Just smile and wave, boys - cause we are sinking...

The relationship between the relaxing of usury laws (laws that prohibit the charging of unreasonable or relatively high rates of interest) in the United States and the loss of our manufacturing base is explored well in a recent article in Harpers by Thomas Geoghegan. Read and weep.

It may be hard to grasp how the dismantling of usury laws might lead to the loss of our industrial base. But it's true: it led to the loss of our best middle class jobs. Here's a little primer on how it happened. First, thanks to the uncapping of interest rates, we shifted capital into the financial sector, with its relatively high returns. Second, as we shifted capital out of globally competitive manufacturing, we ran bigger trade deficits. Third, as we ran bigger trade deficits, we required bigger inflows of foreign capital. We had 'cheap money' flooding in from China, Saudi Arabia and even the Fourth World. May God forgive us - we even had capital coming in from Honduras. Fourth, the banks got even more money, and they didn't even consider putting it back to manufacturing. They stuffed it into derivatives and other forms of gambling, because that's the kind of thing that got the 'normal' big return; i.e., not 5 percent but 35 percent or even more. Go back to the top and repeat the sequence. It was what scientists call an autocatalytic reaction. It just kept going. All that cheap money would have been a good thing if it had gone into manufacturing. But it didn't. The capital inflows from big trade deficits couldn't go into manufacturing because the returns in banking were just too high. And because this autocatalytic reaction just kept going - as long as there was imbalance between finance and industry - the system could not readjust or stabilize. The bigger the deficit, the bigger the capital inflow; and the bigger the capital inflow, the bigger the financial sector became; and the bigger the financial sector became (relative to manufacturing), the bigger the trade deficit became.

And what did we as a nation gamble and bet on?

I don’t mind futures on the weather, or futures on interest rates, or even futures on the fluctuations of the price of bleacher seats for Cubs games, but I really have trouble with futures on futures, bets on the outcomes of all bets. … By 2007, the ‘notional’ values of all these bets came to $516 trillion – a number that even theoretically is hard to ponder. And that is all the capital that could have gone into real things we could have sold abroad. The money we bet in Chicago is the money we should have been investing in Detroit. And I know they’re lunkheads in Detroit, but the lunkheads ended up running the auto industry because the smart people, the Harvard dropouts and the autodidacts from Texas Tech, decided that the real money wasn’t in starting software companies or running telcos but in derivatives.

The quadrillion dollar derivative market and how one woman tried unsuccessfully to regulate it

The Times had a great article about how a lady chairing the Commodity Futures Trading Commission (CFTC) ten years ago was thwarted by the all knowing Mr. Greenspan in her attempts at bringing greater regulatory authority over options, swaps and futures (derivative instruments). These are the very instruments that led to our current global financial meltdown. The value of these instruments have ballooned from about $100 trillion six years ago to $0.5 quadrillion dollars (yes, quadrillion – I did not make it up). When people say that the bailout amounts ($700 billion) proposed is just a drop in the bucket, they are absolutely right...

In 1997, the CFTC, a federal agency that regulates options and futures trading, began exploring derivatives regulation. The commission, then led by a lawyer named Brooksley Born, invited comments about how best to oversee certain derivatives. Born was concerned that unfettered, opaque trading could "threaten our regulated markets or, indeed, our economy without any federal agency knowing about it," she said in Congressional testimony. She called for greater disclosure of trades and reserves to cushion against losses.

Born's views incited fierce opposition from Greenspan and Robert Rubin, the Treasury secretary then. Treasury lawyers concluded that merely discussing new rules threatened the derivatives market. Greenspan warned that too many rules would damage Wall Street, prompting traders to take their business overseas.

"Greenspan told Brooksley that she essentially didn't know what she was doing and she'd cause a financial crisis," said Michael Greenberger, who was a senior director at the commission. "Brooksley was this woman who was not playing tennis with these guys and not having lunch with these guys. There was a little bit of the feeling that this woman was not of Wall Street."

This summer, the Bank for International Settlements, estimated that the face value of derivatives floating around the world is $1.14 quadrillion. That is $1,140,000,000,000,000.00. The breakup was distributed between $548 trillion in listed derivatives or traded on organized exchanges and $596 trillion under over-the-counter derivatives that were basically unregulated and unmonitored.

Maybe Mr. Greenspan should have listened to that little lady warning him then in 1997. Maybe, but hey, she would not play tennis with the guys nor have lunch with the guys... How can such a lady give credible advice? It also does not help that Greenspan was an avid follower of that libertarian cheerleader Ms. Ayn Rand.

Meanwhile, the National Debt Clock in midtown Manhattan has run out of digits to record the growing debt.