Lecture on executive pay and the crisis

[Admiral Yi]

I think DGuller's comparison is pretty apt.  It's like blaming WW1 on the Black Hand.  That may be strictly true but I don't think it really explains anything.

Where are all the other financial dominoes that came crashing down once the subprime bubble popped?  You've essentially got one: commercial real estate lending.  And I'm not even sure how widespread that one was.

[Sheilbh]

Where are all the other financial dominoes that came crashing down once the subprime bubble popped?  You've essentially got one: commercial real estate lending.  And I'm not even sure how widespread that one was.

What do you mean by financial dominoes?  Also how are you definign crashing down?

For what it's worth I see the current problem in Europe as part of the same global credit crisis that started with the subprime bubble.

[MadImmortalMan]

For what it's worth I see the current problem in Europe as part of the same global credit crisis that started with the subprime bubble.

Why? The subprime bubble brought forward the sovereign crisis due to risk-nationalization, but they are two different things. The first didn't create the second. The sovereign problem would have been here eventually, even without the subprime stuff.

[Ideologue]

And highlit poor tax policy in the U.S., and brought about our penchant for embracing anarchism masquerading as conservative values, exposing our instability/ineptitude, which--as I understand it--helped make us less creditworthy.

[Martinus]

For what it's worth I see the current problem in Europe as part of the same global credit crisis that started with the subprime bubble.

Why? The subprime bubble brought forward the sovereign crisis due to risk-nationalization, but they are two different things. The first didn't create the second. The sovereign problem would have been here eventually, even without the subprime stuff.

The subprime mortgage default (I understand that's what you mean by "subprime bubble"?) was just a tip of the iceberg and the most visible aspect of the general tendency to take risks beyond what is reasonable. This was to a large extent caused by wrong incentivisation of decision makers, who were rewarded for excessive risk taking. From that perspective, lending tons of cash to Greece falls in the same basket and lending excessive mortgage loans to the populace.

[Sheilbh]

Why? The subprime bubble brought forward the sovereign crisis due to risk-nationalization, but they are two different things. The first didn't create the second. The sovereign problem would have been here eventually, even without the subprime stuff.

My read on it all is that we're still in the same debt crisis that was made dangerous due to very global capital imbalances and systemic failure by the banking sector to properly measure risk.  The subprime bubble was the canary in the coal mine.  Even taking the subprime problem it was clearly something rather more than that given that, from what I remember, its first casualty was a British bank - in fact we had a run on that bank until the government stepped in.

[Tamas]

Were the banks so wrong in taking these "stupid risks" though? I don't think so.
They took them because they counted with state intervention to save their asses in case of the thing turning against them, and what do you know, apart from a couple of cases which went too far, they were right.

"too big to fail" must go. We WILL repeat this over and over and over again, while we have an unremovable aristocracy posing as investment bankers. And you cannot remove that untouchable upper class while the public is screaming for more regulations. "Regulation" was what these guys counted on when they gambled with subprime, "regulation" was what saved their ass.

[Sheilbh]

I agree we need 'too big to fail' to end.  I don't understand the blanket anti-regulation thing though.  It seems almost impossible to see how you could end 'too big to fail' without changing banking regulations.

[Martinus]

Were the banks so wrong in taking these "stupid risks" though? I don't think so.
They took them because they counted with state intervention to save their asses in case of the thing turning against them, and what do you know, apart from a couple of cases which went too far, they were right.

"too big to fail" must go. We WILL repeat this over and over and over again, while we have an unremovable aristocracy posing as investment bankers. And you cannot remove that untouchable upper class while the public is screaming for more regulations. "Regulation" was what these guys counted on when they gambled with subprime, "regulation" was what saved their ass.

You are wrong. Banks and corporations (contrary to what Mitt Romney would tell you) are not "people". They do not think in terms of their wellbeing or interest - people who manage them and take decisions think in terms of their own wellbeing and interest. That is why you need to have proper incentives, because otherwise these people will take decisions that will benefit them, not the institutions they are running (or shareholders or deposit owners or investors) - unless they have to or it's in their interest to do so.

I have had contact with a lot of people who were involved more or less directly in the risk taking I am talking about - and a lot of these decision makers genuinely thought the markets are going to increase forever (or at least "forever", from their perspective, i.e. for the next 10-20 years). Until Lehman, noone was thinking in terms of "if we fail, they will bail out". The possibility of failing simply wasn't even considered.

[Martinus]

I agree we need 'too big to fail' to end.  I don't understand the blanket anti-regulation thing though.  It seems almost impossible to see how you could end 'too big to fail' without changing banking regulations.

Precisely.

"Too big too fall" is not some pro-banker invention - it's a reflection of reality, where unregulated bankers gambled with money of people who were not to blame in the slightest, even in terms of an error of judgement. In the world of Tamas's cretinous idiocy of deregulation everyone would keep their money inside a hole dug in the backyard - because there would be no way to prevent it from being gambled on if you as much as put it on a bank account.

One may just as well argue that if we abolished criminal law, there would be no murderers and thieves, since law would no longer define the concept of a murder or theft. Jeez. Why do Hungarian IT technicians think they are suddenly experts on international finance?

[Admiral Yi]

What do you mean by financial dominoes?  Also how are you definign crashing down?

For what it's worth I see the current problem in Europe as part of the same global credit crisis that started with the subprime bubble.

Take a look at the asset classes I posted on the first page in response to DGuller. If you and he are correct all of those should have seen risk significantly underpriced.

[Sheilbh]

Take a look at the asset classes I posted on the first page in response to DGuller. If you and he are correct all of those should have seen risk significantly underpriced.

The risk on commercial property's been pretty seriously underpriced - and I think that's global.  The US Treasury had to set up a few schemes to buy commercial paper during the crisis and loan to the market to keep liquidity going. 

I'd also say there was anunderappreciating of the potential damage the risk could cause.  So we underpriced the risk of subprime mortgages, but I think because of the CDSs and the like there was a failure to appreciate how much damage that initial underpricing could cause.

I think a number of recent banking crises in different countries have been caused by declines in the property market.  I read that some economists think property's effectively replaced innovation (generally) as the cause of overexuberant bubbles.  It seems like an interesting idea.

[Admiral Yi]

The risk on commercial property's been pretty seriously underpriced - and I think that's global.

I think that's Ireland.

The US Treasury had to set up a few schemes to buy commercial paper during the crisis and loan to the market to keep liquidity going. 

They did that because a number of credit markets froze in the wake of the crisis.  Commercial paper was one, interbank lending was another.  But if you've read somewhere that the riskiness of commercial paper was significantly underpriced, please share it with me.

[Razgovory]

Were the banks so wrong in taking these "stupid risks" though? I don't think so.
They took them because they counted with state intervention to save their asses in case of the thing turning against them, and what do you know, apart from a couple of cases which went too far, they were right.

"too big to fail" must go. We WILL repeat this over and over and over again, while we have an unremovable aristocracy posing as investment bankers. And you cannot remove that untouchable upper class while the public is screaming for more regulations. "Regulation" was what these guys counted on when they gambled with subprime, "regulation" was what saved their ass.

You are wrong. Banks and corporations (contrary to what Mitt Romney would tell you) are not "people". They do not think in terms of their wellbeing or interest - people who manage them and take decisions think in terms of their own wellbeing and interest. That is why you need to have proper incentives, because otherwise these people will take decisions that will benefit them, not the institutions they are running (or shareholders or deposit owners or investors) - unless they have to or it's in their interest to do so.

I have had contact with a lot of people who were involved more or less directly in the risk taking I am talking about - and a lot of these decision makers genuinely thought the markets are going to increase forever (or at least "forever", from their perspective, i.e. for the next 10-20 years). Until Lehman, noone was thinking in terms of "if we fail, they will bail out". The possibility of failing simply wasn't even considered.

Weird.  I'm agreeing with Marty here.  If a guy at a company can make 5 dollars today and lose 10 tomorrow he'll do it so long as he's not working there tomorrow morning and he doesn't have to suffer the longer term consequences.  You can't expect a company to be rationally self-interested because the running and working at the company have different and often conflicting self-interests.

[Sheilbh]

I think that's Ireland.

It's far more than Ireland, it's in at least the UK too.  But I believe there's worries worldwide because loans to commercial property overall more-or-less doubled in a number of countries during the 2000-07 period.  Around about half of that matures over the next 4-5 years.  The price of commercial property's fallen a lot, so far the banks have sort-of maintained the sector through forebearance and agreements.  In the UK the largest lender's had to write down over a third of their commercial property debt.  How much of the spirit  of those agreements can continue isn't clear when there's still slack demand, the banks need to raise their capital and there's still a lot of negative equity isn't clear.