

Stock Market Meltdowns - Why they will happen again and again and again - astrec
http://www.blogmaverick.com/2008/09/15/stock-market-meltdowns-why-they-will-happen-again-and-again-an/

======
bokonist
Cuban's call for more regulations displays some naivete about how Washington
works. Lobbyists from big companies have no problem twisting regulations to
serve their own interest at the expense of the public. For example, read about
how easily Fannie Mae pushed the right buttons in Congress to manipulate
regulations in their favor:
[http://billburnham.blogs.com/burnhamsbeat/2008/07/fannie-
mae...](http://billburnham.blogs.com/burnhamsbeat/2008/07/fannie-maes-
gol.html). This happens again and again, thanks to the actual mechanisms by
which Congress works. _Government's End_ by Jonathan Rauch and _The Triumph of
Conservatism_ by Gabriel Kolko are great treatments of the subject.

The real solution is that we need someone like Mark Cuban to start a competing
stock market. He could create listing requirements that would include
mandatory rules such as 1) requiring that companies only pay dividends
(instead of doing stock buybacks 2) CEO's must get paid based on how the
company does for the decade after they leave 3) all shareholders must either
vote for the board members or hire a proxy voting firm, etc. etc.

I don't know what the exact rules would be, but I'm sure someone could design
a set of rules that would be both less obtrusive and more effective than our
current regulations. If the rules are designed well, this new well managed
market will give investors higher returns. That will force the existing
markets to shape up or lose their investors.

~~~
mhartl
I certainly agree with you about how Washington works, but I'm not sure it
means that Mark is naive. Saying "Congress should pass a law that does X" is
different from saying "I _expect_ Congress to pass a law that does X". Only
the latter is potentially naive.

~~~
bokonist
No, the problem is that Congress does end up intervening, but the intervention
is manipulated to favor the perpetrating companies. Read the Kolko book. Or if
you want, I could link to a dozen real world examples.

~~~
louislouis
So what's the difference between lobbying and corruption? Are you saying
Congress accepts money to keep hush hush?

~~~
bokonist
If you go by the dictionary, there's no difference between lobbying and
corruption. Of course, there is also no difference between _voting_ and
corruption, which is the inherent problem of electoral democracy. The founders
made a huge design flaw by not adopting the Venetian and Athenian system of
using lotteries to select office holders. Read Nick Szabo on the subject:
[http://unenumerated.blogspot.com/2008/03/unpredictable-
elect...](http://unenumerated.blogspot.com/2008/03/unpredictable-
elections.html) Also, read the Rauch book I recommended before. Rauch worked
for years for the National Journal, which is the magazine that ends up on the
desk of every Congressional staffer. His description of how government really
works matches my experiences in Washington perfectly.

Lobbying works on two fronts. First, is the appeal to public welfare. In the
1980's the interests in favor of creating Fannie Mae appealed to the dream of
home ownership and the idea of making homes more affordable. They convinced
Congress that a quasi-public company would make interest rates cheaper and
housing more affordable ( in the short run this is true, since with implicit
government backing, they could borrow more cheaply). Later in the 1990's Fanne
Mae convinced Congress that in the goal of opening up home ownership to more
people, they should lower the down payment requirements. Again, there is the
appeal to helping the poor achieve the American dream.

Of course, the lobbyists are also looking out for their own self-interest.
Lowering the down payment requirements would help them sell more loans and
make more money. Perhaps the lobbyists were being cynical about the benefits
to the poor. Or perhaps they believed their own marketing and genuinely
believed it was win-win. It doesn't matter, the effect is the same.

The second part of lobbying is the campaign contributions and the golf games.
This provides the Congressman the personal incentive to support the lobbyists'
plan. Most of this happens right out in the open - the days of passing around
suit cases full of cash are over (although if you want to read about those
times check out Caro's _Master of the Senate_ ). The amount of the
contributions is not enormous, but in an election every bit helps. It's enough
money that the Congressman will try to find away to help the lobbyist if he
can.

The end result is disastrous. By having the implicit government backing and by
lowering the down payment requirements, Fannie Mae was able to make massive
number of irresponsible loans Its managers made tens of millions. Then the
whole thing crashed and the taxpayer is now footed with part of the bill. But
no Congressman will pay any price for the debacle, so they never learn the
lesson. Most voters won't even know who is responsible. And the general voting
public has no ability to vote out the members of the banking committee -
voters can only vote out the member of their own district. Of course the
voters of that particular district don't want to vote their particular
Congressman out. If they did, they would lose the earmarks that come from
having a senior Congressman. Thus, there ends up being no accountability.
Congress ends up with a 98% reelection rate and a 20% approval rating.

For the Congressmen involved, it is just a case of good intentions gone awry.
In fact, I actually think Congressmen genuinely believed they were doing the
right thing when they created Fannie Mae. Righteousness has an amazing ability
to align itself with self-interest.

I find it amusing when people subscribe to the "throw the bums out" theory of
politics. If you've every worked in Washington, you realize that the people
running the show are generally no worse than anyone else in the country. Most
are pretty decent, a few are rotten. The real problem is the incentive
structure of our current political system. The only solution to fixing
Washington is major Constitutional reform.

~~~
t0pj
_Righteousness has an amazing ability to align itself with self-interest._

Priceless.

------
ojbyrne
Personally I have a different theory. The supply/demand curve for investments
is shifting as the baby boomers retire - instead of investing money they're
drawing down their investments. And that means 20 years of boom for Wall St,
largely driven by a huge demand for investment products, is turning into 20
years of bust as that demand turns into essentially, negative demand, because
behind the comparatively wealthy cohort of baby boomers, comes a smaller, and
poorer cohort (Gen-X). Yet there's still pressure to produce reasonable
returns for those same baby boomers and the people following behind them. This
results in increasingly risky investments being sold to people nearing
retirement who are depending on the kinds of returns their parents saw.

~~~
nostrademons
I like your theory, but I'm not sure it'll stand up to (future) history. Baby
boomers aren't retiring - instead, many plan to work until they drop dead,
either because they have no retirement savings (and hence can't withdraw them)
or because they have jobs that they enjoy and can remain effective in even
until old age. The latter group of people are most likely to have significant
retirement savings, so they may just end up passing their assets to their
kids.

A lot of predicted demographic time-bombs may not materialize because of this.
The social security crisis may be a nonissue - if every retiree worked just
2-3 years more, social security remains solvent for the forseeable future, and
many retirees plan to work more than 2-3 years into retirement age.

~~~
ojbyrne
I like your theory too, though I fear it may be wishful thinking. Those that
do continue working are working at lower-paying jobs, and continue drawing
down their savings. And if the jobs aren't that much lower status (i.e.
McJobs) then they just put more pressure on the income of the generation
behind them.

But certainly demographics have failed to predict the future in the past, and
personally, I'm amazed at what's happened to my income in the past 5 years or
so (I'm in my 40s and saving like mad - though all in cash right now).

~~~
nostrademons
BTW, it's curious that you're all in cash right now. I am too, as is my
sister, as are most of my highly-paid college friends, as were a bunch of
former coworkers (one quite wealthy - 3 successful startups) I talked to in
late 2007 just as this broke. I think mattmaroon posted here once that he was
all in cash, as have a few other folks, as have lots of people on Reddit.

I'm thinking there's actually a _large_ pool of cash sitting on the sidelines,
from people that didn't drink the Kool-Aid during the 04-07 boomlet. And once
there's a signal that this has bottomed out - maybe it'll be Dow 10K, or S&P
1K, or the bankruptcy of the last of the big-5 investment banks - all that
cash is going to come flooding back into the market, and they'll be a big pop
in stock prices. I'm waiting a bit - I think there's still more bad news that
hasn't been factored into the market. But it may be time to start buying soon.

~~~
pfedor
If you believe you can time the market then you might as well go all the way
there and start speculating in options.

If you do not believe you can time the market though, then being 100% cash is
as bad strategy now as at any other time.

~~~
nostrademons
Not necessarily. You can't time the bottom. You can sure as hell tell
overvalued from undervalued though.

------
swombat
Over-simplified. There will be bubbles and meltdowns as far as the eye can
see, simply because the boom-bust cycle is built into the capitalist model.

And it's fine that way. Far better than the dull, grey unproductivity of all
other known alternatives.

That said, I agree with his point, to an extent. One of the things that keep
people from declaring bankruptcy is that it would have severe, lasting
consequences - destroying their credit record, and preventing them from being
a director of a business for quite some time. Some similar system should exist
for any corporate leaders. You don't want to go too far in that direction
either, though - otherwise, you might stifle the risk-taking that does get us
to interesting new places.

~~~
nazgulnarsil
the booms and busts have been continually made worse by government
intervention. governments try to alleviate the effects of the bust and in the
process make it worse.

~~~
run4yourlives
Actually, since the depression one could argue that they've may each bust
since infinitely more bearable for a whole host of people.

------
vitaminj
Warren Buffett says this far better in his 2005 letter to Berkshire
shareholders.

Relevant excerpt from CNN:
[http://money.cnn.com/2006/03/05/news/newsmakers/buffett_fort...](http://money.cnn.com/2006/03/05/news/newsmakers/buffett_fortune/index.htm)

Original source: <http://www.berkshirehathaway.com/letters/2005ltr.pdf>
(you'll have to wade through to page 17)

~~~
helveticaman
I see one flaw here: having people pick the best stocks can increase wealth by
allocating money to where it is most efficient. For instance, going back in
time to 1965 and investing in Toyota instead of GM would not only have been a
very lucrative move, but increased Toyota's ability to create wealth by
increasing its access to capital.

------
mhartl
I'd like to put this in a slightly broader context. Meltdowns such as the
credit crunch and the housing crisis are often used by self-styled
'progressives' to attack capitalism itself. But implicit in Mark's argument is
the refutation of this accusation: such meltdowns are only possible because of
the moral hazard induced by _de facto_ government (i.e., forced taxpayer)
bailouts of the guilty parties. In other words, it's precisely the _lack_ of
proper capitalist institutions that enables crises of this type.

~~~
nostrademons
History doesn't really bear out the "meltdowns are caused by moral hazard"
theory, though. They happened like clockwork, every 20 years, during 19th
century America, a period where there was no safety net and no significant
government intervention in the economy.

I'd attribute bubbles and meltdowns to flaws in humanity itself. They happen
because people have to make investment decisions in the absence of perfect
information, using thought processes that have evolved to take into account
peers' opinions as much as hard factual data. Inevitably, some of those
decisions will be wrong, and that wrongness appears as a large number of firms
going bust at once.

The way to avoid financial meltdowns is to make every human a God. However, if
we did that, they could just snap their fingers and get what they want, so
their wouldn't be much need for an economy at all.

~~~
bokonist
Read some DeSoto and Rothbard ( _Money, Credit and Economy_ \-
<http://mises.org/resources/2745>, _America's Great Depression_
<http://mises.org/rothbard/agd.pdf> and _History of Money and Banking_
-<http://mises.org/books/historyofmoney.pdf> ). They both make a pretty
compelling case that government played a major role in the 19th century busts.

Pretty much every single bust since 1870 has been the explosion of a credit
bubble. Cheap credit is the heroin of democracies. In the short term, it's
like free money. It's cheaper to buy stuff, and it doesn't result in higher
taxes. Politicians are always for it. The cheap money will endear them with
the population in the next election, and they won't be around for the bust (
or no one will remember who's at fault). In the long run, cheap credit leads
to too much debt and people can borrow no more. This leads to two choices.
Choice one, the borrowing must stop, and with it consumption. This sends the
economy into recession or depression ( this is heroin withdrawal, the Volcker
strategy in the 1980's). Or two, the government must make credit even cheaper
( higher doses of heroin - the Alan Greenspan strategy in 2001).

~~~
quasimojo
_Cheap credit is the heroin of democracies_

amen, it will be only too late that people realize that those who print the
currency run the show, and thats the Fed...who by the way are not accountable
to voters in any meaningful way

~~~
bokonist
Actually the problem might be that the Fed is too accountable to the voters.
Remember, Volcker was fired by Reagan. And Greenspan is a goldbug at heart who
had a lot of political pressure to keep the heroin flowing. Voters do not
understand economics, but they do like cheap credit. Democracy breeds short
term thinking. Read some Herman Hoppe -
<http://www.lewrockwell.com/hoppe/hoppe4.html>

------
scudco
I think I can agree that CEOs will always take the highest-risk/highest-reward
these days because the government continually bails-out this kind of bad
behavior. However, I think it is the government itself which is the root cause
of all these failures. We have a fractional-reserve banking system propped up
by a fiat currency. This means credit is easily created and when the
government decides that everyone should own a home (Fannie and Freddie) then
we use our fractional-reserve system to lend money which, frankly, does not
exist. This leads to the business cycle of endless booms and busts. I think
that rich people will take advantage of this system of easy credit. This is
exactly what happens when you subsidize something--you get more of it. In this
case we are subsidizing risky financial behavior. If the government did not
run the banks in this country then Fannie and Freddie would be forced to
default on a majority of their loans and a lot of people would be hurt, but
we're essentially just making our children and grandchildren inherit our debt
because we believe that home ownership in 2008 is more important than long-
term financial stability. We should work to end the monopoly the federal
government has on the banking industry so that consumers can demand more
fiscally responsible credit managers (or riskier ones if they so choose).
Right now we all have to put our faith in a currency backed by winks and nods
rather than something with implicit scarcity. And beyond that, we put the
printing presses under the control of the government, which has most assuredly
wasted more money funding a welfare/warfare state than any bailout would ever
amount to.

------
quan
I think this theory is on track but not complete. It's correct that the risk
and rewards for CEO are decoupled. However, the people who continue to hire
and pay ridiculous amount to these CEOs are no other than the investors and
consumers. Yes, that's us. As investors, we irrationally pump money into
growth sectors during the boom, into companies that can outperform expectation
and increase profit margins, directly voting for 'talented' CEOs who can cut
cost and increase revenue by all means. As consumers, we chase the best deals.
Would you go with banks who only let you borrow a tiny amount in line with
your credits on strict terms? Of course not, not when you can flip for a quick
100% gain within the next 6 months. We go with the most outrageous deal and
lenders in turns have to create more outrageous deals to compete. Market
behavior reflects the behaviors of its participant (duh). As long as investors
and consumers indulge in irrational exuberance like there's no tomorrow CEO
will continue to be overpaid and bubble will burst. Robert Reich says it best
in his book Supercapitalism.

------
rrf
I agree that personal incentives are part of the problem. I’d also suggest
that going public is another significant part of the problem. The public
company becomes beholden to its shareholders and is pressured/incentivised to
continually deliver growth in the value of the company or dividends, often in
mature markets, which in turn can lead to the implementation of riskier
strategies for delivering growth.

~~~
quasimojo
okay explain to me how a company like google could have been privately funded
to its current level. you think a bank is going to write a check for $800
million to buy servers? go ask a C-level exec at wells fargo

~~~
nostrademons
It probably couldn't have grown as fast as it did, but it certainly could get
to it's current size. Many of the largest companies of the industrial
revolution used mostly retained earnings, sometimes supplemented by small bank
loans or equity investments from private individuals. American Tobacco, which
captured 90% of the tobacco market before being broken up into R.J. Reynolds,
Liggett, and others. Almost the entire meatpacking industry. The Mars candybar
company, which is still privately owned. Ford Motor Company, still controlled
by the original founding family.

~~~
quasimojo
_It probably couldn't have grown as fast as it did, but it certainly could get
to it's current size._

no, because banks don't even do this kind of lending anymore. to grow google
organically would have taken decades. in that time they would have been
crushed by competitors with access to public funds

 _American Tobacco_

are you aware that american tobacco was one of the first stocks listed on the
dow? sorry to blow your theory, and to boot the formation of the company was
based on monopoly economics

 _Ford Motor Company, still controlled by the original founding family._

and larry and sergey own a lot of google. and jerry and david own a lot of
yahoo. founders keep lots of stock, this has nothing to do with public/private
ownership. the ford family extracts wealth from ford, they do not contribute
to it or bankroll it

------
mrtron
Great post - and I would find him to be on the mark here.

Interestingly enough, Cramer (who is not really well liked in this community)
was trying to be a whistleblower a year ago on this very issue.

<http://www.youtube.com/watch?v=I1eSlYtXiro>

I liked the 'I wish I could go tell people to buy Wa-mu' part...check out the
one year on that.

[http://finance.google.com/finance?chdnp=1&chdd=1&chd...](http://finance.google.com/finance?chdnp=1&chdd=1&chds=1&chdv=1&chvs=maximized&chdeh=1&chdet=1221526067156&chddm=98532&q=NYSE:WM&ntsp=0)

~~~
byrneseyeview
Cramer was saying to cut rates. That would have delayed the problem in
exchange for exacerbating it. Lehman would not have been leveraged 30 to 1 if
they didn't think the Fed would cut rates in the event of a downturn.

~~~
quasimojo
cramer was right that an emergency rate cut was needed, and i say this as
someone who thinks low rates created this entire mess. at the time he has his
tantrum, the market needed a massive cushion regardless of the consequences.
the problem is, the Fed is finding it hard pressed to take away the stimulus.
with commodity prices getting killed, the pressure is off for now

what does it all mean? DEFLATION IS HERE. even near-zero real rates can't
elevate prices. deflation is here, depression2 cannot be avoided

~~~
david927
I agree: "The Greater Depression" is coming almost exactly 80 years after the
last one.

I think Mark is right that this will happen again and again, but not because
we don't have enough legal structures in place. Although that would help for a
while, it would soon be undermined. Capital markets are a prisoner's dilemma.
If everyone behaves, everyone wins, but there's just too much incentive to
misbehave and win spectacularly at the expense of others. With so many people
playing, it seems impossible to avoid.

Unfortunately, 80 years, four generations, is just long enough to forget the
lessons from last time.

------
drubio
There is even a simpler explanation: 'Fear is temporary, greed is permanent'

------
nazgulnarsil
_The 2nd option would be to prevent certain types of companies from being or
going public. Law Firms can;t go public. Investment firms like Goldman Sachs
used to not be able to go public. They were partnerships. Partners were paid
for the most part in cash. If the partnership had money to pay, it got paid.
If not, not. I promise you, their tolerance for risk was far lower than it is
today for Goldman because there was a direct link between the risk and reward
for partners._

we need a rollback to direct incentives.

------
Brushfire
Only a little related, but everyone needs to remember good ol' Mr. Market.

<http://www.sandmansplace.com/Mr_Market.html>

------
gills
Interesting, but only part of the problem. Regulators need to _actually_ do
their jobs and enforce transparency of Wall St. balance sheets. Oh, and
Congress? No more campaign contributions from corporations. You work for the
voters, and if enough of them want you to prop up some company or repeal
banking regulations, they'll tell you.

~~~
anamax
Corporations actually can't give all that much money, something like
$3k/candidate/election. However, their people can, which is what you see when
you see "Enron contributed $2m to senate Dems". (PACs don't change this - they
just bundle.)

There may be special rules for giving to parties, to "got into office"
parties, and for Fannie Mae and Freddie Mac.

~~~
gills
Right. The Seattle Times had an article a while back
(<http://community.seattletimes.nwsource.com/favorfactory/>), which has a
database of earmarks and contributions from companies and
executives/owners/etc. of companies. Often you will see contributions from
high-level company officers. The data isn't good enough to show causality, but
some correlation.

Anyway...interesting stuff.

------
time_management
It's true that there are inevitable conflicts of interest regarding risk
tolerance. This is especially true, for example, in hedge funds: the manager
takes a 20% cut of the upside, but has no downside. Hence, there's an
incentive for hedge funds to be risky. (Excluding a few top performers, hedge
funds are _not_ great investments.)

However, I strongly disagree with this article. First of all, bubbles and
crashes seem to be an inherent property of market economies. They've existed
for at least four centuries (tulip bulb, anyone?) and possibly longer.
Overreaching optimism seems to be an inherent human trait. Overpaid CEOs are a
relatively new (few decades) phenomenon.

The OP asks: _Would you let someone fire and embarass you for a check for
$20mm dollars ? So would CEOs._

I'm not sure this is true. The CEO is going to be out of work for a few years,
and possibly be unemployable at his current level in the future. Given that he
already makes $10 million, a potential five-year setback is not worth that
amount of severance.

I agree that large company CEOs are overrated and overpaid, but I can't assign
them all the blame for current economic problems, the sources of which are a
lot more complex than the OP seems to think.

~~~
quasimojo
_It's true that there are inevitable conflicts of interest regarding risk
tolerance._

lets ask ourselves WHY the bankers took such risks

because they just wanted to have fun? get real

how do you make money as a banker when the Fed has lowered "real" rates (rates
adjusted for inflation) to ZERO???

you have to make riskier loans. you sure as shit can't make money in a low
interest rate environment lending to credit worthy people

the Fed prodded bankers to make these risky loans

sorry cuban, any cub reporter for the WSJ could tell you this

 _First of all, bubbles and crashes seem to be an inherent property of market
economies_

indeed, but we've had two massive bubbles in ten years. the nasdaq bubble was
10x the size of the 1929 bubble (ref: bob prechter). the housing bubble dwarf
the florida bubble of the 20s...you must admit that this is curious

------
quasimojo
GREENSPAN GREENSPAN GREENSPAN

who do you think put the US on a "low low low rates" regime?

who do you think CREATED THE DOTCOM BUBBLE and the HOUSING BUBBLE?

not CEOs, GREENSPAN

and bernanke is just playing the hand he was dealt

the problem isn't CEOs who are out of control, it is central bankers who blow
bubbles without consequence. the Fed has power these CEOs can't even fantasize
about

go ask any of the serious financial journalists at thestreet, marketwatch,
wsj, nytimes....without hesitation they will all tell you that low rates set
by the Fed created this mess.

~~~
rms
I swear I remember Alan Greenspan being quoted as saying that he know the low
rates would create a housing bubble, I haven't been able to find it though so
it may just exist in my memory. Any idea?

Also there's absolutely no need to shout here.

~~~
quasimojo
well what he is also famous for is the prediction years ago (when he was
hanging out with the objectivist pseudo-intellectuals) that a kondratieff
winter (bad downside in the economy) could be nullified by very low rates. he
did his best to prove it

greenspan adored low rates. he set the too low and then was too late in
raising them. poor ben bernanke...given a corpse and told to make it ready to
run a marathon. not much choice for ben but to lower rates again. once again,
he was too late in raising them.

its all in the Feds rate-setting power folks. THEY are the ones who dictate
the level of risk in the economy. why do you think so many people call for the
abolishment of the Fed?

trivia: did the US economy grow faster and with more stability pre-fed (pre
1913) or post-fed?

~~~
nostrademons
> did the US economy grow faster and with more stability pre-fed (pre 1913) or
> post-fed?

Not really a fair comparison - the U.S. economy was smaller pre-fed, and so it
was much easier for it to grow at a higher percentage rate. That's like saying
that China is growing 3x faster than the U.S, and so a pseudo-communist
authoritarian government with all ownership of land is better than a free-
market democracy. ;-)

Trivia: Who performed the role of the Fed before there was a Fed? Just because
you get rid of it doesn't mean it won't exist. ;-)

~~~
quasimojo
_Not really a fair comparison - the U.S. economy was smaller pre-fed_

its totally valid. the economy has only shrunk temporarily on a small number
of occasions. the economy is more or less always growing, so it is always
smaller in the past. indeed the US suffered a bad depression in the 1870s but
pulled through without the Fed

 _Trivia: Who performed the role of the Fed before there was a Fed?_

there wasn't one source. remember bank and state notes?

in any case, prior to the fed, a dollar held its value for decades. post fed,
the dollar lost 99% of its value

~~~
nostrademons
> its totally valid

That wasn't my point. It's easier for small economy to grow at a higher rate.
If a $50B economy grows by $50B, that's a 100% growth rate. If a $10T economy
grows by $50B, that's a 0.5% growth rate. For the $10T economy to grow by
100%, it would need $10T of additional goods and services, which is a
significantly harder accomplishment than growing by $50B.

The answer to my trivia question, BTW, is J.P. Morgan. The Fed was created as
a reaction to the panic of 1907, when Morgan went over the books of each
failing bank and said "Nope, let it fail" or "Okay, the trouble stops here.
Let's give them cash" depending on whether they were solvent. Much like
Bernanke & Paulson have had to do with Bear Stearns and Lehman Brothers.
Congress felt that this was too much power to concentrate in the hands of a
private individual, and so they created the Fed as a quasi-government
organization responsible to Congress.

Inflation is not unique to the Fed system, either. Remember "not worth a
Continental", or the erstwhile Confederate dollar? The 1870-1910 era featured
deflation because it coincided with the industrial revolution and a huge flood
of cheap new goods onto the market, not because of the absence of the Fed. The
1929-1932 era also featured deflation, yet had an activist Fed that interfered
far more than the current one.

~~~
bokonist
_J.P. Morgan. The Fed was created as a reaction to the panic of 1907, when
Morgan went over the books of each failing bank and said "Nope, let it fail"
or "Okay, the trouble stops here. Let's give them cash" depending on whether
they were solvent. Much like Bernanke & Paulson have had to do with Bear
Stearns and Lehman Brothers. Congress felt that this was too much power to
concentrate in the hands of a private individual, and so they created the Fed
as a quasi-government organization responsible to Congress._

Isn't it much better to have the bankers be responsible for bailing out their
own mess, rather than have the taxpayers do it? How is the creation of the Fed
a positive development in this case?

And yes, the Fed isn't the only way inflation happens. Good old fashioned
printing money to cover the cost of war works too, and it's just as awful.

~~~
nostrademons
I'm speaking mostly of what is, not what should be. I agree that it would be
better if bankers cleaned up after themselves and owned up to their own
mistakes. However, when you're dealing with something as fundamental to the
economy as banking, it's almost always to _someone's_ advantage to bail them
out (or worse, to use someone else's money to bail them out). If the Fed
didn't exist, one of the other banks would do it, and probably reap huge
profits in the process, right up until it miscalculates and loses all its
depositors' money too.

Basically, I don't think it's the Fed that's the problem. It's humans.

~~~
bokonist
As long as banks that miscalculate go out of business, over time, the
survivors will have much more sound financial practices. Also, without the
Fed, there is no single point of failure. This makes it much easier to
diversify away risks. Further, note that a lot of the bad banking practices of
the late 1800's were not the result of a free market, but of federal and state
banking laws. The Fed and other government intervention is almost certainly a
proximate cause of the problem. Perhaps, though, the ultimate problem of bad
government is an inevitable part of the human condition.

