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How We Were All Misled

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Steffen Kugler/The New York Times/Redux
French President Nicolas Sarkozy, former Greek Prime Minister George Papandreou, and German Chancellor Angela Merkel, Brussels, July 2011

Most people with a special interest in the events of the credit crunch and the Great Recession that followed it have a private benchmark for the excesses that led up to the crash. These benchmarks are a rule of thumb, a rough measure of how far out of control things got; they are phenomena that at the time seemed normal but that in retrospect were a brightly flashing warning light. I came across mine in Iceland, talking to a waitress in a café in the summer of 2009, about eight months after the króna collapsed and the whole country effectively went bankrupt under the debts incurred by its overextended banks. I asked her what had changed about her life since the crash.

Well,” she said, “if I’m going to spend some time with friends at the weekend we go camping in the countryside.”

How is that different from what you did before?” I asked.

We used to take a plane to Milan and go shopping on the via Linate.”

Since that conversation, I’ve privately graded transparently absurd pre-crunch phenomena on a scale from 0 to 10, with 0 being complete financial prudence, and 10 being a Reykjavik waitress thinking it normal to be able to afford weekend shopping trips to Milan.

Many people all over the world went nuts on cheap credit in the years of the boom—a boom that was in large part built on an unsustainable spike in personal and governmental debt. Michael Lewis has already written a very good book, The Big Short, about the mechanics of the crash, by casting around for people who didn’t just foresee it, but who made huge bets that it would happen, and profited vastly when it did.1

Boomerang is about what he has come to see as the larger phenomenon behind the credit crunch: the increase in total worldwide debt from $84 trillion in 2002 to $195 trillion now. The thesis is that “the subprime mortgage crisis was more symptom than cause. The deeper social and economic problems that gave rise to it remained.” It is these deeper problems that are dominating economic news at the moment, and led to the desperate measures announced at the European summit on October 27 and to the aborted Greek plan to hold a referendum that followed. The G20 Economic Summit of November 3–4 was dominated by discussion of the Eurozone crisis, but ended with no coherent plan in view, and none has emerged since. Boomerang tells the story of how we got here, and in the course of doing so gathers together an extensive arsenal of data at the top end of my 0–10 Reykjavik waitress scale: the fact that Greek railways have €300 million in other costs; the fact that the Californian city of Vallejo spent 80 percent of its budget on the pension and pay of police, firemen, and other “public safety” workers; the fact that between 2003 and 2007, Iceland’s stock market went up ninefold; the fact that in Ireland, a developer paid €412 million in 2006 for a city dump that is now, because of cleanup costs, valued at negative €30 million.

Lewis has noticed something important about these excesses: that the precise details of how people ran amok varied from culture to culture. Cultural and historical faultlines were exposed by the boom, and behavior varied accordingly.

The credit wasn’t just money, it was temptation. It offered entire societies the chance to reveal aspects of their characters they could not normally afford to indulge. Entire countries were told, “The lights are out, you can do whatever you want to do and no one will ever know.” What they wanted to do with money in the dark varied. Americans wanted to own homes far larger than they could afford, and to allow the strong to exploit the weak. Icelanders wanted to stop fishing and become investment bankers, and to allow their alpha males to reveal a theretofore suppressed megalomania. The Germans wanted to be even more German; the Irish wanted to stop being Irish. All these different societies were touched by the same event, but each responded to it in its own peculiar way.

Lewis is an unmatched nonfiction storyteller, and a large part of his talent is the way he attaches his stories to the people who help him tell them. Nonfiction has a payload and a delivery system. In Lewis’s work, the delivery system is usually a man, a forthright contrarian who thinks clearly and talks vividly and whose dissent from the mainstream is not a matter of theory but of practice: Lewis likes people who don’t just speak against the conventional wisdom, but who bet against it, and whose bets come off. His first interlocutor, Kyle Bass, is a classic example. Bass is a fund manager who made a fortune “shorting” toxic mortgage assets, and then became preoccupied by the subject of global debt levels. Bass is, to put it very mildly, a pessimist on the subject of sovereign debt:

Spain and France had accumulated debts of more than ten times their annual revenues. Historically, such levels of government indebtedness had led to government default. “Here’s the only way I think things can work out for these countries,” Bass said. “If they start running real budget surpluses. Yeah, and that will happen right after monkeys fly out of your ass.”

The prognostications that ensue from Bass’s analysis are gloomy, and form the basis of Boomerang‘s big-picture overview. “The financial crisis of 2008 was suspended only because investors believed that governments could borrow whatever they needed to rescue their banks. What happened when the governments themselves ceased to be credible?”

Bass thinks that the only reliable investments are guns and gold, and has just bought twenty million nickels, because the metal in a five-cent nickel is worth 6.8 cents, and they are going to be a stable source of value when things go wrong. (If you’re wondering how easy it is to get hold of 20 million nickels, the answer is, not very.) There are many equally vivid pen portraits in Boomerang, usually of forthright contrarians: a super-frank German ex-banker, a doomsaying Irish economist, two Greek tax collectors who hate each other, and the former governor of California.

Schwarzenegger gives an interview while he and Lewis and several advisers go zooming through Los Angeles on their bicycles, part of the governor’s cardio routine:

He wears no bike helmet, runs red lights, and rips past DO NOT ENTER signs without seeming to notice them, and up one-way streets. When he wants to cross three lanes of fast traffic he doesn’t so much as glance over his shoulder but just sticks out his hand and follows suit, assuming that whatever is behind him will stop. His bike has ten speeds but he uses just two: zero, and pedalling as fast as he can….
It isn’t until he is forced to stop at a red light that he makes meaningful contact with the public. A woman pushing a baby stroller and talking on a cell phone crosses the street right in front of him, and does a double take. “Oh…my…God,” she gasps into her phone. “It’s Bill Clinton!” She’s not ten feet away and she keeps talking to the phone, as if the man is unreal. “I’m here with Bill Clinton.”
“It’s one of those guys who has had a sex scandal,” says Arnold, smiling.

Schwarzenegger’s economic adviser gave Lewis some of the facts of the economic scandal:

This year the state will directly spend $32 billion on employee pay and benefits, up 65 percent over the past ten years. Compare that to state spending on higher education [down 5 percent], health and human services [up just 5 percent], and parks and recreation [flat], all crowded out in large part by fast-rising employment costs.

Lewis writes that

the same fiscal year that the state spent $6 billion on prisons, it had invested just $4.7 billion in its higher education…. Everywhere you turned, the long-term future of the state was being sacrificed.

By and large, Lewis’s contrarians tend to be monomaniacs: they are people who have The Answer. It is a feature of the financial world, much remarked by Warren Buffett, that people would rather be wrong in a group than right on their own; the people who insist on being right on their own tend to have the psychological equipment to match. They are hedgehogs rather than foxes, eyes firmly on one big thing. There are times when Lewis himself is a little like that. Boomerang is unlike his previous books, in that it is a series of portraits of whole societies. A writer making society-wide generalizations is picking up a big and very full bag by a single handle; in that position, it’s easy to end up writing about the handle, because it’s the thing on which you have a secure grip.

For the most part, Lewis’s handles are fitted to the heavy lifting he makes them do, with the possible exception of his approach to Germany via the not-at-all unfamiliar idea that the country has a national obsession with excrement. He quotes the American anthropologist Alan Dundes: “Clean exterior–dirty interior, or clean form and dirty content—is very much a part of the German national character.”

That otherwise telling essay is about the state of the euro, a subject of immense importance at the moment for the entire global economy. Since its creation in 1999, the euro has accumulated enormous imbalances between the economies of its member states, with Germany in particular running a big trade surplus and the “peripheral” countries, mainly in Southern Europe, building up an ever bigger mountain of private and individual debt. “There was no credit boom in Germany,” an official told Lewis. “Real estate prices were completely flat. There was no borrowing for consumption. Because this behavior is totally unacceptable in Germany.”

It is, or should be, self-evident that this situation can’t continue forever, but the problem is that the Germans are showing no appetite either for becoming less German—i.e., paying themselves more, consuming more, and importing more—or for open-endedly bailing out the Southern Europeans. “The German people all know at least one fact about the euro: that before they agreed to trade in their deutsche marks their leaders promised them, explicitly, that they would never be required to bail out other countries.” That promise has already been broken, and is set to be broken many times more—though let’s not forget that these “bailouts” are actually loans that in principle must be repaid.

Unfortunately, the bailouts are only the beginning of what is needed to stabilize the euro. The Eurozone summit of October 27 saw the first three steps: a “haircut” imposing losses of 50 percent on creditors who own Greek government debt; a recapitalization of Europe’s banks, to the tune of €106 billion; and an extension of the European Financial Stability Facility (EFSF). Further down the road, some sort of federalization of European debt is surely inevitable. The likely step involves the creation of a eurobond, so that governments can borrow on a continent-wide basis, with continent-wide guarantees of security. Many consequences follow from that, not least, as George Soros has argued in these pages, the need for some sort of Europe-wide treasury to guarantee it.2 That in turn implies the creation of something like a new European ministry of finance, which must surely also have powers of collection and enforcement in relation to taxation.

  1. 1

    Norton, 2010; see Jeff Madrick, “At the Heart of the Crash,” The New York Review, June 10, 2010. 

  2. 2

    Does the Euro Have a Future?,” The New York Review, October 13, 2011. 

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