Their tension is built into their business: they are looking after other people's savings, yet they make their profits from lending them out, which must entail risks. "If we don't take risks, then we're not real bankers," says Tom Clausen, who ran Bank of America before he took over the World Bank. Bankers often stress that they are merely reacting to external events: like women in Victorian times, they are not required to take initiatives, only to say yes or no. "I'm just trying to deal with a succession of accidents," says Walter Wriston. "It's like surfing," says a partner of Barings, "just waiting for the next wave, and trying to keep upright." Yet the more they compete, the more aggressively the seek to lend. "This bank, " says Harold Cleveland, historian of Citibank, "has a tradition of being very conservative and very aggressive"; and other banks claim the same combination. It sounds contradictory, but it is the bankers' dilemma. A small customer who trusts a bank with his savings may be shocked to learn that his money has been lent aggressively across the world; or that what a bank calls its assets are in fact its loans. But bankers ever since Shylock have been accustomed to being reviled; their long suffering style assumes that their true value will never be appreciated. (pg. 21)
This is from The Money Lenders by Anthony Sampson, an interesting diversion through the history of banking until the late 1970s.
Tuesday, February 2, 2010
Quotes on bankers
Bankers are just like anyone else, except richer.
- Ogden Nash-
Banks have done more injury to religion, morality, tranquility, prosperity and even wealth of the nation than they can have done or ever will do good.
- John Adams, 1819 -
A "sound" banker, alas! is not one who foresees danger and avoids it, but one who, when he is ruined, is ruined in a conventional and orthodox way along with his fellows, so that no one can really blame him.
- J.M. Keynes -
Imprudent banks are supposed to be punished by the marketplace, by going out of business. But the banks were so interdependent that an imprudent bank could cause the collapse of the system.
- "Adam Smith" in Paper Money, 1981
Never before in the history of banking has so much been owed by so few to so few.
- The Economist, June 10, 1978 -
If you see a Swiss banker jump out of the window, jump after him, there's bound to be money in it.
- Voltaire -
If I owe a million dollars, then I am lost. But if I owe fifty billions, the bankers are lost.
- Celso Ming, Brazilian economist, 1980 -
Some unattributed ones I read somewhere and have forgotten, so they may not be correctly worded:
You don't have to make a lot of money to be rich. You just have to convince the banks to give you the money.
On the bailout:
Never has so much been owed by so few to so many.
- Ogden Nash-
Banks have done more injury to religion, morality, tranquility, prosperity and even wealth of the nation than they can have done or ever will do good.
- John Adams, 1819 -
A "sound" banker, alas! is not one who foresees danger and avoids it, but one who, when he is ruined, is ruined in a conventional and orthodox way along with his fellows, so that no one can really blame him.
- J.M. Keynes -
Imprudent banks are supposed to be punished by the marketplace, by going out of business. But the banks were so interdependent that an imprudent bank could cause the collapse of the system.
- "Adam Smith" in Paper Money, 1981
Never before in the history of banking has so much been owed by so few to so few.
- The Economist, June 10, 1978 -
If you see a Swiss banker jump out of the window, jump after him, there's bound to be money in it.
- Voltaire -
If I owe a million dollars, then I am lost. But if I owe fifty billions, the bankers are lost.
- Celso Ming, Brazilian economist, 1980 -
Some unattributed ones I read somewhere and have forgotten, so they may not be correctly worded:
You don't have to make a lot of money to be rich. You just have to convince the banks to give you the money.
On the bailout:
Never has so much been owed by so few to so many.
Securitization removes incentives to monitor
I never really bought this as a reason for the crisis.
In fact, for many Wall Street firms, it wasn't enough merely to be able to package mortgage backed securities. They wanted in on the whole process, from origination to packaging to selling and even to the exacting business of collecting people's mortgage payments and distributing them to MBS holders (known as servicing).
Lehman Brothers was the first Wall Street firm to really embrace all aspects of the mortgage business. Bill Dallas remembers:
(pg. 73)
This is from And Then the Roof Caved In by David Faber which was better than I had expected. One aspect that of the financial crisis that I did not realize was that the earnings smoothing scandal at Fannie Mae and Freddie Mac in 2003-2004 forced these GSEs to slow down their buying of MBS and created a vacuum for Wall Street firms to fill. Of course when the GSEs were let off the hook they stepped back in with a vengeance.
Also interesting was how seemingly easy it was to become a subprime lender. The book profiled Daniel Sadek who went from car salesman (Mercedes-Benz though) to subprime lender earning $5 million a month! And who was financing his operation? Wall Street.
In fact, for many Wall Street firms, it wasn't enough merely to be able to package mortgage backed securities. They wanted in on the whole process, from origination to packaging to selling and even to the exacting business of collecting people's mortgage payments and distributing them to MBS holders (known as servicing).
Lehman Brothers was the first Wall Street firm to really embrace all aspects of the mortgage business. Bill Dallas remembers:
What was Lehman's model? "We wanna originate it. So we're
gonna buy originators and we're gonna buy a servicer." And they were pretty
successful at it. They bought BNC Mortgage. They bought Finance America. They
bought their own service, called Aurora. Well, Wall Street firms are pretty much
lemmings. If Lehman's doing it and they're successful at it, then Bear Stearns
will go and Merrill will go and Goldman will go. They'll all go at it. And they
all did.
(pg. 73)
This is from And Then the Roof Caved In by David Faber which was better than I had expected. One aspect that of the financial crisis that I did not realize was that the earnings smoothing scandal at Fannie Mae and Freddie Mac in 2003-2004 forced these GSEs to slow down their buying of MBS and created a vacuum for Wall Street firms to fill. Of course when the GSEs were let off the hook they stepped back in with a vengeance.
Also interesting was how seemingly easy it was to become a subprime lender. The book profiled Daniel Sadek who went from car salesman (Mercedes-Benz though) to subprime lender earning $5 million a month! And who was financing his operation? Wall Street.
Thursday, January 28, 2010
The benefits of hindsight
The current financial crisis has its roots in Greenspan's decision to keep interest rates very low in 2002 and 2003 to head off the danger of a deflation-induced double-dip recession, and his subsequent decision that the costs of cleaning up after a housing bubble were likely to be less than the costs of the high unemployment that would be generated by a preemptive attempt to pop a housing-speculation bubble. Two years ago, I would have said that Greenspan's judgment here was correct. Six months ago, I would have said that his judgment was probably correct. Today -- in the middle of the largest nationalizations in history -- I can no longer state that Greenspan made the right calls with respect to the level of interest rates and the housing bubble in the 2000s. (emphasis mine)
From Brad DeLong.
This is the nice thing about economics (and blogging) being a spectator sport - we get to be right all the time.
Wednesday, January 27, 2010
Regulating banks
1. New financial products are like new drugs and should be treated as such. New financial products have to undergo "trials" and data collected extensively before being offered to the general public.
Unlike new drugs, financial products need only be safe and not necessarily effective.
2. MR comments on the Volcker banking plan that regulates bank size and limits proprietary trading. As has been mentioned previously here, and here that limits on bank size is in effect a limit on profits. Perhaps the best way to go is to treat all financial institutions as public service companies such as water companies. Hearings are held as to whether new products can be launched, how much pay top management should receive and how much products should be charged. (No, seriously!)
The public service commission approach will answer most (if not all but #7) in a positive manner:
1. Do its restrictions apply to subsidaries, affiliates, and holding companies in a meaningful way? Can they apply?
2. How do the restrictions apply to off-balance sheet activities, if at all? Keep in mind the various lessons about the construction of synthetic asset positions.
3. How will Congressional oversight committees apply and interpret the plan? This is a big one.
4. Can a financial institution avoid or sidestep the restrictions by changing its status as a commercial bank, legally speaking?
5. If you cap bank size, are the new and smaller banks still "too big to fail" by prevailing standards?
6. How does the proposal treat bank leverage, including implicit forms of leverage through off-balance sheet activities? Does leverage get redistributed elsewhere?
7. How does it affect the political economy of bank lobbying?
The above most thoughtful questions are from MR.
Unlike new drugs, financial products need only be safe and not necessarily effective.
2. MR comments on the Volcker banking plan that regulates bank size and limits proprietary trading. As has been mentioned previously here, and here that limits on bank size is in effect a limit on profits. Perhaps the best way to go is to treat all financial institutions as public service companies such as water companies. Hearings are held as to whether new products can be launched, how much pay top management should receive and how much products should be charged. (No, seriously!)
The public service commission approach will answer most (if not all but #7) in a positive manner:
1. Do its restrictions apply to subsidaries, affiliates, and holding companies in a meaningful way? Can they apply?
2. How do the restrictions apply to off-balance sheet activities, if at all? Keep in mind the various lessons about the construction of synthetic asset positions.
3. How will Congressional oversight committees apply and interpret the plan? This is a big one.
4. Can a financial institution avoid or sidestep the restrictions by changing its status as a commercial bank, legally speaking?
5. If you cap bank size, are the new and smaller banks still "too big to fail" by prevailing standards?
6. How does the proposal treat bank leverage, including implicit forms of leverage through off-balance sheet activities? Does leverage get redistributed elsewhere?
7. How does it affect the political economy of bank lobbying?
The above most thoughtful questions are from MR.
Tuesday, January 26, 2010
Quantum economics
No doubt in my mind that there are parallels between quantum physics (many dimension worlds) and economic modeling. These excerpts are from The Great Beyond by Paul Halpern which was a great read until I had to struggle to understand tensor calculus and SU(3) symmetry and the such. I'd be surprised if I can find an accessible (read: idiot's guide) to these concepts.
Now that mathematicians had taken over relativity, he [Einstein] bemoaned, he could barely understand it himself. (pg. 79)
A main problem for us theoreticians rather resembles that represented Charybdis and Scylla between which Odysseus was forced to steer. ... Speculation is certainly a necessary part of the theoretical work, just as much as building on experimental facts. Still, it drags many of us into a mental whirlpool not unlike the hydrodynamical one of Charybdis, from which the escape feels like a miracle. On the other hand, sticking too closely to the facts - Scylla had six hard ones - may be equally deadly when using them as building stones for theory. - OSKAR KLEIN, From My Life of Physics (pg. 114)
I was surprised how dogmatic Einstein's view could be - on page 171:
As he [Einstein] guided his assistants during their exhibitions into unknown territories, it became clear to them that he had very fixed ideas about what features should or should not become part of a unified theory. ... Knowing his taste, they would strive hard to make their models more "virtuous" and less "sinful." One of the cardinal sins, for example, was bringing any notion of probability into the theories.
Supersymmetry is one of the most audacious proposals in the history of modern scientific thought. Year after year since it was postulated, experiments have failed to demonstrate its existence. Accelerators have smashed countless particles, producing not a single supersymmetric companion in their debris. Yet many theorists find it so compelling that they can scarcely believe the world could survive without it. ... No other physical theory has won so many supporters with so little experimental support, surviving instead on the basis of its own mathematical beauty and internal consistency. (pg 231, emphasis mine)
... [physicist, Steinhardt] sees considerable danger in relying on one particular model. "When you get down only to a single competitor it's not always a healthy situation," he advises. "It's much better to have two or more competing models, forcing you to think more carefully about your theories, your predictions and the observations." (pg. 284)
Now that mathematicians had taken over relativity, he [Einstein] bemoaned, he could barely understand it himself. (pg. 79)
A main problem for us theoreticians rather resembles that represented Charybdis and Scylla between which Odysseus was forced to steer. ... Speculation is certainly a necessary part of the theoretical work, just as much as building on experimental facts. Still, it drags many of us into a mental whirlpool not unlike the hydrodynamical one of Charybdis, from which the escape feels like a miracle. On the other hand, sticking too closely to the facts - Scylla had six hard ones - may be equally deadly when using them as building stones for theory. - OSKAR KLEIN, From My Life of Physics (pg. 114)
I was surprised how dogmatic Einstein's view could be - on page 171:
As he [Einstein] guided his assistants during their exhibitions into unknown territories, it became clear to them that he had very fixed ideas about what features should or should not become part of a unified theory. ... Knowing his taste, they would strive hard to make their models more "virtuous" and less "sinful." One of the cardinal sins, for example, was bringing any notion of probability into the theories.
Supersymmetry is one of the most audacious proposals in the history of modern scientific thought. Year after year since it was postulated, experiments have failed to demonstrate its existence. Accelerators have smashed countless particles, producing not a single supersymmetric companion in their debris. Yet many theorists find it so compelling that they can scarcely believe the world could survive without it. ... No other physical theory has won so many supporters with so little experimental support, surviving instead on the basis of its own mathematical beauty and internal consistency. (pg 231, emphasis mine)
... [physicist, Steinhardt] sees considerable danger in relying on one particular model. "When you get down only to a single competitor it's not always a healthy situation," he advises. "It's much better to have two or more competing models, forcing you to think more carefully about your theories, your predictions and the observations." (pg. 284)
Monday, January 25, 2010
Replicating experiments with propensity score matching
I've been trying to learn some propensity score matching and consequently have been perusing some papers. The Smith-Todd paper "Does Matching Overcome Lalonde's Critique of Nonexperimental Estimators?" was a good useful starting point for me. I was a little perplexed by the desire of the authors to "hit" the experimental estimate though. Presumably, if the experiement were repeated, it would not achieve the same treatment effect as the original - the treatment effect has a standard error or confidence interval around it.
Agodini and Dynarski's paper "Are Experiments the Only Option? A Look at Dropout Prevention Programs" was also interesting. The authors don't try to match the experimental effects but ask if the direction of the experimental effect can be concluded based on propensity score methods. Also interesting was the whole question surrounding the standard error of the propensity score estimate - whether the simple random sample estimate is "close" to the bootstrapped estimate or not since there have been claims that the standard error from the propensity score estimator is from an estimate based on nonlinear methods and hence not reliable. They find that the bootstrapped estimates are similar to an SRS standard error.
Agodini and Dynarski's paper "Are Experiments the Only Option? A Look at Dropout Prevention Programs" was also interesting. The authors don't try to match the experimental effects but ask if the direction of the experimental effect can be concluded based on propensity score methods. Also interesting was the whole question surrounding the standard error of the propensity score estimate - whether the simple random sample estimate is "close" to the bootstrapped estimate or not since there have been claims that the standard error from the propensity score estimator is from an estimate based on nonlinear methods and hence not reliable. They find that the bootstrapped estimates are similar to an SRS standard error.
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