Krugman & Wells: The Banker Busts started in the 1970s and keep getting bigger

Paul Krugman and Robin Wells have an excellent long piece in the current New York Review of Books on the history of "banker busts" from the Nixon era through today.

The piece is wrapped around a review of the book Age of Greed: The Triumph of Finance and the Decline of America, 1970 to the Present by Jeff Madrick. The authors like the book (with reservations; see the review). But it gives them a chance to reflect on 2008 as one in a series of increasingly severe crises, all banker-caused, and each one taxpayer-bailed.

It starts with a walk through forgotten memories (my emphasis throughout):

Suppose we describe the following situation: major US financial institutions have badly overreached. They created and sold new financial instruments without understanding the risk. They poured money into dubious loans in pursuit of short-term profits, dismissing clear warnings that the borrowers might not be able to repay those loans. When things went bad, they turned to the government for help, relying on emergency aid and federal guarantees—thereby putting large amounts of taxpayer money at risk—in order to get by. And then, once the crisis was past, they went right back to denouncing big government, and resumed the very practices that created the crisis.

What year are we talking about?

We could, of course, be talking about 2008–2009, when Citigroup, Bank of America, and other institutions teetered on the brink of collapse, and were saved only by huge infusions of taxpayer cash. ... But we could also be talking about 1991, when the consequences of vast, loan-financed overbuilding of commercial real estate in the 1980s came home to roost, helping to cause the collapse of the junk-bond market and putting many banks—Citibank, in particular—at risk. Only the fact that bank deposits were federally insured averted a major crisis. Or we could be talking about 1982–1983, when reckless lending to Latin America ended in a severe debt crisis that put major banks such as, well, Citibank at risk, and only huge official lending to Mexico, Brazil, and other debtors held an even deeper crisis at bay. Or we could be talking about the near crisis caused by the bankruptcy of Penn Central in 1970, which put its lead banker, First National City—later renamed Citibank—on the edge; only emergency lending from the Federal Reserve averted disaster.

First National City; Citibank; Citigroup. I think there's a theme here.

The article contains much to like, and as always with Krugman & Wells, it's well-written and accessible. I'll point out two of its treats, but do read it for more.

One is the analysis of Reagan's rise as enabled, at least in part, by the government's inability to deal with externally-induced financial shocks of the 1970s:

[T]he surging inflation of the 1970s had its roots not in some general problem of “big government” but in largely temporary events—the oil price shock and disappointing crop yields—whose effects were magnified throughout the economy by wage-price indexation.

This allowed Reagan, with his "enormous capacity for doublethink and convenient untruths" to join with Milton Friedman (who comes in for his own share of criticism) in painting government as the "principal obstacle to [Americans'] personal fulfillment" (I believe this quote is Madrick's).

The second treat, and surprise, is what Krugman & Wells consider Ground Zero in the battle of the banks against New Deal regulation:

The transformation of American banking initiated by [Walter] Wriston [First National City/Citibank head from the 1960s through the 1980s] arguably began as early as 1961, when First National City began offering negotiable certificates of deposit—CDs that could be cashed in early, and therefore served as an alternative to regular bank deposits, while sidestepping legal limits on interest rates. First National City’s innovation—and the decision of regulators to let it stand—marked the first major crack in the system of bank regulation created in the 1930s, and hence arguably the first step on the road to the crisis of 2008.

There's also an excellent discussion of the Citibank-Travelers merger, which was plainly illegal at the time (Travelers owned Salomon Smith Barney, an investment bank, and Citi is a commercial bank) and the role of Sandy Weill in getting the deal (1) completed, and (2) retroactively blessed by the Feds. Done and done.

I'll let you read the authors' disagreement with Madrick near the article's end. I'm more interested in Krugman's closing in on Frank Rich's understanding, that we're watching a coup by the wealthy against everyone else. Krugman & Wells call it the "metastasized" role of money in politics.

Getting there, sir; you're very close. Now just expand that last thought.

GP