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Noteworthy 2010: Key Quotes From The Past Year
From massive government bailouts to more cheap money from the Fed to the controversial Finance Reform Bill, 2010 was an unprecedented year in the world of credit risk and credit markets. CreditPulse puts the year into perspective by reviewing the key quotes from 2010.
In the world of credit, the year 2010 started out with many in business, finance and economics still wondering what happened to cause the credit crisis of 2008 -- a period in which the nations largest banks were on the brink of failure, credit was essentially frozen and GDP plunged -16.4 percent from the third quarter of 2008 to the second quarter of 2009, the largest four-quarter percentage drop since 1932.
Out of all the possible explanations on such a complicated subject, perhaps one of the most insightful appeared on January 2nd, 2010 when Mark S. Wilser, a mergers and acquisitions expert and principal of M&A advisory firm Global Capital Markets in Irvine, California weighed in with a little-noticed letter to the editor of the Wall Street Journal: "Loose money for a long period falsified the term structure of interest rates, leading to distorted patterns of capital investment and resource allocation," wrote Wilser. "This continued monetary pumping also led to the development of complex hedging instruments in the form of derivative securities as investors sought to protect themselves from asset values changing primarily due to volatility in monetary relations."
Resource, or asset allocation, as determined by competing forces in a free market is the single most defining principle of capitalism and what ensures that capital, or resources, will end up in the hands of market participants best equipped to utilize them. Adam Smith, the father of modern economics, referred to this natural economic phenonoma as the "invisible hand" in his landmark book The Wealth of Nations. Interestingly, in his letter, Wilser draws an unequivocal connection between loose money and distortions in resource allocation.
Wilser wasn't the only one. Former Federal Reserve Chairman Paul Volcker, who chaired President Obama's Economic Recovery Advisory Board, went before Congress in February 2010 to argue that commercial banks' proprietary and speculative activities should not be protected by the government under the mantra that they are "too big to fail." Volcker made a name for himself in the late 1970s by raising short-term interest rates although unpopular at the time in order to fight runaway inflation and maintain some semblence of monetary discipline.
"I am not so naive as to think that all potential conflicts can or should be expunged from banking or other businesses," Volcker told Congress. "But neither am I so naive as to think that, even with the best efforts of boards and management, so-called Chinese walls can remain impermeable against the pressures to seek maximum profit and personal remuneration." Interestingly, Volcker's idea, which became known as "the Volcker rule," was largely left out of the Finance Reform Bill passed by a Democratic Congress some five months later.
The market distortions in equity capital as evidenced by increased stock market volatility and Wall Street banks' increased reliance on government bailouts and guarantees became so pronounced that those involved in venture capital began to draw a distinction between their version of capitalism and Wall Street's version. None did it better than well known silicon valley venture capitalist Tom Perkins in an insightful article that appeared in the Wall Street Journal on February 25th and was featured in the Noteworthy section of CreditPulse.
"Venture capitalists work with entrepreneurs to start new companies from the ground up," Perkins wrote. "We earn our reward only when companies become successful. Investment bankers are deal makers. They're in charge of bringing companies public and advising on acquisitions. Their money is earned by the transaction, and in a fraction of the time it takes a venture capitalist to realize a profit."
As expected, government bailouts combined with run-away spending in other areas, especially in Europe, were beginning to cause serious problems with government coffers thrusting some such as Greece and Ireland to the brink of insolvency. How bad was it? Bad enough that the man who basically set the precedent for cheap money, former Fed Chairman Alan Greenspan, had to say enough is enough.
"The United States, and most of the rest of the world, is in need of a tetonic shift in fiscal policy," Greenspan wrote on June 18th in the Wall Street Journal. "Incremental change will not be adequate. In the past decade the U.S. has been unable to cut any federal spending programs of signficance. Our policy focus must therefore err significantly on the side of restraint."
But the Democrats in Washington weren't listening to Greenspan, at least not this time. On July 21st, President Barak Obama signed the Dodd-Frank Wall Street Reform and Consumer Protection Act into law, a complicated 2,300 page bill that spent billions creating several new government agencies and oversight bodies while giving more authority to the Federal Reserve and the U.S. Treasury -- two regulatory bodies that failed to adequately regulate in the years leading up to the credit crisis.
The Republicans, led by Senator Richard Shelby of Alabama, fought the bill at every turn but in the end lacked the votes to kill it. As reported by CreditPulse on July 23rd, 19 Democrats joined all but three Republicans in opposition in the U.S. House of Representatives and all but three Republicans voted against it in the Senate. One of the greatest quotes of the year was made by Senator Shelby, the ranking member of the Senate Banking Committee, on the floor of the U.S. Senate on May 5th (see above). Shelby's statement accurately sumarized the growing attitude on Wall Street that the government should subsidize their credit losses on grounds that they are "too big to fail."