Customer Reviews

After the Fall: Saving Capitalism from Wall Street and Washington

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First, I am not a financial analyst or even a very sophisticated investor. I just wanted to know what happened and, after reading this book, I think I know. Ms Gelinas is a financial analyst and seems to have spent quite a bit of time thinking about what happened and how we might start to put things back together. It began with the changes in banking in the 1980s, largely I believe (although she does not say so) due to inflation. For decades, the savings and loan had a business model of borrowing from savers at four percent interest and lending to homeowners at six percent interest. All that changed when inflation drove those savers, including me, to look for higher returns to compensate for the loss of value from inflation. Most of the evil that followed, in my opinion not hers, can be traced to this phenomenon. Now that I have demonstrated how naive I am, let's consider her book.

She describes the history of the crash in 1929 as a consequence of irrational exuberance and unregulated financial manipulation during the 1920s. She describes, for example, the fall of Sam Insull who built Commonwealth Edison into a modern utility but lost track of all the financing until, in the wake of 1929, it collapsed and took thousands of savers' investments with it. She compares Insull to Enron, a valid comparison, I think. She describes the regulatory steps that were taken by Roosevelt's administration and how it stabilized the financial world for 70 years.

The story of the 2008 collapse begins in 1984 with the rescue of the Continental Illinois Bank. Here began the "too big to fail" story. Two things happened here that led to the crisis. One was the decision to bail out all depositors, including those whose deposits exceeded the FDIC maximum. Secondly, the FDIC guaranteed the bond holders, as well. Thus began the problem of moral hazard. Another feature of this story was the role of Penn Square Bank, which had gone under two years earlier in the wake of the oil price collapse, which devastated many of its poorly collateralized loans in the oil industry. Both banks had been caught seeking higher returns through risky investments. Penn Square, however, had been allowed to collapse. Continental was rescued and that began a trend that the author lays out in detail through most of the rest of the book. It was here, in Chapter three, that I began to underline and take notes. Continental had relied on large amounts of short term money from uninsured depositors. That would be seen again and again in the years to come.

The fact that large banks would be rescued placed small banks at a disadvantage and they complained. Congress, in the first of many well intentioned but useless measures, passed a bill that prohibited the FDIC from protecting uninsured depositors but they added the fatal proviso that exempted "systemic risk" situations. At this point, Charles Schumer, then a Congressman, opposed allowing banks to enter the securities business. The 1984 legislation ignored his concern and the wall was lifted a bit between investment banks and conventional banks. By 1999, when the Glass Steagall Act was largely repealed, Schumer had switched his position to favor the change.

The investment banks took a major step as they became publicly traded companies. This began with Dean Witter in 1972 and Morgan Stanley took the step in 1986. Now, the traders would be risking someone else's money and this was a fateful decision. The author points out that Brown Brothers Harriman remained a partnership in which partners risk their own capital and it has not gotten into trouble with the speculation of the 90s and beyond. By 1993, the six largest commercial banks earned 40% of their profits in trading. Corporate financial services became a larger and more powerful part of the economy. I'm sure I am not the only one who has noted the coming and going of major New York financial figures to and from administrations of both parties.

The next step was the securitization of debt, especially home mortgages but also credit card debt and auto loans. She points out how this resembles Insull and Enron in that long term obligations were rolled into securities and sold to acquire immediate profits. No longer did banks service their own loans. More money could be earned by lending the money several times over. Initially, the risk of the securitized mortgages was early retirement of the debt to refinance at lower rates. In 1986, a drop in interest rates brought an early crisis. At the time, no one dreamed that the next big crisis would be not the risk of early repayment but the risk of default.

She describes the junk bond phenomenon and the development of derivatives. Finally comes the credit default swaps and the stage was set. An opportunity was missed in 1999 and 2000 when the head of the Commodity Futures Trading Commission, Brooksley Born, tried to regulate over-the-counter derivatives. Congress passed the Commodity Futures Modernization Act, which barred such regulation and set the stage for the next act, the real estate bubble and collapse. By 2000, the unregulated OTC derivatives markets, which had not existed a decade before, totaled $95 trillion. These were unregulated and there were no margin or capital requirements.

I would have to summarize the whole book, which is only 250 pages, to describe all the points she makes about how this happened. Read it yourself. I will summarize her suggestions for next steps now that the fall has taken place.

An opportunity was missed in the summer of 2008 when Merrill Lynch sold some mortgage backed assets at 22 cents on the dollar. The price was low but nobody knew what the right price was. Allowing these fire sales to proceed would begin to establish a market for these securities. The TARP plan put a stop to this as no one would sell to private bidders when the government would pay a higher price. That was a big mistake and it was soon decided to merely give the banks the money as valuation proved impossible without a market. Some banks that were not in dire straits were forced to take money to conceal which banks were the most shaky. All these were mistakes. Artificially inflated asset values are part of the problem and will delay resolution.

There needs to be a mechanism for bankruptcy of these interconnected institutions. She discusses some options. The markets have been weakened by changes in contract law, especially the Chrysler bailout when senior creditors were forced to the back of the line. She points out that there would have been no outcry about AIG bonuses if the company had been liquidated in some modified bankruptcy proceeding. She wants better disclosure of risk and part of that is regulation of all the exotic derivative products that will remain. There is no possibility that we could go back to the era of Glass Steagall. Times have changed. To big to fail must end. With all the interlocking financial instruments like CD Swaps and other derivatives, that will require a complex system to unwind such networks. On page 177, she recommends a division of failed institutions into two entities, one holding the toxic assets. I believe this is the Swedish "Bad Bank" concept although she doesn't use that term.

The bubble was also stimulated by errors on the part of bond rating agencies that "rented" their AAA ratings, in her estimation. This allowed abuse of the securitization process as tranches of weak loans were sold paired with tranches of "good" loans and the capital requirements differed between the "good" or AAA rated tranches and the lower rated tranches. When the crisis came, the ratings did not work and she recommends that capital requirements for institutions holding such instruments be the same regardless of rating.

For a very inexperienced amateur in finance, this has been a very interesting book and a quick read although I have marked places to read again. I could also see it as very useful for college courses in basic finance. I highly recommend it.

There are dozens of books analyzing the recent financial meltdown and prescribing measures to guarantee that it never happens again. But this one is special. In less than 200 pages, Gelinas gets to the core of the problem - the government adoption of "too big to fail" and the consequent weakening of market discipline. In the final chapter she discusses measures that could prevent or ameliorate future crises, but doesn't offer much hope they will be adopted. Even when discussing complex financial instruments or accounting, her writing is concise and as jargon-free as possible.
If you have only limited understanding of financial markets, this book is a great introduction to recent events. But even financial professionals will benefit from the insight and perspective she brings.

I have to say that this book was very different from what I expected based on the description. The bulk of the book consists of an insightful look at how we got into the current mess. Starting with the measures instituted during the Great Depression, Gelinas walks us through the steps that brought us to the financial crisis.

Reading about bailouts and regulatory policy is usually pretty dry stuff. Fortunately, Gelinas has an writing style that makes it incredibly easy to absorb the information. If the subject matter weren't so depressing and infuriating, I would even say that the book was fun to read. Gelinas manages this without oversimplifying anything or glossing over the non-intuitive points.

After completing this background lesson, she provides her recommendations on how to fix the system. I tend towards the libertarian when it comes to regulation, so I expected to disagree with most of what she said. I was surprised to find that, with only a very few exceptions, her suggested remedies sounded effective, prudent, and well-considered. While this section of the book was comparatively small, it was as big as it needed to be; the analysis and history presented earlier lays such firm groundwork that she doesn't need much more argument to be convincing.

Even if you're reading this after a financial reform bill makes it through Congress, I'd still highly recommend this book. It's well worth it to learn what went wrong in our financial sector, and Gelinas's book is the best I've seen on the topic.

I am both an experienced investor and a retired former CEO of a fortune 100 company. Having read many books on this subject, I have found none to be more objectively informative than is this one.

The author does an outstanding job of logically presenting her factual material, yet doing so in a very easy to read fashion. One does not have to have any experience in the economic or investment field to enjoy and learn from this book. It is very friendly to read, yet involving to the point that you will not want to put it down.

I highly recommend it.

I'm astounded that someone from such a right wing think tank would produce something so sensible and so pro-regulation, but I think Gelinas is right on the money. It's ironic that she often uses the phrase "free market" when she really means regulated markets. Of course, she is against bad regulation and in favor of good regulation, and I think her proposed regulatory framework are exactly right for fostering healthy markets.

Gelinas argues for simplifying but strengthening the regulations governing the financial industry to make the industry far less sensitive to hiccups by making sure that everyone who plays has skin in the game. She proposes that financial instruments be divided into several classes, each with specified consistent minimum margin requirements that apply regardless of ratings and risk assessments. Then leave the market to work its magic. And doing the latter means that no company should ever be considered too big to fail. She points out that with consistent margin requirements, the system will be resilient enough to withstand having even the biggest financial firms collapsing. She explains the value of collapsing firms having to go through normal bankruptcy procedures so that investors and lenders and treated according to the laws as they understood them when they invested--bailouts undermine the laws, introducing uncertainty for investors, and the expectation of bailouts makes companies take more risks.

She gives great historical perspective on how the financial industry break down the reasonable regulations that had existed 30 years ago.

Unfortunately, I don't think either political party has the will to follow her arguments because it will lead to far lower levels of debt/credit, and both sides and all their constituents are addicted to debt/credit. She also does not address the influence of money in the electoral system which is partly how the reasonable regulations of 30 years ago were broken down.

The author has done an excellent job in demonstrating that the privatization and deregulation of financial markets, begun in 1979 by Jimmy Carter and continued by all American Presidents and their administrations since, was a grave mistake and blunder that rivals the same type of mistake made by Japan in 1986 .This mistake was compounded by the commercial and investment bankers reliance on VAR(Value at Risk)models based on the false claims (Benoit Mandelbrot proved these claims false in 1963) that all financial markets' time series data was normally distributed(log normally distributed).Applications of VAR in the financial industry were supposed to be superior replacements for the various financial regulations which were being eliminated. The soundness and applicability of VAR was supposed to allow the financial markets to engage in levels of securitization and speculation of the same kind as occurred in the middle to late 1920's while supposedly preventing any possiblity of a major economic collapse . These models were the direct result of applying the Efficient Market Hypothesis(EMH)as developed by a number of libertarian economists, associated primarily with the University of Chicago's department of economics and Business School,such as Milton Friedman,George Stigler,Robert Lucas,Gary Becker,Eugene Fama,Merton,Miller,and Markowitz. Many others were associated with the rational expectationist and real business cycle schools of thought.These schools basically emphasized the Subjective Expected Utility(SEU) theory that claimed that there was no such thing as a separate type of decision making done under conditions of uncertainty,ambiguity, or ignorance.All decision making was carried out either under conditions of calculated risk,using the standard deviation,or under the " as if " hypothesis of M Friedman that decision makers acted " as if " they were using a normal probability distribution's mean and standard deviation in calculating the risk of various outcomes.This approach was ,in fact, merely a mathematical version of the original work of Jeremy Bentham in 1787.Benthamite Utilitarianism is based on the claim that all decisions made by a decision maker who is rational,or even irrational, are based on a correct specification of the odds using probability calculations.

The author's remedy is a variationn of those supported by Adam Smith and J M Keynes.Both Smith and Keynes pinpointed the problem -speculation occurring primarily in financial markets.Smith targeted the group of individuals responsible for economic downturns -imprudent risk takers,prodigals ,and projectors (Keynes's Wall Street speculators of chapter 12 of the General Theory(GT))and showed how to prevent them from causing an eventual collapse.His solution was very similar to the policy suggested by Keynes in his A Treatise on Money and Part V of the GT-set up a private central bank monopoly,independent of the government and the bankers,to make sure that these categories of borrowers do not get their hands on bank loans since they will "... waste and destroy the savings ".The author's solution is to put effective constraints on the ability of Wall Street financiers to obtain funding so as to engage in massive securitization and speculation.This would limit the the damage that would occur when the inevitable collapse of these bubbles occurs.

The author is correct that the bailouts,starting in 1984 with the bail out of the seventh largest bank in America,Continental Illinois,by Paul Volcker,and continuing ever since,were a mistake.However,the author appears not to realize that both major political parties have been controlled by Wall Street since 1976.The " To big to fail " argument comes directly from Wall Street.All of Obama's advisors ,like Clinton's(Rubin,Summers,Greenspan) and Bush's(Paulson,Bernanke), are directly or indirectly connected to Wall Street and/or the University of Chicago's economics department.It is business as usual.Obama's "recovery " plan is simply to create another bubble.This is the same approach taken by Clinton and Bush.

The author is correct to recommend a return to the regulatory apparatus of the period 1936-1976.Unfortunately,it appears that this is not what is going to happen.

I highly recommend this book.

The is the tenth book I've read on the current financial crisis. I wish I had this one first. It offered a very readable explanation of the history that lead to the factors allowing today's crisis to occur. Moreover, it anaylzed the extremely complicated finanical instruments that are the hallmark of present day Wall Street in a way that was easy to understand. The book does this with the hyperbole of so many other commentators. As a CEO of a company from "Main Street" but on that relies on the credit and private equity market, the book accurately reflects what I experience in those markets and has helped me to better understand the pressures faced by the players in those markets. I strongly recommend this book to business practioners and students alike - of which both I consider myself a member.

In this book Nicole Gelinas traces the "too big too fail" policy back to 1984 and the government rescue of Continental Illinois bank. That policy was followed again with Long Term Capital Management in 1998.
The author correctly assesses the effects of this policy as "insulation" from market discipline. It was a green light for risky behavior.

She also discusses how it was not just Republicans that supported deregulation. It was a bipartisan affair.

Gelinas proposes sensible regulation of the market. Maybe something a bit more modern than Glass-Steagall would work.
Without adequate regulation we got "socialization of the financial industry to prevent a replay of the 1930's."

I don't know her political party affiliation or idealogy, but she wrote a sensible book that doesn't have a partisan slant to it. A worthy read.

Nicole Gelinas should be in charge of the Federal reserve. Only Milton Friedman can bring the human nature aspect to economic workings with such insight and a true grasp of history.
Her book is very well researched and crafted; Nicole has a complete understanding of what lead up to the current financial crises and what should be done to really avoid it again in the future.
If free market capitalism is of any interest to you, do not hesitate for a moment to gain the perspective of Nicole Gelinas; she is intuitive, very well researched and writes in a flowing manner that allows the layman to grasp the complications of the market. Nicole Gelinas lets down the veil of the inner workings of the derivatives market in a precise and concise manner which will leave the reader wanting more. I look forward to reading everything she writes!
Brian Reagan
San Francisco, CA.

This is a space for book reviews and not for personal endorsements, but I am looking forward to this analysis from Nicole -- a deep-thinking writer who goes well beyond the cheap "body slam" approach of most of those occupying the op-ed space these days.

If you want a sampling of Nicole's work, I highly recommend her contributions to the City Journal from the Manhattan Institute. Her insight into Houston's response to the influx of New Orleans refugees from the Katrina hurricane was an amazing story that was almost completely missed by the mass media. She has a deep understanding of knotty financial issues (appropriate given her CFA and prior experience in the business press) that frankly escape her short-attentioned contemporaries. Equally important, she's able to relay her analysis in a completely readable fashion.

After the initial onslaught of finger-pointing, short publication-cycle tomes about our ongoing financial crisis blaming the easy political targets (be they bankers, GM execs, the rating agencies or Barney Frank), I know that Nicole will offer an articulate and well-researched alternative perspective.