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Tuesday, February 12, 2008

The Banking Sector: Culpable, Insolvent, Desperate --- Podcast Transcript

Direct look at the banking sector

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and we finish with a parable. I misspoke on Monday. This parable of Jesus is from Matthew 18, not Luke.

First let’s begin with some context, courtesy of New Deal Democrat. NDD blogging at Daily Kos. From his Dark Clouds, Silver Lining piece. This is last week’s data, but if you’re looking for the start of the recession, you should be looking in the rearview mirror.

Like a cascade from Imelda Marcos' closet, within the last week, the last shoes have dropped among the indicators used to forecast recession.

Retail sales, which had been holding up decently, tanked in January. Jobless claims have increased, layoffs have increased, payrolls have decreased. While manufacturing, which is now only 10% of the economy grew ever so slightly, the 90% of the economy representing services suddenly and dramatically contracted. And housing continues to sink into the depths like the Titanic.


This morning we found out that it wasn't just Wal-Mart customers who've been tightening their belts recently. The affluent middle class (the 80th-90th percentile of consumers), have also cut back, and stores like Macy's and Nordstrom felt the pinch:

Feb. 7 (Bloomberg) -- Limited Brands, Macy's and Nordstrom Inc said January sales declined while Wal-Mart’s gain trailed analysts' estimates as consumers facing the worst housing market in a quarter century avoided clearance sales and saved gift cards for future purchases.


Department stores and mall-based shops slashed prices on clothing and bedding to attract customers following the slowest holiday season since 2002. Consumers refrained from spending as median home values probably fell for the first time since the Great Depression and employers cut back on hiring.

Also February 7: first-time jobless claims for the second week in a row were over 350,000. Once there is an established trend of weekly new jobless claims over 350,000, almost certainly we are in a recession:

In the same report,

Private placement firm Challenger, Gray & Christmas Inc. said Feb. 4 that job cuts announced by U.S. employers jumped 19 percent in January to 74,986 from a year earlier.

And while the manufacturing sector, which is now so atrophied that it accounts for only 10% of employment in the US, grew ever so slightly as of the last report, on Tuesday we found out that the ISM services index suddenly and dramatically contracted:

The ISM's non-manufacturing index, which assesses banks, retailers and construction companies, slumped to 41.9 from 54.4 the prior month. A reading of 50 is the dividing line between growth and contraction.

Worse still, the ISM index is closely correlated with layoffs, meaning that in January 2008 it is likely that nationwide payrolls contracted substantially.

All of this is added to last week's report that in December nonfarm payrolls not only did not grow, but actually shrank by 18,000 jobs.

That from NDD, to whom we extend our appreciation.

Now let’s turn to the banking sector. A primary purpose of the Fed’s interest rate cuts has been to stabilize this sector. Bernanke has at times been explicit about it. Only secondary, in our opinion, has been the aim to promote economic activity. Stabilization is not working.

Banks and the shadow banking system are culpable for this economic crisis. They are insolvent as a result of their own mistakes and misdeeds. And they are desperate to find a way out. The Fed is helping them as much as it can, though Bernanke and colleagues cannot be pleased that at the same time rates TO banks are being cut, the banks themselves are turning around and jacking up the rates on their own customers, particularly credit card customers. This gives lie to the whole purpose of cutting Fed rates, as it will inevitably contract spending and further cut the legs out from under the retail economy.

The banks and hedge funds and others engaged in ludicrous — at least in retrospect — financial engineering, creating securities which got triple A ratings because they had the word mortgage in them. Then further engineered them into other securities to create total leverage of sometimes forty or fifty to one. So-called off balance sheet vehicles were created so banks did not need to follow prudent capital reserve requirements, but could own in a fashion the higher yield securities. Turns out they were still in house, they were just hidden in a closet.


As these securities and lending practices came home, the banks capital reserves disappeared. The Fed with a wink and a nod has suffered accounting standards to be flexed. In addition, it has set up a special auction facility which takes any paper as collateral for low-interest loans, thus giving value to the valueless and putting the taxpayer on the hook in the event of default. But we already knew they were too big to fail.

In a minute I will speculate on some possible ways of bailing them out. Necessarily imaginative.


Losses according to Nouriel Roubini for the financial sector are $250 to $300 billion. If a ten percent reserve requirement is in place, this contracts lending capacity by $2.5 to $3.0 trillion. The banks have already been around the world once with their tin cups out to the sovereign wealth funds. As above, they’ve tapped into the sovereign wealth of the U.S. Treasury. And now where possible they are squeezing their borrowers – as with the recent round of credit card rate increases.

Credit cards and equity loans have blurred the meaning of money. While I do not understand all the measures — M1 through M6 — I do know that practically speaking credit cards are the money of the retail economy. Look for a drastic cut-back in retail sales and a sharper dive into recession.

Financial markets do not regulate themselves. When they’re allowed to try, the result is a mess. The boom-bust has led to the worst housing recession in U.S. history.

Credit card, student loan, and auto loan defaults are on the way.

The so-called monoline insurers are not long for this world, as they are exposed to the toxic paper and have no standing once their triple A ratings dissolve. Which they are sure to do.

The bankruptcy of a large bank is if not inevitable, at least likely. Already Countrywide has been bailed out with a 55 billion dollar loan from the Federal Home Loan Bank.

So. Culpable. Insolvent. Desperate.

Which brings us to tonight’s parable, from Matthew Chapter 18. At the risk of sounding apocalyptic I’ll just read from the New English translation.

Verse 23

There was once a king who decided to settle accounts with the men who served him. At the outset there appeared before him a man whose debt ran into millions. Since he had no means of paying, his master ordered him to be sold to meet the debt, with his wife, his children, and everything he had.

The man fell prostrate at his master’s feet. “Be patient with me,” he said, “and I will pay in full;” and the master was so moved with pity that he let the man go and remitted the debt. But no sooner had the man gone out that he met a fellow-servant who owed him 100 denarii, and catching hold of him he gripped him by the throat and said, “Pay me what you owe.”

The man fell at his fellow-servant’s feet, and begged him, “Be patient with me, and I will pay you;” but he refused and had him jailed until he should pay the debt. The other servants were deeply distressed when they saw what had happened and they went to their master and told him the whole story. He accordingly sent for the man. “You scoundrel!” he said to him; “I remitted the whole of your debt when you appealed to me; were you not bound to show your fellow-servant the same pity as I showed to you?”

And so angry was the master that he condemned the man to torture until he should pay the debt in full. And that is how it will be with you, unless you each forgive your brother from your hearts.

Are these banks not doing the same thing as this hypocrite. The Fed is risking real debasement of the currency to attempt to heal them. Heavy inflation is virtually guaranteed. Yet the beneficiaries – the banks — are not joining in the attempt to get the economy going, but are turning on their own borrowers with no pity.




This is Alan Harvey from the Demand Side.

Monday, February 11, 2008

The Home Owners Loan Corporation
and other real answers to the impending crisis

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Today we have audio from Robert Kuttner, then I’ll give you some details on the Home Owners Loan Corporation, a New Deal model we could use today to clear the housing market. Kuttner will be back with observations on the political dangers to Democrats.

Remember to change your subscription on iTunes to demandside reborn one word lowercase. That link offers you the serialized version of Demand Side, the book, all at no cost or obligation. We’re moving through the history chapter and should be into economic performance by president, Chapter 4, by the first of next week. Look forward to consistent high marks for Democrats across the range of economic measures — growth, employment, investment AND profitability, all while borrowing trillions less.

Now Robert Kuttner, excerpted from an interview with Amy Goodman at Democracy Now on January 23.
ROBERT KUTTNER: ... the place to start is to recognize why this recession is different from all other recessions. This began and is continuing with a collapse in credit markets, and the collapse in credit markets is, in turn, the result of deregulation gone nuts. And it’s a repeat of a lot of things that happened in the 1920s, where there was too much speculation with too much borrowed money and a complete lack of transparency. The regulators, the public had no idea of what these bonds that had been created out of subprime mortgages really contained, what they were worth. The people who packaged them were not subject to any kind of regulatory scrutiny.

And when it turned out that a lot of these loans were never going to be paid back, the layer upon layer upon layer of bonds and then securities based on the bonds—you know, if you can picture the World Trade Center collapsing floor by floor or you can picture the collapse of the Ponzi schemes of the 1920s, that’s a good—or horrible—analogy. And when you have a credit contraction, it means that banks have less capital against which to make loans, and lowering interest rates doesn’t fix that.

There are two other things that lowering interest rates and an ordinary stimulus package won’t fix. One, you alluded to in your opening comments, Amy, and that’s the collapse in housing prices. At the current rate of decline in housing values, American homeowners—and that’s about 70 percent of Americans—are going to lose $2.2 trillion of net worth this year alone. Well, when you lose $2.2 trillion of savings, you’re not inclined to rush out and do home improvements, you’re not inclined to rush out and buy durable goods. And again, compared to that kind of a loss, a stimulus—and they’re talking about $140–$145 billion, that’s one percent of GDP—that’s a drop in the bucket.

Lastly, this occurs on top of thirty years of increasing insecurity on a whole bunch of fronts: the greater risk of losing your job, the greater risk of having your paycheck not keep pace with inflation, rising energy costs, rising tuition costs, rising health insurance costs. All of the things that make you middle class have become more difficult to attain in the past thirty years. So you’ve got a three-layer cake here. You’ve got this thirty-year history of flat or declining living standards for most Americans, you’ve got this terrible weakness in financial markets, and you’ve got this housing collapse.


the great experiment in deregulation really started under Carter in the late 1970s. It was Carter who started the deregulation of trucking and natural gas and broadcasting. And the whole ideology of deregulation and the practice of deregulation was unfortunately bipartisan.
That’s Robert Kuttner, co-founder of the American Prospect, once an investigator for the Senate Banking Committee, and as good an economist as exists in Washington.

Let’s take the mortgage crisis. What is a way to clear the markets and keep people in their homes?

Kuttner suggests a resurrection of the Home Owners Loan Corporation of the New Deal era.

Information from Answers dot com was provided under the sponsor:

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During the 1920s a typical down-payment was 35 percent for mortgage loans lasting up to only ten years at interest of 8 percent. At the end of that period, borrowers had to hope they could refinance or somehow in some other way come up with the remaining cost of the property. The lending institutions did not offer loan mortgage insurance and were often dangerously under-funded.

The number of mortgages issued nationwide dropped from 5,778 in 1928 to a mere 864 in 1933, and many banks went under, dragging homeowners down with them.

There were three choices:

Marrner Eccles at the Fed urged the policies of the great John Maynard Keynes, public programs operating directly, shoring up the lagging building trades and producing the badly needed housing.

Herbert Hoover preferred to support the banks, the lenders in the private market. In 1932 he created the Federal Home Loan Bank. The number of mortgages let was nationwide under Hoover’s programs was fewer than ten. Total.

Franklin Roosevelt, in his New Deal, in the summer of July 1933, created the Home Owners Loan Corporation, which was authorized to issue new loans to replace the existing liens of homeowners in default.

Of the almost two million applicants, half were accepted, those who could demonstrate a determination to meet their financial obligations and a history of doing so. Existing lenders had to accept losses from lower appraisals, and they were happy to do it. A government guarantee of four percent interest was worth far more than the zero percent they were getting, even if the zero percent applied to a higher valuation.

The HOLC was short-term. It actively issued loans for only three years, between 1933 and 1936. It was liquidated in 1951 at a small profit.

The situation is starkly similar to adjustable rate mortgages of today, which like the short-term loans of the 1920s, are tenable only when refinancing is available on favorable terms.

The HOLC offered full amortization, meaning when the last payment was made the house was owned free and clear. This was built into most future mortgage instruments, until recently. It offered below market interest rates and close counseling and assistance for borrowers. The result was extremely low default rates for what were the subprime borrowers of the day.

As envisioned by Kuttner, the 2008 HOLC would purchase at a deep discount, perhaps 30 to 40 cents on the dollar, the securities that hold the mortgages. At present many of these securities m are valued at zero, since there is no other market for them. There may be tens of billions at the Fed, however, which has taken the shakiest paper as collateral in its special auction facility.

The HOLC program would repopulate homes by offering below market terms. It seems to us that these terms ought to include adjustments should market prices fall further. One very understandable reason for softness in the current market is that would-be buyers are on the sidelines. If these buyers could be insulated from the risk of falling prices, they would come into the market. If they came into the market sufficiently, prices would cease to fall.

We should be clear, falling equity values in the presence of a federal program to rescue the housing market is going to create stresses among those who behaved responsibly over the past half dozen years.

We should also be clear that this just clears up part of the mess. Regulation of the financial sector is likewise essential, as is a forward-looking recovery program — built on infrastructure, green technology and jobs — not one-time, short-term stimulus.



.. let’s bring this back to politics. There’s a big risk that the Democrats, trying to be realists, trying to help out in a crisis, enact something that President Bush can sign, and then their fingerprints are on a piece of legislation that is obviously not going to solve the problem. There’s a time for bipartisanship, and there’s a time for a partisan difference. It seems to me the duty of an opposition party is to oppose, and this is one of those moments when the Democrats would be well-advised to really clarify the differences between themselves and President Bush.

But I want to bring it back to politics in a broader sense. This did not just happen. This was not an accident. This was the agenda of business, particularly Wall Street, going back thirty years. And if you look at the history of this, the Great Depression discredited free-market ideology, because it was such a colossal practical failure. Nobody in the 1930s could argue with a straight face that free markets worked. And so, we had a whole mixed economy, a regulatory structure invented during the New Deal, that really lasted thirty or forty years. By the ’70s, for a variety of reasons, big business had recovered a lot of the political power that it had lost in the Depression. And both parties, beginning with Carter, continuing with Clinton, became enablers of the kind of deregulation that finally has come home to roost in this crisis.

So now we’re learning, painfully, for a second time a lesson that we never should have had to learn twice, that markets don’t regulate themselves. Markets, left to their own devices, create grotesque inequality, ruin the environment and ruin the economy. And we’re seeing that unfold.
Robert Kuttner, American Prospect, author of The Squandering of America, once a chief assistant to Senator William Proxmire.

The political dangers are real. It will be a sad day for Democrats if they underestimate the potential of current slowing to become a real and deep recession. Stagflation. Or if they overestimate the effectiveness of the Fed and its interest rates or their own economists and the stimulus package.

We will need the crisis to unfold, of course, in order to offer the conditions needed to mobilize public support, but a crisis will not provide other necessary elements — like competent political leadership and workable strategies. We’re hoping Democrats spend their political capital to put in place the reconstruction of the middle class economy, to spend it on success, rather than watching it erode through failure.

Tomorrow is five minutes with Bush One in the next section of Demand Side, the book, and we’re back on Wednesday, with a parable from Luke chapter 18, about a man whose debt ran into millions and who was on his way to being sold into slavery when his master relented. The same man went to a person who owed him only a few denarii, and the man would not relent, but had him put into prison until he should pay. It reminds me of certain banks, Bank of America, for example, who have been getting below zero real interest rates from the Fed and have now turned on their cash-strapped borrowers with new and steeply higher rates. In the Bible and the parable, when the master finds out about this, there is hell to pay for the hypocrite. We’ll discuss the terms on Wednesday.

Until then, this is Alan Harvey, from the Demand Side.

The full interview with Kuttner by Amy Goodman

More is available below

AMY GOODMAN: And what could the Democrats do right now as an opposition party?

ROBERT KUTTNER: Well, I think there are three things they ought to be doing. First of all, there’s the housing mess. We need something like the Home Owners’ Loan Corporation of the 1930s, where a government agency, financed by government bonds, would buy these bonds back from Citigroup and Merrill and whoever at a steep discount, maybe thirty or forty cents on the dollar—they’ve already been written down to zero, because nobody wants to buy them—and turn them back into affordable mortgages, turn them into mortgages that would have a rate below market instead of the kind of predatory rate that subprime mortgages had. And you could then repopulate these houses. People on the brink of foreclosure would be able to keep their houses. Other people could become homeowners. So you need a much bolder approach to the housing crisis.

Secondly, I don’t even think “stimulus” is a good word. You need a recovery program. And a recovery program means not just a quick shot in the arm, it means reversing all of the things that make it harder to be middle class in this country. It means everything from a massive program of infrastructure repair to energy independence to good jobs in the service sector, reversing the whole thirty-year trajectory of ordinary people finding that their personal economic situation is insecure, they can’t keep up with the cost of living. And a “stimulus” implies a kind of a quick jolt to get us out of a temporary problem. This is not a temporary problem, this is a long-term problem. It’s going to require long-term solutions. And that doesn’t even get at some of the harder stuff, like the dependency on foreign borrowing that was caused by chronic trade deficits that in turn were the result of bad trade policies.

Thursday, February 7, 2008

How bad can it get -- podcast transcript for Friday, February 8

How bad can it get?

That is the main question I began my interview with. E.B. — E.B. Workman — is a very effusive fellow most of the time, but this time he answered in one word, “Bad.”

In listening to these podcasts, you have probably thought me a somewhat pompous fellow, always using the imperial “we.” It wasn’t the imperial “we,” it was the collective “we.”

I am an inveterate student. I have become a person of questions and the podcast has been a medium of the answers. Many of the answers and more that a few of the better questions have come from E.B. Today I’m going to just do questions and answers.

Why? Because things could get bad and I want to be clear. And also because any of you who have questions can forward to them to Demand Side at podcast@demandside.net.

Remember, also, to change your subscription to the new demandside by way of the website or just at iTunes. The new broadcast locus is demandside one word lower cast. Next time the original site eats up its bandwidth, which it is doing at a heartening rate, it will be the last time we are available through that location.

Question. Why is it going to get bad?

Because the problem is deep and broad, the policy-makers have no intention of facing up to it, and this is because neither they nor the broader population they need to back them up know the dimensions or the dynamics.

What, precisely, is the problem?

A financial sector collapse carrying down with it thousands of billions in debt and net worth. Or to put the clothes on it from before November 2007, the problem is the huge build-up of debt over the past decade, and particularly since the year 2000. This leverage inflated a housing bubble, but also inflated values of commercial real estate and other financial assets and created a second round of problems which has so far been kept behind the curtain.

There was more about that, but I want to get on to the questions on the stimulus plan. E.B. says the plan won’t work.


Because it cannot do what it is supposed to do — reflate the value of those collapsing financial assets. It is not a matter of the interest rate on the debt. It is a matter of collapsing prices. If you borrow $200,000 to buy a home that is going to be worth $150,000 in two or three years, it doesn’t matter how low the interest rate is, the effective cost of financing is going to be astronomical. Similarly, business is not going to invest — put money out up front — in an environment which will not produce profit. The cost of financing failure is enormous, no matter how low the interest rate.

Instead that new liquidity will flow to the rising assets, commodities, currencies and debt in other countries — creating inflation and instability worldwide.

But I was talking about the bi-partisan $600 chicken in every pot. What effect will that have?

Let’s talk NEGATIVE STIMULUS from the government over the past two weeks, according to E.B.’s thinking.

First, dispense with the tax breaks for business. As above, business is not going to do anything other than what makes business sense, but they will be happy to deduct more of what they were going to do anyway from their business taxes.

Second, E.B. sees it as a small stimulus to unaffected sectors. Most people will pay down debt, put it way against a looming storm, or buy food and gasoline. None of this creates new jobs. Even those who do what is asked them, which is apparently to buy consumer discretionaries will stimulate China as much as the U.S.

So what SHOULD we do?

Wait, says E.B., there is the second half of the stimulus plan. The budget bill Bush sent down this past week. Meaning the proposed big cuts in Medicare, Medicaid and other domestic programs. Those are a shot directly into the breadbasket of the economy. If they pass. If they don’t pass, we have over a half trillion dollar deficit for one year.

Okay, so what should we do?

We should have bailed out the states and cities. This is the real negative stimulus. Cuts are being front-loaded to address declining revenues caused by slumping consumer demand and by real estate foreclosures. These are police, teachers, civil servants of all kinds with middle incomes. They are also the thousands of contractors. The federal level had the opportunity to mitigate these cutbacks and the loss of public goods and services that are going to multiply the downward effect. Instead they instituted the Incumbent Rescue Plan.

They are not going to change it. So what should we do going forward?

Robert Kuttner of the book The Squandering of America has as close to the right prescription as there is, according to E.B. But before that, we are going to have to see that the current medicine is not working and resist more of the same medicine before it kills us completely. We do not need a stimulus plan, we need a recovery plan. And we need to do it on budget.

That is not possible, I said for everybody else. Everyone says we need deficit spending stimulus.

Everyone is wrong. Deficit spending would be fine if we hadn’t been doing it for most of the past thrity years. What is going to happen if the cost of private capital begins to rise? This huge federal debt is not all thirty-year fixed. If debt service goes up, as it is going to, the stresses are going to be enormous.

The economic mess was engineered by specific policies that have to be reversed: Non-regulation and control and supervision of the financial sector, from mortgages to hedge funds to private equity and the top gun banking style. Tax cuts for the rich have only exacerbated the problem. Reverse them and more for revenue.

And he had some pretty radical answers for the financial sector. He called them inevitable, but ....

Maybe we’ll get back to this next Friday. E.B. likes reforming health care, investing in education – as a means of improving the workforce, but also as an export commodity – importing the people, educating them and sending them home. But more than that, he likes mass transportation infrastructure – rail — and green technology and infrastructure. We need to grow tradable goods and services. Combining economic recovery with planetary survival looks like a demand side play.

That’s enough for today. I like this format. I am a student, not a teacher. I like the questions and debate and investigation. And I really like the answers. They’ve held up so far. Check the forecast for that, and for how bad E.B. thinks its going to get. Go to demandside.net and click on the forecast pane.

Tomorrow is another episode in the reading of Demand Side, the book, the eight minutes on Ronald Reagan. Monday we’ll be back with some audio of Robert Kuttner and consideration of the dangers for Democrats of being behind the curve.

Until then, this is Alan Harvey from the Demand Side.

Monday, February 4, 2008

Savings v. Investment v. Income -- Podcast Transcript

click on chart for larger image
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It becomes tedious at times to hear people, often well-dressed and well-respected people, discourse on the savings rate and tsk-tsk about the declining financial morality that has overcome our nation since the virtuous Fifties, Sixties and Seventies. Then, as benediction, these people will throw in an alarming factoid on the current precise level of non-saving.

And in fact, I have been one of these people.

Then I began to reflect. The huge volume of 401(k)s and pension funds must not be included. Likewise government debt – which has to be held by at least a few Americans — has been rising by hundreds of billions per year since 1981, except for a brief respite in the last part of the 1990s. Then again, there was five and a half trillion dollars in interest-bearing accounts not too long ago.

Still, as you can see in a chart on the web site, the official savings rate has been trending down since the common turning point of broad economic well-being — 1980 — and the rise of Reaganomics. Prior to that time and consistently since the historic series began in 1959, the rate was nearer ten percent than zero, where it hovers today. More thoughts on that later.

But still.

The first problem is the definition. The Bureau of Economic Analysis, BEA, identifies personal savings as “disposable personal income less personal outlays.”

When you and I think of savings we think of what we have stored away for safekeeping in a bank or investment account or stock of canned tuna. This is characterized by the BEA as “wealth,” not “savings.”

Net worth is what we identify as our savings, with some instinctual alignment to account for the more illiquid assets, such as housing and real estate. Over the past decade as we were spending more and borrowing more our net worth was rising. The figures I have before me here are from Bankrate dot com May 2006. $53.8 trillion in net worth. Compare this to $39.1 trillion in 2002.

We could well give back that $13 trillion while the personal savings rate rises and I doubt whether any one of us would think himself or herself richer. Likely we would experience a queasiness as if we had been told our savings account had been embezzled.

Which brings us to the stimulus package. I repeat that in spite of the tsk-tsk of the well-attired, our instructions are to spend the five or six hundred dollars coming to us in the mail.

Now that I think about it, our current President seems to have cut the cord of inevitability of taxes, at least to the rich. I understand he has an in with the big bearded guy. Do you think he might be persuaded to move the inevitability of death a little as well.

But the point. Our instructions are to spend the checks in the mail. This in the face of crumbling home values and an apparent recession on the way. I don’t know about you, but I’m going to pay down my debts with vigor. That is called “saving” or at least reducing the “dissaving.” But saving will not help the economic downturn.

Any saving by me, of course, will be provided by the government’s borrowing. Fortunately their borrowing rates are low. Or unfortunately. That brings us to the next part. Low interest rates do not entice people into savings, they promote purchase of assets which may have a higher return. The Greenspan housing bubble was to some degree sponsored by this calculation. “I can save at two percent or invest in housing at an annual rate of ten percent. Even if the market softens, at least I have the house.”

If you look at the chart on the blog, and remember when interest rates were high, the downward trend was ameliorated. When they were lower, people looked for other assets with a better return.

Parenthetically, the main thing lower interest rates do is increase the attractiveness of borrowing. Fine if you don’t think we are overextended already. For you and me it means refinancing at a lower, maybe a fixed rate. For the financial sector it means a million dollars today costs only $35,000 when a couple of weeks ago it was forty-two five. In another month it will be even cheaper. Maybe we can start another bubble — oh yes, there is one already. In commodities. Look out Oil Thirty-Six Thousand.

But let us consider the fundamental point of the tsk-tsk-ers. That is that a high savings rate means good things for investment. Everybody is familiar with the national income accounting identity between savings and investment. That identity — that savings equals investment — has almost universally been taken to mean that savings CAUSES investment. This is not correct. Believe it or not.

High personal savings rates under Reagan and Bush I did not produce big investment. Lower savings rates under Clinton did not keep investment from happening. And as we’ve seen the huge investment in passive housing over the past half dozen years came as savings rates were near zero.

We can discuss the source of funds if we want to bore each other, but we’ll lose track of the issue.

What causes investment? The prospect of profit causes investment. The savings rate does not cause investment. A strong economy means a strong demand for investment capital. Companies will go looking for it. Perhaps this would be more intuitive in the old days when individuals saved for the down-payments on their homes.

So how do they equilibrate in a closed economy, which ours is not? How does savings become to equal investment and investment become to equal savings?

A clue is offered inadvertently by the Right Wing apologists for the tax cuts for the rich. The rich save more, they say, and then go into the fallacy above of savings causing investment.

What is REVEALED in this feeble argument is a commonly acknowledged reality. As income goes up, the savings rate goes up. As income goes down, the savings rate goes down. Yes, it is the level of income that determines both investment and savings. My favorite analogy is a hot air balloon. The balloon rises or falls to the level that the air pressure inside is equivalent to the air pressure outside. The pressure inside does not cause the pressure outside to be the same. The pressure inside causes the balloon — income — to rise to an altitude where both are the same.

Income goes up. Better prospects for profit. Better opportunities for savers. Income goes down, not so much investment, not so much savings.

If you look again at the chart and see the downward trend beginning as so many do in 1980, reflect that the peak of the trend line in postwar growth was just a few years earlier, and that wages and income for the bottom half of American workers began to stagnate in this same period. This is the income that is missing. It is not a failing of financial morality, or at least not those at the lower end. It is a reduction in the means of middle- and lower-income Americans. If wages had trended up with productivity, as they should have, the savings rate would have remained stable. Instead, that productivity gain was transferred to the upper strata, and the savings rate stagnated.

Progressive policies to return middle class incomes to the middle class would reorient the savings rate and resurrect opportunity for tens of millions, not to mention reveal investment opportunity for the well-heeled.

Unfortunately, this income explanation means that as incomes go down in the current environment our attempts to pay down our debts or save will be frustrated. Saving in the aggregate will not be realized. Either I or another, perhaps a newly unemployed, will have to withdraw it to cover current expenses, or at these prices borrow again. Or look on the bright side, all those people losing their homes? At least the mortgage debt is off the books. Big new savings! Hooray!