowup.
JEFFREY BROWN: So we know not to listen to you at all? OK.
GREG IP: That's correct. But that said, it's because, you know, a month or two ago, they were pricing in Armageddon, and policymakers in the United States and Europe and Asia responded to prevent Armageddon from happening.
And they will continue to respond, whether it's through unconventional monetary policy by the Federal Reserve or massive fiscal stimulus by the Obama administration, and that's why I do not anticipate the worst-case scenarios to come out.
But that said, I mean, we're going through, as Jim said, uncharted territory where, for the first time, consumers are pulling back from a 20-, 25-year borrowing and spending spree. We need to reorient the economy to one that's more based on saving.
We have second-round effects of that unemployment hitting credit card loans and commercial real estate loans, so there's going to be more trouble for the banks coming out of that.
JEFFREY BROWN: See, I should have stopped you, because I want to end with the glass half-full. Could we stop there?
GREG IP: Oh, sure, yes.
JEFFREY BROWN: All right. Happy new year to all of you, and thanks so much, Greg Ip, Jim Ellis, Chrystia Freeland, and Steven Pearlstein. Thanks very much.