Summers and the Banks

August 28th, 2013 at 11:31 pm

Beyond pointing out that I don’t want either of them to mow my lawn, I’ve remained neutral in the debate over Yellen vs. Summers for Fed chair.  I continue to think they’re both fine choices and that the differences between what they bring to the job and how they’d run the Fed are far more narrow than you’d think from the frenzy of the past few weeks.  So far, the main thing we’ve learned is that Washington really loves a horse race and that the White House has misplayed this (I can’t imagine they wanted this public fight right now).

If I’ve put any bit of my thumb on the scale, it’s as follows, as quoted in the Times the other day: “’All else equal, I would not lightly dismiss the opportunity to break a glass ceiling,’ said Jared Bernstein, a former Obama economic adviser…who lauded both Mr. Summers and Ms. Yellen on their merits.”

But in the interest of fairness, I also wanted to weigh in briefly on ways in which Larry Summers views on financial market oversight, a critical part of the job of Fed chair, have been misrepresented in some accounts.  I am well aware of mistakes he made in the Clinton years in this regard, but he learned from those mistakes, and frequently quoted Keynes’ line: “When the facts change, I change my mind.”  In his subsequent writings and in my work with him on these issues as a member of the President’s economics team in 2009 and 2010, I heard views quite different from those now being ascribed to him.

First, before he joined the administration and well in advance of the collapse of Bear and Lehman, Summers made an observation and a suggestion that might surprise some of those who see him as representing Wall St.  Regarding the proliferation of securitization and hedging through derivatives, he wrote in late 2006 that “…innovations that contribute to risk spreading in normal times can become sources of instability following shocks to the system as large-scale liquidations take place.”

About a year later, when neither the Fed and nor other bank regulators were acting, Larry was insisting on the need for measures to protect the system and the flow of credit, arguing for something that ultimately became, from my perspective, one of the more important pieces of the Dodd/Frank reforms: increased capital buffers in lending institutions.  He suggested the regulators push banks to increase their capital by diluting the shares of current owners (my italics, below).  Again, his advocacy of this position is quite inconsistent with those who believe he would place the banks or their shareholders’ interests above that of the broader economy.

The essential element, if there is to be more transparency in the financial system without a major credit crunch, is increased levels of capital. More capital permits more recognition of impairments and makes asset transfers easier by increasing the number of potential purchasers. It is preferable for the economy that banks bolster their capital positions by diluting current owners than by shrinking their lending activities. A critical element of regulatory policy should be insisting on increased capital in existing financial institutions.

I well recall his views on this issue of increased capital when he raised questions about certain regulations that I and others were pushing for, like the Volcker rule.  But his challenges were nuanced.  It was not that he didn’t believe in more oversight, or thought that banks with insured deposits should blithely trade their own books.  It was that he believed that the financial “innovators” would always be numerous steps ahead of the regulators.

So, I asked, where does that leave us?  We should just give up?

No, he said.  We should pursue simple rules like ample capital and liquidity cushions, rigorous clearing house rules for transparency in derivative trades, caps on banks as measured by their percent of total assets.

I’m not saying he’s right, though these are sensible rules.  I’m saying that he was no opponent of bank regulation when I worked with him.  In fact, he complained—publicly, as I recall—that the banks had four lobbyists for each member of Congress.

As I’ve noted before, Larry was a strong ally in arguments for continued fiscal stimulus when others on the team were ready to pivot to deficit reduction.  He supported the rescue of GM and Chrysler, and, in an argument that I thought was particularly important, recognized that we needed to consider not just the big two, but the downstream supply networks that employ many more workers than the factories at the end of the line.

To be clear, I don’t believe he has an edge over Ms. Yellen on these regulatory issues, and certainly not on stimulus (let the record show that Janet Yellen has done extremely important work on monetary stimulus in recent years; she is one of the few national policy makers actively targeting the unemployment rate).  Various accounts suggest she spotted the housing bubble before most others, though she did not set off alarms about it.  My sense from their work is that both candidates recognize the dangers posed by under-regulated financial markets; as far as Larry’s concerned, I can confirm that from personal experience.

Beyond that, and there are admittedly a lot of unknowns beyond that, we simply won’t know how good an oversight job they’ll do until we see them in action.

Which, for the record, makes them no different than any other Fed nominee in recent memory (with hindsight, the fact that Greenspan was an Ayn Rand disciple should have been a clue that he’d ignore bubbles, but precious few made that case at the time).  The biggest difference is that this time around, we’ve been given the dubious gift of too much time to walk around the showroom kicking the tires.

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11 comments in reply to "Summers and the Banks"

  1. Steve Bannister says:

    My sense, and you are far closer which may be an advantage, is that Summers shades decisions in favor of the elite power structure; Yellen, admittedly on less evidence, seems not to.

    Economically, this shading would lead to support of rent-seeking activities and redistribution upward, both bad outcomes.

  2. JFC says:

    Interesting commentary on Summers. Since you were an insider during those 2 years, I’d love to hear about that other guy who seemed to have Obama’s ear more than anyone else: Tim Geithner. His credo was: if it’s good for Wall St. it’s good for America. One news item I read had him as a possible candidate for the Fed chair. I nearly had a stroke. But I haven’t heard that lately so I guess we’re safe.

  3. Rick McGahey says:

    Summers has been ok on fiscal stimulus (although he, like others, has expressed doubts on QE’s effectiveness). His objections to the larger amounts initially computed by Roemer seem to have been political, rather than economic–you couldn’t get something over a trillion through Congress.

    But on “learning from mistakes,” in 2007 Summers was reportedly helping hedge fund D.E. Shaw pitch AAA-rate tranches of CDOs (which later went toxic and were a major source of the crisis) to Asian sovereign wealth funds.
    And in 2011, at the INET conference, Summers said that “I’ve been more cautious than many about constraining financial innovation,” and also said that he didn’t think that “new-fangled financial instruments” were a major source of the financial meltdown.

    OK, reasonable people may disagree on whether “financial innovation” was a cause, or just a vehicle of the crisis (I think many people’s reading is the the “innovations” were in fact a major cause.) But the above statements don’t sound to me like statements from someone who has changed his mind, something that Summers is notorious for not doing in other circumstances throughout his career. I appreciate Jared, like many others who’ve served in the Obama Administration, defending their colleague, but there’s no reason to take on any risks with the Fed appointment, or to stir up a confirmation battle in a highly disfunctional Senate, by appointing him to the Fed instead of Yellin. (I’ve ranted about this elsewhere, at

    • Bob Eisenberg says:

      Dear Dr. or Prof. Bernstein, or Jared,
      if first names are OK and I get it right,

      Thank you for making the best case so far for Mr. (or Prof. or Dr.) Summers.

      However, you do not discuss character and judgement, which are at least as important as the issues you do discuss.

      I can well understand why you do not want to discuss these issues in public, but I hope you agree to their importance.

      Ever yours
      with thanks for your wise writings,

      Bob Eisenberg

      Bard Endowed Professor and Chairman
      Dept of Molecular Biophysics & Physiology
      Rush University Medical Center

    • Chatham says:

      And he was wrong about the stimulus. It’s likely that Obama couldn’t have gotten one that was as large as was needed, but he almost certainly could have gotten one that was larger, and every dollar helps. On top of that, the narrative would have shifted from “we did all we could” to “I told you this wouldn’t be enough, but the Republicans are blocking us from getting what we really need.”

      What does this say about Summers as Fed chair? It tells me that he’s liable to choke under political pressure, and there’s a lot of political pressure trying to get the Fed to pull back at the moment.

  4. save_the_rustbelt says:

    Are we so short of talent we have to continually recycle Summers?

  5. Peter K. says:

    Does this signal that Summers has the job? I kid!

    But this testimony does jibe with the accounts given in behind-the-scenes books that surprised me, given my preference for Yellen. Summers was often on the right side of in-house debates.

  6. Perplexed says:

    -“He suggested the regulators push banks to increase their capital by diluting the shares of current owners (my italics, below). Again, his advocacy of this position is quite inconsistent with those who believe he would place the banks or their shareholders’ interests above that of the broader economy.”

    So exactly what level of capital could possibly offset the risks of allowing TBTF banks? His acceptance (support) of the propaganda that it was OK to allow these institutions to continue to exist and pose the risks they do to the public is more than enough to show his bias. Finding ways to “tweak” the existing system that would create the illusion of protection without any actual protection is a talent we could easily do without in this critical position. He has plenty of alternatives i.e. hedge funds, TBTF banks, and rating agencies where these skills are much more highly valued. Hopefully Yellen will be appointed and be able to see through these kind of arguments and take a stand in opposition to them. At least with her there is some hope of it whereas with Summers there is no hope.

    No doubt he appreciates your efforts and loyalty but maybe you’re too close on this one. Surgeons don’t operate on friends & family for a good reason.

  7. Jill SH says:

    OK. I think we should stop at the “opportunity to break a glass ceiling” point.

    From the history that I’ve seen/read (much of it via Frontline), too many times it seems the women in this financial drama from Brooksley Born to Sheila Bair, Christine Romer, Elizabeth Warren, and Janet Yellin have been right, on the right side, right from the beginning.

    I know I’ll probably sound like a feminist harpy, but when will the “boys” get over it, and let steady, sensible, capable people (who happen to be women) do the job?

    I’m quite happy Mr. Summers has learned from experience, and come around to the points of view he holds now. How smart of him.

    But considering how Wall Street used to (over)react to the most obtuse mutterings from Mr. Greenspan, I’m leary of someone with Mr Summers occasional penchant for impolitic statements being in a position where comments must be very measured.

    I can understand that someone of Mr Summers intellect can be very good in a crisis. But there shouldn’t be any crises.

    Wouldn’t the appointment of Ms Yellin be in itself a steadying move, one that will “reassure the markets”? Wouldn’t Mr Summers be just the opposite?

    Here’s one woman who feels that way.

  8. Dave says:

    Felix Salmon disagrees and think a Summers appointment would:

    1. Reduce the independence of the Fed.

    2. Would be a bad personality fit for the job.

    3. Would create a dangerous precedent of allowing political appointments to the Fed.


  9. Benjamin Kupersmit says:

    At this point it’s as much a symbolic move as anything, in which Obama will again prove that he’s a hippie puncher because Summers is more Serious and Yellen has been right over and over again.