How to cause a financial crisis

Rockfish1

Hall of Famer
Sep 2, 2001
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The first thing you do is recreate the conditions that preceded the last one:

Actions by federal regulators and Republicans in Congress over the past two years have paved the way for banks and other financial companies to issue more than $1 trillion in risky corporate loans, sparking fears that Washington and Wall Street are repeating the mistakes made before the financial crisis.

The moves undercut policies put in place by banking regulators six years ago that aimed to prevent high-risk lending from once again damaging the economy.

Now, regulators and even White House officials are struggling to comprehend the scope and potential dangers of the massive pool of credits, known as leveraged loans, they helped create.

Goldman Sachs, Wells Fargo, JP Morgan Chase, Bank of America and other financial companies have originated these loans to hundreds of cash-strapped companies, many of which could be unable to repay if the economy slows or interest rates rise.

“This means that the next downturn that we have could be more serious and longer-lasting and more difficult to deal with than it would have been if we had constrained these practices,” former Federal Reserve chair Janet L. Yellen said in an interview.

The lending boom was precipitated, in part, by the rush to water down regulations at the start of the Trump administration. That’s when newly minted regulators — many with close ties to the financial industry — sought to strip away post-crisis financial rules and find ways to juice the economy by encouraging more lending.

One of their top targets was leveraged loans. These are giant loans that banks make to heavily indebted — in financial speak, highly leveraged — companies. Bankers often have little assurance that the loans can be repaid, which can make them particularly risky. Bankers earn large fees off these products, and many banking executives say their institutions are sheltered from losses because they sell the loans to other investors such as hedge funds, mutual funds and insurance companies.
This should worry anyone who's familiar with the causes of the 2008 financial crisis:

One reason bankers have been able to make so many of these higher-risk loans without regulatory interference is that they sell these products on to outside investors. The loans are packaged into products known as collateralized loan obligations, or CLOs.

The CLO market has surged in the past 10 years, growing from $300 billion at the end of 2008 to $615 billion at the end of 2018, but the quality of these products is worse than it was before the financial crisis, according to the Federal Reserve Bank of Dallas.

Some former regulators have noted an eerie parallel between the subprime mortgage crisis and the leveraged-loan buildup. In the 2000s, banks and other finance companies took risky loans — certain mortgages — and packaged them into products that were sold off to investors. Financial companies also made other exotic instruments, known as collateralized debt obligations, tied to those securities. The products entangled financial companies with one another, allowing weak institutions to pull down stronger institutions when the value of these products cratered.

Today, regulators say they don’t have a firm grip on what the impact will be when the economy weakens or enters a recession.
Meanwhile, Trump is trying to turn the Fed's board of governors into a clown show. As noted in the piece above:

Last year, partly at the urging of Powell, the White House nominated economist and financial-regulation expert Nellie Liang to the central bank’s Board of Governors.

Her nomination from the White House was exceptional, in that she does not have a banking background and previously worked at the Fed to fine-tune oversight of financial companies. She formerly directed the Federal Reserve’s Office of Financial Stability, one of its most powerful components.

Banking industry lobbyists whipped up opposition to Liang, persuading some Republicans on the Senate Banking Committee to block her confirmation, according to five people involved in the process. In January, she announced she was withdrawing from consideration after it became clear she could not win Senate confirmation.
Instead of Liang, Trump reportedly is nominating Stephen Moore and Herman Cain -- a couple of kooks and grifters who shouldn't be allowed into the Federal Reserve on a visitor's pass. But they'll congenially try to do whatever President Dunning-Kruger wants done, so Senate Republicans may well confirm them.

I hope I don't end up making angry "I told you so" posts. Because that will mean the wheels have fallen off.
 

Sope Creek

Hall of Famer
Feb 5, 2003
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The first thing you do is recreate the conditions that preceded the last one:

Actions by federal regulators and Republicans in Congress over the past two years have paved the way for banks and other financial companies to issue more than $1 trillion in risky corporate loans, sparking fears that Washington and Wall Street are repeating the mistakes made before the financial crisis.

The moves undercut policies put in place by banking regulators six years ago that aimed to prevent high-risk lending from once again damaging the economy.

Now, regulators and even White House officials are struggling to comprehend the scope and potential dangers of the massive pool of credits, known as leveraged loans, they helped create.

Goldman Sachs, Wells Fargo, JP Morgan Chase, Bank of America and other financial companies have originated these loans to hundreds of cash-strapped companies, many of which could be unable to repay if the economy slows or interest rates rise.

“This means that the next downturn that we have could be more serious and longer-lasting and more difficult to deal with than it would have been if we had constrained these practices,” former Federal Reserve chair Janet L. Yellen said in an interview.

The lending boom was precipitated, in part, by the rush to water down regulations at the start of the Trump administration. That’s when newly minted regulators — many with close ties to the financial industry — sought to strip away post-crisis financial rules and find ways to juice the economy by encouraging more lending.

One of their top targets was leveraged loans. These are giant loans that banks make to heavily indebted — in financial speak, highly leveraged — companies. Bankers often have little assurance that the loans can be repaid, which can make them particularly risky. Bankers earn large fees off these products, and many banking executives say their institutions are sheltered from losses because they sell the loans to other investors such as hedge funds, mutual funds and insurance companies.
This should worry anyone who's familiar with the causes of the 2008 financial crisis:

One reason bankers have been able to make so many of these higher-risk loans without regulatory interference is that they sell these products on to outside investors. The loans are packaged into products known as collateralized loan obligations, or CLOs.

The CLO market has surged in the past 10 years, growing from $300 billion at the end of 2008 to $615 billion at the end of 2018, but the quality of these products is worse than it was before the financial crisis, according to the Federal Reserve Bank of Dallas.

Some former regulators have noted an eerie parallel between the subprime mortgage crisis and the leveraged-loan buildup. In the 2000s, banks and other finance companies took risky loans — certain mortgages — and packaged them into products that were sold off to investors. Financial companies also made other exotic instruments, known as collateralized debt obligations, tied to those securities. The products entangled financial companies with one another, allowing weak institutions to pull down stronger institutions when the value of these products cratered.

Today, regulators say they don’t have a firm grip on what the impact will be when the economy weakens or enters a recession.
Meanwhile, Trump is trying to turn the Fed's board of governors into a clown show. As noted in the piece above:

Last year, partly at the urging of Powell, the White House nominated economist and financial-regulation expert Nellie Liang to the central bank’s Board of Governors.

Her nomination from the White House was exceptional, in that she does not have a banking background and previously worked at the Fed to fine-tune oversight of financial companies. She formerly directed the Federal Reserve’s Office of Financial Stability, one of its most powerful components.

Banking industry lobbyists whipped up opposition to Liang, persuading some Republicans on the Senate Banking Committee to block her confirmation, according to five people involved in the process. In January, she announced she was withdrawing from consideration after it became clear she could not win Senate confirmation.
Instead of Liang, Trump reportedly is nominating Stephen Moore and Herman Cain -- a couple of kooks and grifters who shouldn't be allowed into the Federal Reserve on a visitor's pass. But they'll congenially try to do whatever President Dunning-Kruger wants done, so Senate Republicans may well confirm them.

I hope I don't end up making angry "I told you so" posts. Because that will mean the wheels have fallen off.
Sometimes I think it's a sin
When I feel like I'm winnin' when I'm losin' again
- Gordon Lightfoot
 

Stuffshot

All-American
Feb 20, 2008
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The first thing you do is recreate the conditions that preceded the last one:

Actions by federal regulators and Republicans in Congress over the past two years have paved the way for banks and other financial companies to issue more than $1 trillion in risky corporate loans, sparking fears that Washington and Wall Street are repeating the mistakes made before the financial crisis.

The moves undercut policies put in place by banking regulators six years ago that aimed to prevent high-risk lending from once again damaging the economy.

Now, regulators and even White House officials are struggling to comprehend the scope and potential dangers of the massive pool of credits, known as leveraged loans, they helped create.

Goldman Sachs, Wells Fargo, JP Morgan Chase, Bank of America and other financial companies have originated these loans to hundreds of cash-strapped companies, many of which could be unable to repay if the economy slows or interest rates rise.

“This means that the next downturn that we have could be more serious and longer-lasting and more difficult to deal with than it would have been if we had constrained these practices,” former Federal Reserve chair Janet L. Yellen said in an interview.

The lending boom was precipitated, in part, by the rush to water down regulations at the start of the Trump administration. That’s when newly minted regulators — many with close ties to the financial industry — sought to strip away post-crisis financial rules and find ways to juice the economy by encouraging more lending.

One of their top targets was leveraged loans. These are giant loans that banks make to heavily indebted — in financial speak, highly leveraged — companies. Bankers often have little assurance that the loans can be repaid, which can make them particularly risky. Bankers earn large fees off these products, and many banking executives say their institutions are sheltered from losses because they sell the loans to other investors such as hedge funds, mutual funds and insurance companies.
This should worry anyone who's familiar with the causes of the 2008 financial crisis:

One reason bankers have been able to make so many of these higher-risk loans without regulatory interference is that they sell these products on to outside investors. The loans are packaged into products known as collateralized loan obligations, or CLOs.

The CLO market has surged in the past 10 years, growing from $300 billion at the end of 2008 to $615 billion at the end of 2018, but the quality of these products is worse than it was before the financial crisis, according to the Federal Reserve Bank of Dallas.

Some former regulators have noted an eerie parallel between the subprime mortgage crisis and the leveraged-loan buildup. In the 2000s, banks and other finance companies took risky loans — certain mortgages — and packaged them into products that were sold off to investors. Financial companies also made other exotic instruments, known as collateralized debt obligations, tied to those securities. The products entangled financial companies with one another, allowing weak institutions to pull down stronger institutions when the value of these products cratered.

Today, regulators say they don’t have a firm grip on what the impact will be when the economy weakens or enters a recession.
Meanwhile, Trump is trying to turn the Fed's board of governors into a clown show. As noted in the piece above:

Last year, partly at the urging of Powell, the White House nominated economist and financial-regulation expert Nellie Liang to the central bank’s Board of Governors.

Her nomination from the White House was exceptional, in that she does not have a banking background and previously worked at the Fed to fine-tune oversight of financial companies. She formerly directed the Federal Reserve’s Office of Financial Stability, one of its most powerful components.

Banking industry lobbyists whipped up opposition to Liang, persuading some Republicans on the Senate Banking Committee to block her confirmation, according to five people involved in the process. In January, she announced she was withdrawing from consideration after it became clear she could not win Senate confirmation.
Instead of Liang, Trump reportedly is nominating Stephen Moore and Herman Cain -- a couple of kooks and grifters who shouldn't be allowed into the Federal Reserve on a visitor's pass. But they'll congenially try to do whatever President Dunning-Kruger wants done, so Senate Republicans may well confirm them.

I hope I don't end up making angry "I told you so" posts. Because that will mean the wheels have fallen off.
Yeah but, your post ignores Trump's gut. Trump trusts his gut more than the amateurs he calls his "advisers."

ez6zezaa6p5z.png
 

DrHoops

Hall of Famer
Gold Member
Sep 7, 2001
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Looks like his ass has more cubic area. Maybe he should switch to that.

Yeah but, your post ignores Trump's gut. Trump trusts his gut more than the amateurs he calls his "advisers."

ez6zezaa6p5z.png
 

UncleMark

Hall of Famer
Sep 1, 2001
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Actions by federal regulators and Republicans in Congress over the past two years have paved the way for banks and other financial companies to issue more than $1 trillion in risky corporate loans, sparking fears that Washington and Wall Street are repeating the mistakes made before the financial crisis.
But Freedom!
 

JamieDimonsBalls

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Jun 28, 2015
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People are misunderstanding the dynamics. The risk here is the interconnectedness between the HY/LL market and the traditional financial institutions (banks), not the banks' direct exposure to LL, which has been plummeting.

Both in the U.S...

3Q%20investor%20market%20chart%201.jpg


and Europe...

https%3A%2F%2Fblogs-images.forbes.com%2Fmayrarodriguezvalladares%2Ffiles%2F2019%2F02%2FRoleofnonbanks.jpg


...non-banks are increasingly prevalent and constitute a majority of LL issuance. The banks and non-banks are providing supply for institutional investor, such "as as pension funds, insurers and even sovereign wealth funds," demands. In an unprecedented era of low rates, there is a thirst for yield.

So, the questions should be: 1) how exposed are banks to BDCs and other non-bank funds?, 2) how exposed are banks to leveraged companies even if they aren't making the LL (ABL revolver may not count towards leverage issuance), and why have non-banks entirely escaped regulation?

That being said, there is certainly some risk. I'm (perhaps stupidly) optimistic that things won't unfold like they did the last time.

Here are some good reads:

https://www.ft.com/content/4610e820-1b09-11e9-9e64-d150b3105d21

https://www.forbes.com/sites/mayrar...-and-other-high-yield-exposures/#173ee367ffac

https://www.spglobal.com/marketinte...non-bank-participation-hits-record-high-in-3q

https://ftalphaville.ft.com/2018/11/20/1542706123000/Who-s-buying-leveraged-loans-anyways-/
 
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Rockfish1

Hall of Famer
Sep 2, 2001
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People are misunderstanding the dynamics. The risk here is the interconnectedness between the HY/LL market and the traditional financial institutions (banks), not the banks' direct exposure to LL, which has been plummeting.

Both in the U.S...

3Q%20investor%20market%20chart%201.jpg


and Europe...

https%3A%2F%2Fblogs-images.forbes.com%2Fmayrarodriguezvalladares%2Ffiles%2F2019%2F02%2FRoleofnonbanks.jpg


...non-banks are increasingly prevalent and constitute a majority of LL issuance. The banks and non-banks are providing supply for institutional investor, such "as as pension funds, insurers and even sovereign wealth funds," demands. In an unprecedented era of low rates, there is a thirst for yield.

So, the questions should be: 1) how exposed are banks to BDCs and other non-bank funds?, 2) how exposed are banks to leveraged companies even if they aren't making the LL (ABL revolver may not count towards leverage issuance), and why have non-banks entirely escaped regulation?

That being said, there is certainly some risk. I'm (perhaps stupidly) optimistic that things won't unfold like they did the last time.

Here are some good reads:

https://www.ft.com/content/4610e820-1b09-11e9-9e64-d150b3105d21

https://www.forbes.com/sites/mayrar...-and-other-high-yield-exposures/#173ee367ffac

https://www.spglobal.com/marketinte...non-bank-participation-hits-record-high-in-3q

https://ftalphaville.ft.com/2018/11/20/1542706123000/Who-s-buying-leveraged-loans-anyways-/
I can't read the pieces from the Financial Times, but the other pieces echo the concern about the proliferation of leveraged loans. Yes, banks are selling those loans off to others, who are packaging them into sexy new investment vehicles that sound pretty much like the last ones. Even if the risk flows away from "banks", it doesn't go away.
 

JamieDimonsBalls

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I can't read the pieces from the Financial Times, but the other pieces echo the concern about the proliferation of leveraged loans. Yes, banks are selling those loans off to others, who are packaging them into sexy new investment vehicles that sound pretty much like the last ones. Even if the risk flows away from "banks", it doesn't go away.

First, there are some key differences between CLOs and MBS.

CLOs fared well in the 2008 crisis, with none of the highest-rating tranches defaulting. In some ways, CLOs have gotten safer since then: Now they can only buy leveraged loans, which are typically senior in a firm’s debt structure, meaning they get paid out first in a default. And ratings agencies require CLOs have more of a buffer between the value of the loan pool and the value of the debt, known as over-collateralization, among other tests designed to shield investors from losses. The industry also points to the diversity of loans CLOs hold, making them less susceptible to collateral damage -- literally. So if one industry gets hammered, the way the energy sector was in 2015 and 2016, stronger sectors can make up for it.

Second, I acknowledged that there is some risk with the banks, but IMO, the amount of holdings is unlikely to represent a significant risk compared to the interconnectedness between banks and nonbank lenders. Banks are frequently providing warehouse facilities and other lending solutions to these entities which are more exposed to direct changes in CLO valuations.

As for nonbanks, I've been surprised at the rapid growth of these institutions, particularly in terms of assets or AUM. Stanley Fischer made an interesting speech on the pros and cons of nonbank financial institutions.

https://www.federalreserve.gov/newsevents/speech/fischer20150327a.htm

The U.S. financial system has changed significantly in recent decades, with nonbanks as a whole gaining share and also becoming more interlinked with banks. This evolution has produced material benefits: increased market liquidity, greater diversity of funding sources, and--it is often claimed--a more efficient allocation of risk among investors. However, the evolution has also increased threats to the stability of the overall financial system, as demonstrated by the recent financial crisis.
 
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Rockfish1

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First, there are some key differences between CLOs and MBS.

CLOs fared well in the 2008 crisis, with none of the highest-rating tranches defaulting. In some ways, CLOs have gotten safer since then: Now they can only buy leveraged loans, which are typically senior in a firm’s debt structure, meaning they get paid out first in a default. And ratings agencies require CLOs have more of a buffer between the value of the loan pool and the value of the debt, known as over-collateralization, among other tests designed to shield investors from losses. The industry also points to the diversity of loans CLOs hold, making them less susceptible to collateral damage -- literally. So if one industry gets hammered, the way the energy sector was in 2015 and 2016, stronger sectors can make up for it.

Second, I acknowledged that there is some risk with the banks, but IMO, the amount of holdings is unlikely to represent a significant risk compared to the interconnectedness between banks and nonbank lenders. Banks are frequently providing warehouse facilities and other lending solutions to these entities which are more exposed to direct changes in CLO valuations.

As for nonbanks, I've been surprised at the rapid growth of these institutions, particularly in terms of assets or AUM. Stanley Fischer made an interesting speech on the pros and cons of nonbank financial institutions.

https://www.federalreserve.gov/newsevents/speech/fischer20150327a.htm

The U.S. financial system has changed significantly in recent decades, with nonbanks as a whole gaining share and also becoming more interlinked with banks. This evolution has produced material benefits: increased market liquidity, greater diversity of funding sources, and--it is often claimed--a more efficient allocation of risk among investors. However, the evolution has also increased threats to the stability of the overall financial system, as demonstrated by the recent financial crisis.
I get that the financial sector thinks it’s doing it right this time. But in 2008 the financial sector almost took down the global economy with AAA-rated derivatives. They claimed they were doing it right then too. And now they’re tearing down the regulatory constraints on their recklessness, while Trump appoints useful idiots to run the Fed. I don’t know whose confidence this is supposed to bolster, but it isn’t mine.
 

Marvin the Martian

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And now they’re tearing down the regulatory constraints that were meant to constrain their recklessness, while Trump appoints useful idiots to run the Fed.

I really cannot wait to see if Boeing "tearing down the regulatory constraints that were meant to constrain their recklessness" had any impact on the Max. Just tying in that sometimes regulations are good, it is just hard to get people to accept that.
 
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Rockfish1

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I really cannot wait to see if Boeing "tearing down the regulatory constraints that were meant to constrain their recklessness" had any impact on the Max. Just tying in that sometimes regulations are good, it is just hard to get people to accept that.
Maybe it isn’t a good idea to outsource the safety of jet airliners to the for-profit corporations that sell jet airliners. Similarly, maybe we shouldn’t outsource the safety of our global economy to the same amoral greedheads who almost took down the global economy just a decade ago.
 

IUXC68

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Maybe it isn’t a good idea to outsource the safety of jet airliners to the for-profit corporations that sell jet airliners. Similarly, maybe we shouldn’t outsource the safety of our global economy to the same amoral greedheads who almost took down the global economy just a decade ago.
So, are you in cash exclusively?
 

Rockfish1

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Politico says some Republicans think Herman Cain may be a bit too far into Ubeki-beki-beki-beki-stan-stan. But in the silver lining of unmitigated dumbassery:

Some GOP senators said that Cain’s difficult path might have eased Stephen Moore’s confirmation to the Fed, despite Moore’s own problems with unpaid taxes and his partisan reputation. After all, Republicans might be hard-pressed to revolt against both of Trump’s nominees.
Trump's oppressive unfitness for office overloads our receptors so that maybe only getting one incompetent kook on the Fed board feels like an okay outcome for this news cycle. I mean, it could have been two. Maybe it will only be one. For now.

Surely our institutions will protect us.
 

UncleMark

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Trump's oppressive unfitness for office overloads our receptors so that maybe only getting one incompetent kook on the Fed board feels like an okay outcome for this news cycle. I mean, it could have been two. Maybe it will only be one. For now.
More winning. I'm getting sick of it.
 
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JamieDimonsBalls

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I get that the financial sector thinks it’s doing it right this time. But in 2008 the financial sector almost took down the global economy with AAA-rated derivatives. They claimed they were doing it right then too. And now they’re tearing down the regulatory constraints on their recklessness, while Trump appoints useful idiots to run the Fed. I don’t know whose confidence this is supposed to bolster, but it isn’t mine.

I think you are mistaken. Plenty of people, including myself, are skeptical of the proliferation is nonbank lenders, particularly after their performance last go around. Yet, despite the past, investors are clamoring for yield.

These products are driven by demand, not supply. Investors, ignoring 2006-2010, are as culpable as anyone.
 

Rockfish1

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Sep 2, 2001
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I think you are mistaken. Plenty of people, including myself, are skeptical of the proliferation is nonbank lenders, particularly after their performance last go around. Yet, despite the past, investors are clamoring for yield.

These products are driven by demand, not supply. Investors, ignoring 2006-2010, are as culpable as anyone.
I don’t understand how you think I’m mistaken, but you have a point about investors. This American Life did a great piece on “The Giant Pool of Money” that inflated the bubble that collapsed last time.

https://www.thisamericanlife.org/355/transcript

I think, though, that this underscores why these markets need to be better regulated. Self interest is insufficient to constrain reckless behavior.
 

UncleMark

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But isn't that why we need regulation?
There’s another word for regulation that doesn’t fit the narrative of those who constantly bitch about regulation. It’s called consumer protection.
Working class heroes like me just want to be able to count on our money growing at a reasonable rate and being there when we need it. Is that too much to ask? I've recovered from 2008, but if anything similar happens again, I'm screwed.
 

IUXC68

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I don’t know why you’d think you could ask personal questions of me. I do know that I’m inclined to suggest that you perform an anatomically impossible act.

Anything else?
I have to salute your sense of humor.
 

JamieDimonsBalls

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But isn't that why we need regulation?
I don’t understand how you think I’m mistaken, but you have a point about investors. This American Life did a great piece on “The Giant Pool of Money” that inflated the bubble that collapsed last time.

https://www.thisamericanlife.org/355/transcript

I think, though, that this underscores why these markets need to be better regulated. Self interest is insufficient to constrain reckless behavior.

Isn't that precisely the point? Banks are now restricted from more activities and services than they were pre-recession (which I don't have much issue with, except the ban on prop trading's impact on fixed income liquidity - which remains an issue)

So, since regulators said, no, you cannot make highly leveraged loans above X and hold them on your balance sheet or syndicate them among banks, nonbank lenders stepped in to take their place, raising tens of billions of dollars to extend loans to levered companies.

More regulation will just lead to another shift in the market because investors are feverishly seeking to increase their returns and aren't getting it through sovereign debt.
 

wiede

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Sep 25, 2001
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Politico says some Republicans think Herman Cain may be a bit too far into Ubeki-beki-beki-beki-stan-stan. But in the silver lining of unmitigated dumbassery:

Some GOP senators said that Cain’s difficult path might have eased Stephen Moore’s confirmation to the Fed, despite Moore’s own problems with unpaid taxes and his partisan reputation. After all, Republicans might be hard-pressed to revolt against both of Trump’s nominees.
Trump's oppressive unfitness for office overloads our receptors so that maybe only getting one incompetent kook on the Fed board feels like an okay outcome for this news cycle. I mean, it could have been two. Maybe it will only be one. For now.

Surely our institutions will protect us.

The republican dream of tearing down government is happening right now.

And the institutions won’t hold if their foundations are being destroyed by those controlling them. The idiot is replacing the overseers with more idiots.

Trump has been a master at overwhelming us into accepting stuff that should never be accepted. It’s his MO- and he does it really well. We’re weary right now, and it’s been more and more effective as time marches on.

A very surreal time to be alive in this country.