Audit Roundup: Bubble Brains

Press forgets Fed's easy money sparked the crisis; WaPo good on dividends; etc.

What a short memory the business press has.

Amazingly, neither the Journal nor the NYT in their page-one stories on the Fed slashing interest rates to 1 percent mention what happened the last time the Fed slashed its interest rates to 1 percent: The housing bubble. Even the FT, which seems to be the central bankers’ paper of choice, doesn’t write about it.

This is not exactly a minor detail. It’s pretty clear in everyone but Alan Greenspan’s mind—and how often do you see that kind of consensus—that the Fed was responsible for keeping its easy money policy going too long.

The problem is that at 1 percent, the Fed is lending money at a negative real return. Take into account inflation of 5 percent or so and the banks borrowing this money are getting paid to take loans. Now you know why the stock market jumped the other day despite the apocalyptic news on consumer confidence.

The Fed paying banks to take loans distorts their decisions just like it did in 2002 through 2004. While this situation is much worse than that recession (and jobless recovery), the Fed’s stated concern is the same: deflation.

I’m not saying that the Fed cut is a bad move, but it’s inexcusable for the press not to give readers this context. And it needs to hit on it repeatedly so we don’t repeat the mistakes of just four years ago.

I like this smart Washington Post report that says banks getting money from the government will pay out half of it in dividends to investors over the next three years. That is unbelievable. Dividends are supposed to be paid by stable companies that have excess cash to throw off—not ones at the government teat.

The government said it was giving banks more money so they could make more loans. Dollars paid to shareholders don’t serve that purpose, but Treasury officials say that suspending quarterly dividend payments would have deterred banks from participating in the voluntary program.

Well, screw ‘em if they don’t want to participate.

The Treasury’s approach contrasts with decisions by foreign governments, including Britain and Germany, to require banks that accept public investments to suspend dividend payments until the government is repaid. The U.S. government similarly required Chrysler to suspend its dividend payments as a condition of the government’s 1979 bailout.

Great reporting by the Post.

The FT takes a nice long look at the overarching trend behind much of the economy’s problems: the stagnation of middle-class incomes.

“You have to question whether conventional measures of economic growth mean anything when most people’s incomes have either been stagnating or declining for many years,” says Jared Bernstein, an economist at the liberal Economic Policy Institute and an adviser to Mr Obama. “The fact that wage earners are no longer getting the benefits of their improving productivity in the workplace is something we have never experienced [before] in modern America.”

The data are stark and go some way towards explaining why so many Americans felt so disaffected even during the most robust years of economic growth under the Bush administration. Between 2000 and 2006, the US economy expanded by 18 per cent, whereas real income for the median working household dropped by 1.1 per cent in real terms, or about $2,000 (£1,280, €1,600). Meanwhile, the top tenth saw an improvement of 32 per cent in their incomes, the top 1 per cent a rise of 203 per cent and the top 0.1 per cent a gain of 425 per cent.

Part of this was because the latest period of economic growth failed to create jobs at nearly the same rate as in previous business cycles and even led to a decline in the number of hours worked for most employees. Unusually for a time of expansion, the number of participants in the labour force also fell. But mostly it was because the fruits of economic growth and soaring productivity rates went to the highest income earners.

And how!

The NYT asks what AIG’s done with its $123 billion government loan, keeping up the paper’s good coverage of that insurance company’s disgrace. This time the paper reports that analysts are coming to believe the company was sitting on tens of billions in losses for months. That’s no good:

Mr. Vickery and other analysts are examining the company’s disclosures for clues that the cushion was threadbare and that company officials knew they had major losses months before the bailout.

Tantalizing support for this argument comes from what appears to have been a behind-the-scenes clash at the company over how to value some of its derivatives contracts. An accountant brought in by the company because of an earlier scandal was pushed to the sidelines on this issue, and the company’s outside auditor, PricewaterhouseCoopers, warned of a material weakness months before the government bailout.

The internal auditor resigned and is now in seclusion, according to a former colleague.

I agree with Dean: Put everything on the table. My bet is the reason that won’t happen is because their balance sheets are so bad.

The Auditeers have talked about how much we like economic history reports. Even if history doesn’t repeat itself (exactly, anyway), it is helpful to have context when we hear “Great Depression”, “breadlines”, and “crash” day in and day out. The Washington Post comes through here with a nice read explaining how the Depression didn’t start overnight.

Soup kitchens popped up within months, but didn’t become “ubiquitous” in many cities until 1932, says Kyvig, author of “Daily Life in the United States, 1920-1940.” The demand was so overwhelming by then, he says, that church and private charities turned to increasingly strapped local governments to keep their programs going.

Kyvig, a professor at Northern Illinois University, says he stuns his students when he tells them what happened in Detroit, a particularly hard-hit city. Overwhelmed by demands from the needy, the city shut down its zoo in 1932 and slaughtered its animals to provide food.

The parallels between October 1929 and today are striking.

Although the contemporary economy is far larger and more complex than it was eight decades ago, consumers were deeply in debt then, too. The gap between rich and poor had widened, thanks in part to tax cuts for the wealthy. Amid it all, the stock market—lightly regulated—grew into a speculative bubble, driven to unsupportable highs by investors who used borrowed money to purchase shares.

If you have any doubts that commercial real estate will be the next big shoe to drop, check out a random Thursday’s headlines on the Marketplace front of the WSJ:

London Mall Opens in Worst of Times

As Las Vegas Slumps, Wynn Doubles Down

Beverly Hills Development Is in Doubt After Default

Bloomberg notes that well-known shorts David Einhorn and Stevie Cohen aren’t having any problem raising money, unlike some of their other hedge fund peers.

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Ryan Chittum is a former Wall Street Journal reporter, and deputy editor of The Audit, CJR's business section. If you see notable business journalism, give him a heads-up at Follow him on Twitter at @ryanchittum.