RICHARD VAGUE: How to Fix the Economy


hagel richard vague daniel yergin.jpgThis is a guest post for The Washington Note by businessman and regular TWN reader Richard Vague. Vague is the founder of, author of “Terorrism: A Brief for Americans“, and publisher of
On the eve of the invasion of Iraq, the price of oil was $28 per barrel. If the war had never happened, the current $40+ price would seem painfully high.
The price of oil didn’t rise because of supply and demand–since demand didn’t increase but about 1% per annum during that period–but instead because of war risk, a weakened dollar, and the speculation that invariably follows a rising price trend. Several months ago, when the price of oil was still well above $100, we wrote in these pages that the price of oil would come down closer to its March 2003 price once the risk of wider wars abated and the dollar strengthened against other currencies.
Now our global economic collapse has pushed discussion of oil prices to the sidelines, and a rash of explanations and proposed solutions for this collapse are being urgently debated. It is rightly the center of attention, for it is one of the worst in U.S. history and will likely last at least another year or two, since–among other things–the oversupply of housing that is at the heart of the problem is not projected be absorbed until the end of 2010.
Stated simply, we got into this mess because lending institutions were operating with far too much leverage (the ratio of loans against the capital a lender is required to maintain) which allowed assets such as subprime loans to be overbought. Now that the inevitable crash has occurred, some lending institutions have failed, and fear has brought in a contraction in even the sound lending activity so necessary for a sound economy. Lending institutions became over-leveraged because they used complex financial instruments such as credit default swaps that allowed more loans without requiring enough additional capital — and because some of these institutions and instruments were outside of the purview of regulators and thus able to operate without appropriate capital levels. Lenders and borrowers were further strongly incented down this precarious path by the negative real interest rates in place during much of this past decade, an unfortunate product of Greenspan’s easy money policies.
Some believe that it was lending that got us into this trouble to begin with, and therefore believe that part of the solution is to constrain lending. But a careful examination of the numbers will show that it was almost entirely the unprecedented excesses in mortgage loans that led us to this point. And, with proper capital levels, lending remains integral to economic growth. Restricting sound lending to worthy borrowers will significantly exacerbate our problems, and in fact, across the country, bank loans are now contracting.
To restore the economy, we need to get the banks lending again. Properly, prudently, but lending again. The problem is severe enough to need job creation programs as well, but all the public works projects we can muster cannot preserve or create as many jobs as a restored level of sound lending can. Estimates for the number of jobs that will be lost in this recession range as high as 6 million, and the new administration’s jobs program is rather optimistically targeting the creation a number of jobs far short of that–2.5 million.
Like the Crash of 2008, the Crash of 1929 was initially caused by high leverage–as evidenced by the 90% margin loans on purchased stock. But the Crash of 1929 didn’t have to turn into the Great Depression. It could have been just another nasty recession that took a few years to dig out of, and by 1932, the economy would have been sailing along again. Instead, the Depression ground cruelly along for the entire decade. And a decade’s worth of domestic public works projects–the PWA, the WPA, the TVA, and on and on–did not pull the country out of the Depression.
There were two major reasons the Crash of 1929 metastatized into the Great Depression. The first was that the nascent Federal Reserve Bank acted to contract the money supply by as much as 25% believing it was the correct thing to do. This was such a destructive and misguided strategy that in some parts of the country currency itself was literally no longer available. This is the one lesson of the Depression that the Fed has truly internalized, and it has acted in almost every crisis since then–the Crash of 1987, the Internet bubble of 1999, September 11, 2001 to name a few–to rapidly increase the money supply and flood the market with new money. In fact, M2, the measure of the money supply, has increased almost 4% since Lehman Brothers failed in September, and 8% since the beginning of the year–a huge increase by historical standards designed to help stave off the contraction from reduced lending and economic activity.
The second reason was the contraction in lending from banks. This lesson should have been as remembered as indelibly as the money supply lesson, but has not been. In the Depression, this contraction was reinforced and exacerbated by a string of bank failures–most indelibly the failure of the Bank of United States, which failed not because of any bad loans it had made, but instead because of a run on its deposits. The BOUS could have been saved through an extension of liquidity from the Fed or from the New York Clearing House banks–which had acted in that role for other banks on previous occasions–but instead it was allowed to fail, in some respects as a misplaced moral judgment against the bank. The result was that scores of the bank’s small business customers who were operating profitable businesses lost their access to credit–and as a direct result failed.
In 2008 this principle of preventing loan contraction was abandoned when the government allowed Lehman Brothers fail, and markets across the board have been fearful or frozen since that day. This was the major turning point–the point at which confidence disappeared–and without this mistake we would be in far better condition today. As a result, the contraction in lending seen in the Depression is being seen again–if in somewhat different forms. In my own recent experience, I am aware of a number of small to medium size businesses that were profitable and strategically sound, but have failed or are failing because their banks are reducing or cancelling their working capital loans. In addition, car lenders, including GMAC itself, have made across-the-board increases in credit score requirements above what I would view as needed, resulting in fewer loans and fewer cars being sold. Leasing companies are slowing their level of leasing–I am familiar with sound small businesses that have used leases to readily obtain business equipment such as photocopiers, but can no longer obtain such a lease. Further, mortgage lending markets are still in disarray and creditworthy customers are still finding difficulty borrowing, with unfavorable implications for the housing recovery.
In many cases, the reasons these lenders have pulled back is that their capital has been depleted because of large losses, and they must reduce lending until that capital can be replaced. In other cases, depleted capital levels or the fear that has gripped the banking system has meant that they themselves don’t have access to funding to make the loans.
It is this multiplying effect of loans that makes it crucial to preserve lenders in the face of a crash. But, as I have argued in these pages previously, preserving the operations of a lender does not also mean that management or shareholder value has to be preserved. And thus the “moral hazard” aspect of a rescue can be avoided. The management of a firm that took it to ruin can be ousted, and the shareholders that funded that firm can lose their investment without the borrowing customers and counterparties of that firm being punished as well. A path along these lines was successfully taken in the rescue of both Bear Stearns and Countrywide Mortgage. (And, on a much different note, this path could arguably be taken with the Big Three automobile companies)
To get lending institutions lending again, they must be fully capitalized. Much has been done in this area, most of it good, and the support that is in place should remain. But the task is not fully done. One key and completely free source of capital is for regulators to change back the relatively recent “mark-to-market” accounting regulations to the “held-to-maturity” accounting that was previously in effect.
The regulatory community has often overreacted detrimentally to credit problems and should not do that here. My experience has long been that regulators were too lenient when times were good and too tough when times were bad–the proverbial case of closing the barn door after the cow has already gone.
Alongside this, since the government still controls so much of the mortgage market, it should move to make sure loans are more widely available to worthy borrowers.
The tendency of our politicians will be to focus primarily on public works–which is where they feel most sure of themselves. But they should pay as much attention to lending markets, where greater gains can be achieved. With the continued monetary policy support of the Fed and movement to insure sound, properly capitalized, but robust credit markets, our economy will return to health. And sound job creation programs which focus on projects with enduring value–especially infrastructure projects–will add beneficially to this.
POSTSCRIPT: Once we our economy has recovered, we will have two major problems yet to deal with–inflated currency from the decade-long high growth in the money supply, and unprecedented levels of government debt. But first things first.
— Richard Vague


6 comments on “RICHARD VAGUE: How to Fix the Economy

  1. söve says:

    Jackson did beat the banks, and paid off the national debt, temporarily, but has since been largely discredited. I think the time has come that söve we renew his determination and take back our freedom from the money masters. It is unfortunate that many will be martyred söve in the fight. The money söve interests own our political parties and our media, their trols even succeed in söve corrupting information in WikiPedia. Massive demonstrations at 38 Federal Reserve söve locations Nov. 22 2008 went virtually unreported even on the söve internet. The money masters hold the keys to what we believe is truth söve in spite of all the evidence to the contrary we still fall victim to söve believing the version of reality they promote. It will not be an easy fight.


  2. monali says:



  3. Jim Whitescrver says:

    If we look at the advice of great men throughout history and the current situation it is clear that economic collapse is inevitable without reform of the monetary system.
    A hundred years ago we faced the problem of too much success. Gold backed currency was insufficient for the money supply. Bankers devised the Federal Reserve System obstensively to provide a stable money supply to support industry and commerce. It expands the money supply as debt, out of thin air, and charges the citizen interest unjustly without any consideration backing the loan, for what has become virtually the entire money supply.
    Wealth trickle up to the owners of the privately held Federal Reserve Banks. The system is neither federal or is it a reserve. The money interest already own most all our gold leaving almost no gold left in Fort Knox. The money interest already own all our gold and silver production. As Kucinich reported to congress Friday the Federal Reserve is no more “Federal” Than Federal Express!
    “The modern theory of the perpetuation of debt has drenched the earth with blood, and crushed its inhabitants under burdens ever accumulating.” -Thomas Jefferson
    Banking interests have controlled the money supply in Europe since the middle ages and most of the time in America since before the revolution.
    “I sincerely believe … that banking establishments are more dangerous than standing armies, and that the principle of spending
    money to be paid by posterity under the name of funding is but swindling futurity on a large scale.”- Thomas Jefferson
    “Whoever controls the volume of money in any country is absolute master of all industry and commerce.” – James A. Garfield
    Freeing the money supply from debt means there would be no necessary liability associated with the money supply and we would not need ever
    increasing debt and payment of interest to expand the money supply.
    “Bankers own the earth. Take it away from them, but leave them the power to create money and control credit, and with a flick of a pen they will create enough to buy it back.” – Sir Josiah Stamp, former President, Bank of England
    Growth the the population and enterprise demands growth in the money supply, when such growth is tied to debt and interest the principle can only increase, compounding the interest on prior debt. We cannot say we have actually serviced debt unless the principle actually goes down. But with debt based money, paying off the debt reduces the money supply causing recession and depression. The debt can never be paid off under a debt based monetary system.
    The proof is in the pudding. Look at these exponential graphs of debt and the money supply.
    There is no simple singular reason the debt based money supply system does not work. You can always make excuses for it and make anecdotal statements in seeming contradiction to any independent point. The simple truth is that the money supply should not be tied to the amount of debt if we hope to stabilize it without enforcing a debt equivalence for no good reason, and that citizens and the economy as a whole certainly do not benefit from paying interest on our own money supply A debt based money supply only benefits the money masters. In addition, delegating the issuance of the money supply to private banks robs the people of the chance to regulate their own economy.
    “If congress has the right under the Constitution to issue paper money, it was given them to use themselves, not to be delegated to individuals or corporations.” -Andrew Jackson
    Thomas A. Edison stated the matter this way: “If our Nation can issue a dollar bond, it can issue a dollar bill. The element that makes the bond good makes the bill good also. It is absurd to say that our country can issue $30 million in bonds, and not $30 million in currency. Both are promises to pay: but one promise fattens the usurer, and the other helps the people.”
    U.S. Constitution, states in Article 1, Section 8: `The Congress shall have the power to coin money and regulate the value thereof.’
    “If congress has the right under the Constitution to issue paper money, it was given them to use themselves, not to be delegated to individuals or corporations.” -Andrew Jackson
    “The Government should create, issue, and circulate all the currency and credits needed to satisfy the spending power of the Government and the buying power of consumers. By the adoption of these principles, the taxpayers will be saved immense sums of interest. Money will cease to be master and become the servant of humanity.”
    -Abraham Lincoln
    “A power has risen up in the government greater than the people themselves, consisting of many and various powerful interest, combined in one mass; and held together by the cohesive power of the vast surplus in banks.” – John C. Calhoun
    “The real truth of the matter is,as you and I know, that a financial element in the large centers has owned the government ever since the days of Andrew Jackson…” -Franklin D. Roosevelt
    “History records that the money changers have used every form of abuse, intrigue, deceit, and violent means possible to maintain their
    control over governments by controlling money and its issuance.” -James Madison
    “Let me issue and control a nation’s money and I care not who makes its Laws.” ANSELM MEYER ROTHSCHILD (owner of major world banks)
    Woodrow Wilson signed the 1913 Federal Reserve Act. A few years later he wrote: “I am a most unhappy man. I have unwittingly ruined my country. A great industrial nation is controlled by its system of credit. Our system of credit is concentrated. The growth of the nation, therefore, and all our activities are in the hands of a few men. We have come to be one of the worst ruled, one of the most completely controlled and dominated Governments in the civilized world no longer a Government by free opinion, no longer a Government by conviction and the vote of the majority, but a Government by the opinion and duress of a small group of dominant men.” -Woodrow Wilson
    “You are a den of vipers and thieves. I intend to rout you out, and by the eternal God, I will rout you out.” – Andrew Jackson: To delegation of bankers discussing the Bank Renewal Bill, 1832
    Jackson did beat the banks, and paid off the national debt, temporarily, but has since been largely discredited. I think the time has come that we renew his determination and take back our freedom from the money masters. It is unfortunate that many will be martyred in the fight. The money interests own our political parties and our media, their trols even succeed in corrupting information in WikiPedia. Massive demonstrations at 38 Federal Reserve locations Nov. 22 2008 went virtually unreported even on the internet. The money masters hold the keys to what we believe is truth in spite of all the evidence to the contrary we still fall victim to believing the version of reality they promote. It will not be an easy fight.
    Even this site has almost nothing on monetary reform or the Federal Reserve. Why?
    “Money power denounces, as public enemies, all who question its methods or throw light upon its crimes.” – Wm. Jennings Bryan
    “All wars are economic in their origin”. BERNARD BARUCH
    “There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million can diagnose.” – John Maynard Keynes, economist
    “The issue which has swept down the Centuries, and must be fought – sooner or later -is the people versus the banks…Power tends to
    corrupt, and absolute power corrupt absolutely” – Lord Acton
    It is not a battle on the ramparts, it is one of truth against deception.


  4. TonyForesta says:

    All the supplyside, neoliberal, fundamentalist economics socalled expert economists are either idiots incapable of performing the most basic math, or criminally malfeasant and pathological liars. Conservatives refuse to entertain raising taxes on the predator class for any reason, no more how catastrophic the crisis. The predator class must pay. They must pay their fair share in taxes, and they must in the courts for criminal conduct, rank deception, and pathological lying. Lending is fine, but lending rooted in assetbased standards is the key. Debt is not a viable asset no matter how many ways, or how intricately you cut it. Supplysiders, fundamentalists economics pimps, and neoliberal partisans are pathological liars. The “exotic”, “innovate”, “creative”, “inventive irredeemable debt instraments and products no matter how complex, only have viability in a perfect academic world where no questions or bothers to examine the basic math, or the underlying principles of the most primitive morality involved in perpetuating these toxic products and instraments, and – then only in a perfect world where everything is certain and upward or forward moving overtime. All the FALLACIES and pathological lies, are proven failures, and lay dead and rotting in the field with many of the worlds former crown jewels in the financial.
    The PONZI scheme of irredeemable is dead and fast unraveling. The superrich, the predator class were the only ones who benefited, or had access to these pernicious markets.
    The financial system collapsed because it is rotten to the core. Criminal, systemically deceptive, cronycapitalist, corporatist, and intrinsically immoral. The predator class feeds on the blood of the poor and middle class, and the predator class alone benefits from these perfidious financial PONZI schemes.
    The poor and middle class are heavily taxed, not only in terms of real taxes to earnings ratio’s, but in terms of healthcare, childcare, housing, insurance, and other core costofliving outlays which do not impact the predator class. The predator class allegedly pays a higher rate on paper and in academic discussions in wingnut thinktanks, – but in practical reality – the predator class pays highpriced taxlawyers to allay or defray or entirely eliminate their tax burden. How many of the nations top 100 corporations paid taxes in 2006?
    The predator class has benefited wantonly from eight years of overtly onesided largess from the fascists in the bushgov, and there was no trickle down. If these idiot economists bothered to examine any statistic, – they will surely recognize that America’s poor and middle class have lost ground in terms real income, disposable income, tax benefits, entitlements, social benefits, higher educational opportunities, healthcare, labor bargaining power, lost jobs, and the dim hope for a new job.
    This disturbing article points to a previous 1985 article by Ratzinger the current pope,
    Read them and weep.
    The immorality of economic current theories and practices, not to mention the criminality of the current economic theories and practices are doomed to fail, because they are criminal.
    Like the Ebola virus, the predator class is so wildly avarice that it will ultimate destroy itself by consuming all of it’s target hosts.
    The predator class has robbed and pillage America for 8 years. The fascists in the bushgov and all the supplyside, neoliberal, fundamentalist economics apologists are idiot incapable of performing the most basic math.
    Debt, packaged as debt intraments, and then repackaged as more complex debt instruments with even more exotic debt repackaged and resold as derivative debt products and sold insured with credit default swaps based on even more complex and unaccountable debt products, and then as viable investments is a PONZI scheme. It is a grotesque very complicated criminal ponzi scheme, and any idiot or criminal that would brute, defend, support, or apologize for this odious activity is guilty of financial malfeasance and perfidy.
    The fascists in the bushgov and their supplyside parrots and the predator class have perpetrated the most extreme fleecing (robbing and pillaging) of the American people in history.
    There will be accountability.
    The coming Alt A, and commercial real estate resets in early 2009 will flood the economy with another addition tsunamic of defauts, foreclosures, and wave up wave of unemployment increases.
    The worst is yet to come as anyone who can do basic math certainly knows. Many poor and middle class Americans (many of them children) will not survive the coming economic catastrophic hardship, – many more will be forced into extreme desperation.
    Lending is the problem, not the solution.
    Americans need jobs, – real jobs. Not $10 dollar an hour 35 hour a week, benefitless slave labor, – but real well paying, secure, jobs with benefits.
    Nationalize heathcare, and the insurance industry. Reducing the American peoples healthcare and insurance burden to zero will provide a massive stimulus in terms of freeing up money that is now strangling most Americans.
    The solutions should be focused on the American people and not the swindlers, thieves, pathological liars, and criminals on Wall Street and the finance sector who are singularly responsible for conjuring, cloaking, and exacerbating the current crisis.
    No more money to the banks. They failed. Let them rot and die. Would the end be any worse for the people? NO. It is only the predator class that the government is concerned about, and only the predator class that the government works for, and only the predator class that recieves any largess from the government, and only the predator class whose interests are protected
    and advanced from the government.
    Desperate people do desperate things. The swindlers, thieves, and pathological liars in the predator class, on Wall Street, and in the fascists bushgov imagine they are insulated and safe in their oppulent palaces, and untouchable, immune, supremist, Olympian. They are wildly mistaken. There will be blood, – a reckoning, and a balancing.


  5. JohnH says:

    One of the major problems, ignored by Vague, is the finance bubble. The FIRE sector (finance, insurance, real estate) came to represent more than 20% of GDP, bigger than healthcare and retail trade combined. Most of this was not backed by any particularly productive activity. It was just fees, commissions, and interest generated by people lending money to other people, back and forth. Well, that bubble has collapsed. It’s called deleveraging.
    The real question is how to replace the significant portion of the GDP that was based on an illusion? Just getting banks to lend again–creditworthy lending–only gets you part of the way there, since they’re not likely to go on another unjustified lending binge that would lead to all the fees and commissions counted in the GDP statistics.
    Can former money lenders be retrained to do real, productive work? What work can be found for them?


  6. ... says:

    you are advocating sound monetary policy… a lot of ideas look good on paper, but putting them into reality is a different matter.. more recently greenspan was viewed favorably, until he wasn’t.. their is a reason psychology can turn, much like the confidence or lack thereof which can also have a severe impact…
    at present their are people who still think the monetary system in place can be jigged some and fixed and others like myself who see the inherent nature of the federal reserve as reflected in it’s origins and history as a flawed place to start… until such time as that becomes evident their will be individuals like this author who continue to place faith in an institution that is programmed to fail due its basic premise.. a history lesson on the federal reserve is in order. it is unlikely to happen until it’s apparent to all including those who advocate a continuation of the same…
    the way i see it, this act is just one more in a series with the next one being more forceful in waking up to just what the ‘federal reserve’ is… until then, it’ll be more of the same..


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