Great Minds

"Capitalism is a system in which the central institutions of society are, in principle, under autocratic control. Thus, a corporation or an industry is, if we were to think of it in political terms, fascist, that is, it has tight control at the top and strict obedience has to be established at every level... Just as I'm opposed to political fascism, I am opposed to economic fascism. I think that until the major institutions of society are under the popular control of participants and communities, it's pointless to talk about democracy".

Noam Chomsky

"The tyranny of a prince in an oligarchy is not so dangerous to the public welfare as the apathy of a citizen in a democracy".

Montesquieu

I can't approach the eloquence of Montesquieu or Chomsky, but there is a connection between these two thoughts that I don't think speaks for itself.

There is in America today an unprecedented amount of economic freedom. I can buy shares in a corporation, claiming a bit of their profits. But more importantly, I can start my own corporation - with incredible ease. All I need do is apply for a business loan. (There are definitely complexities and difficulties involved in that, and I have little knowledge of them, but I would be absolutely shocked if they were not fewer and less severe than those of my forebears.) If our liberal, progressive ideas are so great, put them in to action! And I do not mean to say that our ideas are not great - I mean that we should put them into action. The corporate system is deeply flawed, what is unique about today's situation is that we have the opportunity to participate in it. And thus the connection: in as much as commerce has been democratized, along with politics, the onus lies on the citizen. If we find the status quo repulsive, how can we blame its authors when we hold in our hands the pen and in our guts the ink?

Brevity will, I hope, leave the artistry of those two scholars somewhat intact. The issue is complex - corporations hold power, government may play for the status quo, the profit rule itself raises serious considerations. But consider those two thoughts, and the space between them.

Efficient Markets - the Lehman Example

A letter in today's Financial Times gave a good example of why the efficient market hypothesis is a load of crap:

Lehman Brothers senior secured debt is trading at 15% of face value, while at the same time Lehman equity is going for 15 cents a share.

What does that mean? Senior secured debt-holders get paid back completely before stockholders see a cent. So if Lehman's stock is worth anything, its senior debt should be worth 100% of face value. The two prices are in complete disagreement.

Lehman is an extreme example, but it raises an important point: the dynamics of any particular market can have as much effect on price as the "available information". If demand is low and supply is high, prices will drop. At the same time, if prices are bordering on free, the prospect of making a quick buck will push someone to gamble. This is only one way that markets can be made inefficient, but you only have too look as far back as the bankrupting of Lehman in the first place for another one.

LTCM and the Financial Crisis of 2008

Nearing the end of When Genius Failed, it is striking to me how similar the situation Long Term found itself in resembles the crisis which Wall Street was bailed out of in late 2008. Both could not find buyers for the assets they needed to sell, just as both found their capital stores diminishing rapidly. In 1998, Long Term found itself losing money on almost all of its trades. The marks that they valued their assets were dwindling, fast, and any attempt to sell only lowered those marks further. In 2008, banks started building up losses on their securities, mortgage-backed ones most dramatically. Long Term believed whole-heartedly that once markets moved past their panicked aversion to the types of assets the firm was losing on, prices would return to more typical levels and their losses would be recouped in part or whole. The problem they faced was that those losses were accumulating so quickly and widely that their capital was vanishing, pushing them rapidly towards insolvency. Wall Street experienced an identical problem: as assets declined in value, they booked huge losses regardless of whether they sold. Hence the capital infusions of the bailout.

To be continued.