- Hardcover: 250 pages
- Publisher: Encounter Books; First Edition edition (November 24, 2009)
- Language: English
- ISBN-10: 1594032610
- ISBN-13: 978-1594032615
- Product Dimensions: 6.4 x 0.8 x 9.4 inches
- Shipping Weight: 1.1 pounds (View shipping rates and policies)
- Average Customer Review: 4.4 out of 5 stars See all reviews (24 customer reviews)
- Amazon Best Sellers Rank: #1,555,523 in Books (See Top 100 in Books)
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After the Fall: Saving Capitalism from Wall Street and Washington Hardcover – November 24, 2009
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When it comes to our flawed financial system, most writers generally lob big bombs and hope for, at best, maximum splatter. Nicole Gelinas by contrast sends a precision missile that neatly and elegantly takes the thing to piecesand lays the ground for a better structure. Hail Gelinas.”
&mdash Amity Shlaes, Senior Fellow, Council on Foreign Relations and author of The Forgotten Man: A New History of the Great Depression
A powerful analysis of how the too-big-to fail policy has undermined public trust in markets.”
&mdash Luigi Zingales, Robert C. McCormack Professor of Entrepreneurship and Finance, University of Chicago-Booth School of Business and author of Saving Capitalism from the Capitalists
Nicole Gelinas has done the country a great favor by explaining concisely and cogently the origins of the financial crisis of 2008 and howif we have the political willwe can avoid a repeat in the future. After the Fall is an instant classic that should be required reading in both Washington, D.C. and Wall Street.”
&mdash John Steele Gordon, author of An Empire of Wealth: The Epic History of American Economic Power
Nicole Gelinas has written a fine book about the long prehistory of financial catastrophes that culminated in the extraordinary collapse of the banking industry in September of 2008. The book is lucid and sober, simple but not simplistic, and essential background to understanding the inherent vulnerabilities of modern finance.”
&mdash Richard A. Posner, U.S. Circuit Judge and author of A Failure of Capitalism: The Crisis of 08 and the Descent into Depression
From the Inside Flap
Robust financial markets support capitalism, they don't imperil it. But in 2008, Washington policymakers were compelled to replace private risk-takers in the financial system with government capital so that money and credit flows wouldn't stop, precipitating a depression.
Washington's actions weren't the start of government distortions in the financial industry, Nicole Gelinas writes, but the natural result of 25 years' worth of such distortions.
In the early eighties, modern finance began to escape reasonable regulations, including the most important regulation of all, that of the marketplace. The government gradually adopted a "too big to fail" policy for the largest or most complex financial companies, saving lenders to failing firms from losses. As a result, these companies became impervious to the vital market discipline that the threat of loss provides.
Adding to the problem, Wall Street created financial instruments that escaped other reasonable limits, including gentle constraints on speculative borrowing and requirements for the disclosure of important facts.
The financial industry eventually posed an untenable risk to the economy -- a risk that culminated in the trillions of dollars' worth of government bailouts and guarantees that Washington scrambled starting in late 2008.
Even as banks and markets seem to heal, lenders to financial companies continue to understand that the government would protect them in the future if necessary. This implicit guarantee harms economic growth, because it forces good companies to compete against bad.
History and recent events make clear what Washington must do.
First, policymakers must reintroduce market discipline to the financial world. They can do so by re-creating a credible, consistent way in which big financial companies can fail, with lenders taking their warranted losses. Second, policymakers can reapply prudent financial regulations so that markets, and the economy, can better withstand inevitable excesses of optimism and pessimism. Sensible regulations have worked well in the past and can work well again.
As Gelinas explains in this richly detailed book, adequate regulation of financial firms and markets is a prerequisite for free-market capitalism -- not a barrier to it.
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Top Customer Reviews
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.
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.
This is the first book I have read that gets to the core of the significance of the events that led up to the crash. I learned a lot from Fool's Gold, which was also clear and informative, but for me it was a history, showing what happened and why the participants acted as they did. This book goes beyond that, describing how each step in the dance between the financial institutions and the government led to the present situation.
The last chapter, on what to do now, was an even greater revelation. The steps to keep the markets from dragging down the whole economy seem so simple when she describes them. I won't try to encapsulate them; her own presentation is quite succinct. Gelinas says several times that the public has the right idea, to not use taxpayer money to bail out failed firms (financial or auto); that these companies failed because they weren't good enough and it is the nature of capitalism to weed out underperforming companies. The comeback that I hear in the news has been that the consequences would be worse. Gelinas shows a way to get past that. She praises the bank deposit insurance as a way to reassure the average investor that their bank savings are safe, and praises the rules that keep banks from betting on the market with deposits (banks can use investment capital for this). She describes the provisions of the present market that keep small investors out of some risky parts of the market, and says the adjustable rate mortgages were just as risky, and were marketed to consumers who weren't professional financiers and were not prepared to understand the risks they were taking. Understanding the risk goes far beyond understanding the contract, and even that is quite a challenge. Then she caps it all by describing a set of regulatory reforms that sound so simple -- not to keep company failures from happening, because that is part of the capitalist weeding process -- but to let even interconnected financial institutions fail without bringing down the system.
It's just an amazing book. It sounds too simple to be true. Now I'll look for critiques of her ideas, because if this is for real, we need to do it.