JIM LEHRER: Another day of financial anxieties everywhere. Jeffrey Brown has our coverage tonight.
JEFFREY BROWN: The day began with a worldwide effort to cut interest rates to spur growth and ease the credit crisis, but markets responded with little confidence about the situation. In fact, they fell again.
To discuss the latest, we’re joined by Simon Johnson. He was chief economist at the International Monetary Fund until this past August. He’s now a professor at the MIT Sloan School of Management and a senior fellow at the Peterson Institute for International Economics.
Liz Ann Sonders is chief investment strategist at Charles Schwab.
And Richard Thaler, professor of behavioral science and economics at the University of Chicago Graduate School of Business and the author of “Nudge: Improving Decisions About Health, Wealth, and Happiness.”
Well, Liz Ann Sonders, I’ll start with you. Today’s effort by the Fed and other central bankers, how unusual was it? And what was it intended to do to turn things around?
LIZ ANN SONDERS, Charles Schwab: Well, I decided to stop using the word “unprecedented,” because I hear it constantly these days, so it’s already becoming an overused word, but it is very rare to see this kind of coordinated action.
You know, in the last couple of days, there had been a building view and consensus that we were likely to see an inter-meeting rate cut by the U.S. Federal Reserve, but we felt all along that what would have been much more helpful would either be a coordinated set of rate cuts or at least a series of global central bank rate cuts, and that’s, indeed, what we got.
The U.S. economy is actually more impacted by global interest rates, not just U.S. interest rates. So although clearly the market did not vote directionally up today with its move, we can’t just look at single-day moves by the stock market. I think the decision by the global central banks was the right one.
JEFFREY BROWN: Simon Johnson, all week we’ve been talking about Europe’s problems and the need for coordinated action there. Was the willingness of central bankers in Europe to participate in this a helpful sign?
SIMON JOHNSON, MIT Sloan School of Management: Yes, it was a helpful sign. It wasn’t really what you needed to break the panic, the mood of panic, let’s say, which is pervasive. But it was a good sign the Europeans and the U.S. could get together in this way.
JEFFREY BROWN: What about the action in Britain that we heard about with the banks?
SIMON JOHNSON: Well, that’s also pretty positive. The British announced a rather assertive bank nationalization recapitalization program. It’s rather like a big Warren Buffett-type program for the entire banking sector.
It makes a lot of sense under the circumstances. It wasn’t — again, it was a little bit like throwing pebbles into a stormy ocean, which is the phrase I’m hearing a lot these days. It’s a little bit too late, a little bit too little, a little bit by themselves. The rest of the Europeans are not there yet with them.
So it hasn’t had the kind of effect that they were hoping for.
JEFFREY BROWN: Is that your explanation of why markets did not respond very well today?
SIMON JOHNSON: Yes, clearly, there’s an enormous, enormous storm out there. And what’s really needed — the only thing that will turn around is decisive, coordinated action across the G-7 and maybe the G-7 plus some other countries, when and if they come in with the monetary policy, the fiscal policy, and the bank support, short term and medium term, they’ll turn it around.
And they could turn it around really quickly. I think the mood can switch really fast. And you see inklings that this message is getting through to the policymakers. And the policymakers are trying to move in the right direction. So I’m a bit encouraged from today, even though overall it was a down day.
General mood of confusion
JEFFREY BROWN: Well, Richard Thaler, I just heard the word "mood," which was one of the reasons we wanted you to join us here to talk about markets and behavior and how it works.
It just strikes me that last week we were talking about bad assets and bad loans and institutions failing. And this week, most of the talk is about mood and confidence and panic.
Help us see what's going on. What do you see?
RICHARD THALER, University of Chicago Graduate School of Business: Well, I think that people are confused. And, you know, take the actions today.
I think there are two different ways of interpreting them. One is to say, "Thank God they've acted, and I should be happy." On the other hand, the other is to say, "Well, oh, my gosh. Things must be really bad for them to all agree to take this action together," the steps that were taken in England and in Iceland.
JEFFREY BROWN: Excuse me, do you mean that the very fact that they're acting like this has a kind of counterintuitive effect, it makes people more scared?
RICHARD THALER: I think so, and reasonably so. It's natural to say, given how difficult it's been to get these central banks to coordinate, when they do, to say, "Oh, they have data that we don't, and they must be really worried."
JEFFREY BROWN: But what about the mentality of the investors, the markets that need to gain confidence? What do we know about what drives that on a given day or what it takes to turn it around?
RICHARD THALER: Well, I think we don't know much. I think one thing that should be stressed is that we don't really know whether there is a panic here. We have lots of uncertainty. And when there's lots of uncertainty, we expect volatility. People can't really make sense of this.
The other thing I would say is that whatever is going on is primarily being driven by professionals. This is not a retail panic. And I'm not sure that there is a panic.
People are reacting to very real things. The credit crunch is quite real. And people in the money management side are worried about people withdrawing their money. They're having trouble borrowing. And so they have to reduce leverage, and all of that drives prices of risky assets down.
JEFFREY BROWN: Liz Ann Sonders, what do you make of this question of panic and mood and what is driving investors and markets right now?
LIZ ANN SONDERS: You know, the comment just made about leverage I think is one of the more important ones. We are in a de-leveraging cycle.
We know we're doing it, in terms of consumer leverage, which had gone in the stratosphere, and that's ultimately one of the silver linings here, is we're taking a very indebted consumer and hopefully moving them to an environment where they're more savings-oriented.
But we also have to understand the mechanisms of the market. Some of the biggest players in the market are hedge funds, in the very short-term, day-to-day trading. And they're the ones going through this massive de-leveraging process.
And they're the ones that explain what are really record-breaking number of days where we have 2 percent moves, 3 percent moves, these rapid intraday swings. So I absolutely agree that that's not being driven by the retail investor.
Now, they've been somewhat active. Individual investors have raised cash in their portfolios. But it's been fairly steady over the course of this year.
We've gone from overall about a 22 percent, 23 percent cash position broadly for American portfolios in January, up to, you know, 34 percent, 35 percent now. But that has happened over time, and it certainly doesn't explain the kind of short-term gyrations.
So we have to understand the effect that hedge funds and other shorter term momentum kind of traders and investors are having on this market right now.
Calming the public, investors
JEFFREY BROWN: Well, Simon Johnson, continue helping us to understand this. In our news summary, we saw Secretary Paulson calling for patience, it will take time. Who is he speaking to?
SIMON JOHNSON: That's a good question. I think he's speaking to the American people. I think he's saying that we need some time to really turn things around at a fundamental level.
But he's also trying to communicate to the markets. And to the markets I think the message should be: We're coming with a decisive package. We're going to turn things around.
And I think he's also speaking to the other members of the G-7, to whom he's trying to say, you know, let's get going.
So there's a bunch of different communications levels here. And Professor Thaler is right about the confusion. In fact, I would say anyone who claims not to be confused right now isn't telling the truth.
JEFFREY BROWN: And does that include Secretary Paulson and the Fed? I mean, all these actions that they're taking, no doubt they have to take into consideration the psychological impact, as well as the substantive or fundamental impact.
SIMON JOHNSON: I think they're figuring this out. They're very smart people, and they're catching up.
They realize that what we're seeing here is much more like an emerging market crisis, the kind of thing we see in Russia or we saw in Asia in 1998, where it's all about sentiment, it's all about confidence, and things can go down really fast, but you can also bring them back. You bring them back with something big and decisive.
I think we learned today that it's got to be pretty big and rather decisive commitment to the public balance sheet in order to turn it around.
JEFFREY BROWN: Richard Thaler, something big and decisive, is that what history tells it takes to turn things around?
RICHARD THALER: Well, I think we don't have much experience with history. We can go back to the Depression to see what not to do.
I think many of the steps that have been taken were essential. When they guaranteed the money market accounts and then raised the limits on the balances in savings accounts to $250,000, I think those were essential, because I mentioned we haven't really had a retail panic.
We could have, if people had started taking their money out of those accounts and putting it under the mattress or whatever one does with money when you panic these days.
I think the retail investor might be tempted to panic, but I'm not sure this makes any sense, but to say that they don't really know how to do it. You know, you see a line, and you know to run away.
This is also bewildering to the man on the street. They're worried, but maybe, as Liz said, maybe they'll start paying off their credit cards. And if that's the way they panic, that will be great.
Possible room for more cuts
JEFFREY BROWN: Well, Liz Ann Sonders, what do we look for next? Interest rate cuts, for example, could there be more? How low could it go?
LIZ ANN SONDERS: Oh, I think there probably could be more. Whether they continue to be as coordinated as they were today is hard to say.
But I think there's not an insignificant chance that the Federal Reserve here in the U.S. cuts rates again at their next scheduled meeting, which is at the end of this month. I think we could see rates head to 1 percent, maybe even below that. It does help to build capital, re-liquefy the banking system.
There are a lot of consumer loans tied to the prime rate, which in turn is tied to the fed funds rate, so it does matter, in terms of at least helping bring some consumer loans down and start to feed into the demand cycle for housing. There's certainly a number of technical things that we can look at from a market perspective.
The one thing I will say about panic, and whether it's manifesting itself yet in the markets, and whether we're seeing that kind of activity by the retail investor is that we have to think about what preceded this era.
When we were at market highs, not only for the U.S., but other global markets, back last fall, for the most part, really where the action had been for the several years prior was not in the U.S. equity market, but was in global equity markets, particularly emerging markets.
That's where not only all the action was; it's where all the dollars were flowing; it's where all the performance was. We're seeing those markets get obliterated relative to the U.S. market.
So maybe you can't still define it as panic, but we are seeing a much greater amount of selling, including by the retail public, out of international and emerging market stocks, because that's where all their buying focus had been prior to this downturn.
JEFFREY BROWN: All right, we will have to leave it there. Liz Ann Sonders, and Richard Thaler, and Simon Johnson here in Washington, thank you all very much.