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Alan Greenspan lit the fuse of the credit crisis
when he extolled the revolutionary virtues of the
'Net-and redefined risk and responsibility_
By PAUL KEDROSKY
Collision Course I Therise of the Internet and complexfinancial derivativesturned out to be a toxic combination.
cross this banker's mind that the average change of ... complex financial products
LCD-TV-buying consumer can't afford to on a global basis." In short, Greenspan
shell out $1,700 a month for a Bloomberg. saw that the tandem of the Internet and
But in a sense, he was right. The informa- fast computers were perfect for splitting
tion is out there-free, on the Internet. mortgages into tiny pieces, repackaging
The Internet has broadly delivered on them and then shunting them to yield-
its promise to bring information to the hungry investors across the country and
masses. All the information needed to around the world. But he should have
diagnose the current credit crisis-the lat- known it would create what his fellow
est and best information about the collaps- economists call an "agency problem": Re-
ing prices of mortgage securities, balloon- mote owners of teensy mortgage pieces
ing numbers in the subprime mortgage didn't police loans, didn't worry enough
market, bizarre behavior on the part of about loan quality, and were impossible to
bond rating firms and so forth-has been negotiate with should a loan become trou-
freely available to anybody who knows bled. They just wanted cash flow. And so
how to use Google. But what good is it all the fuse for a future credit crisis was lit.
if the data went unnoticed? To be clear, the Internet has done
For more than a decade the Internet At the peak of the many important and useful things for the
has been hailed as the great democratizer dotcom bubble, world financial system. Earnings calls are
of information. It was supposed to em- available to all comers, not just analysts;
power individual investors, make murky Greenspan saw an electronic trading has driven commis-
financial markets more transparent, and Internet 'revolution' sions to near zero; trading can happen
create a new generation of citizen in- wirelessly from anywhere at any time. In-
vestors who were free to put their savings in finance. vestors can track stock picks and stock
in everything from the S&P 500 to palm oil pickers on Web-based scoreboards. These
futures. It was supposed to shrink the innovations were long overdue. But by
world and turn it into a village, where view was Alan Greenspan. Most econo- accident, the Internet was also an enabler
everything happened in the public square mists now agree that Greenspan, as chair- of the current credit crisis. It brought us
and corruption and greed would have no man of the u.s. Federal Reserve, kept in- together, but it also did the reverse, creat-
place to hide. As the 1990s mantra goes, terest rates too low for too long. What's ing communities with narrow affinities.
"information wants to be free." The 21st less widely appreciated is his role as a These are often echo chambers where
century was supposed to be the culmina- technology booster. In March 2000, at the people can find others like themselves-
tion of this philosophy. peak of the dotcom bubble, he gave a scrapbook makers or train-spotters or
One of the biggest proponents of this speech about a revolution being built on builders of exotic new products for the
the Internet. It was transforming finance, now $668 trillion (not a misprint) deriva-
o Which
our bankshavebeenhit
listat hardest?View
xtra.Newsweek.com
he said, making it possible to "reallocate
risk" via the "creation, valuation and ex-
tives market.
At the same time, in making informa-
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26 GETTY Ii\IAGES. GETTY IM.-\GES, LARRY DOWNING-CO RBIS, TERRY ASHE- T1J\IE LIFE P1Cl'URES-GE'ITY IMAGES
1995: Blythe 2000: Green- 2007: BradyDougan
Masters of span persuades becomes the first deriv-
J.P. Morgan U.S.legislators to atives trader to reach
invents credit strip the federal the top spot of a major
default swaps, oversight agency bank.Whenhe became
a method of ofthe power to CEOof Credit Suisse,the
insuring against regulate the grow- companymade eight
--_..
loan defaults. ing market for trades about every four
derivatives. seconds.
tion free, the Internet has buried us in ments vastly exceeds our ability to under- like derivatives, is veiled in acronyms that
data, keeping most people from seeing the stand and value them, that is a very dan- make you want t{) gouge your eyes out.
building credit storm. Rather than turning gerous thing indeed. It behooves us to (Consider two different measures of the
the world into a global village of empow- pause and take a look at the forces that led performance of mortgage securities:
ered investors, the resulting data fog us here, and what we might do to prevent ABX.HE.AA.06-2 and ABX.HE.AA.06-
helped some Wall Street wiseguys hijack another occurrence. I-such lovely and lyrical names!) There
the global economy as easily as playing The information was out there, and is an entire language required to under-
videogames-with instant messages and this problem had been building for years, stand this new generation of financial
trillions of dollars in complex derivatives. so why did no one notice? Part of the prob- technologies, from credit default swaps to
The dotcom crash of 2000 and 2001 lem is that the relevant data, while avail- collateralized debt obligations to residen-
may have involved Internet stocks, but able on the Web, is spread around in a zil- tial mortgage-backed securities, not to
the underlying cause was old-fashioned lion places. You can go to Yahoo Finance mention the corresponding three- and
"irrational exuberance" (at least Green- to check the recent share price of Wal- four-letter abbreviations. There's also data
span got that one right). It was a kind of Mart, its market capitalization and its cur- on current account deficits and yield
adolescence period for the Internet. Now, rent sales. There is no one free place where spreads. Most people, faced with this
by contrast, we are in the midst of the first tsunami of data, do the only rational
financial crisis of the mature Internet thing: they give up.
age-a crisis caused in large part by the Perhaps $1 trillion The trouble with giving up, however, is
tightly coupled technologies that now un- that the world goes on without you. And
dergird the financial system and our soci-
in electronic swaps one of the obligations of being a citizen in
ety as a whole. are undocumented, a free society is vigilance-watching what
The fiasco raises important questions is happening in your neighborhood,
about how to regulate financial markets. If
unseen, like virtual whether it's financial or physical. A lack of
information is freely available, does that Post-it notes. regulatory oversight certainly played a role
mean the onus is no longer on Wall in the current crisis, but over-relying on
Streeters to tell the rest of us what's going regulators is a dangerous practice. Citi-
on? What role do regulators play in keep- you can do the same thing across subprime zens need to take responsibility. Apathy
ing tabs on all these complex financial mortgages, asset-backed securities, credit and indifference in the face of a complex
shenanigans? swaps and all the other arcana inherent in and fast-changing world is a path to ruin.
The Internet has made it possible for taking the temperature of modern global Nevertheless, if the Internet's data
anybody with an online brokerage account markets. Instead, you have to wander from smog has bludgeoned the average con-
and a broadband connection to become a site to site, sort of like building a jigsaw sumer into indifference, it has also enabled
global investor, but with that freedom has puzzle from disguised pieces strewn traders to act more swiftly and decisively.
come a great responsibility: to know what around an entire city. It is part treasure Traders, bankers and financial engineers
you're doing without relying on govern- hunt and part puzzle- building. have built up the mental shortcuts needed
ment oversight. And in a world where our That's not the end of the problems. In- to keep track of a hundred credit default
ability to trade exotic financial instru- formation about financial time bombs, swap spreads, or 10 favorite bonds to
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STEPHEN J. CARRERA-AP, SIGGl BUCHER-REUTERS-L-\.!"'DOV, ROBERT GIROUX-GEm" IMAGES 27
WORLD AFFAIRS
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pa index lost more than 11
game, and in doing so it has encouraged
percent, its biggest single-
and facilitated many risky behaviors, like ~~gc~ea;t~e~i~~~~~~il::~O~I~~;,
Dubai
day drop in a decade. The Dubai took
was aonstandout
debts that now ·..•
among 1
•' bankingsince
dollar system
some estimates close to a trillion dollars
is shielded by
in credit default swaps out there were ultraconservative lending are cooling,
created electronically and are now un- practices (credit accounts and the U.A.E. has announced
documented and little understood.
Think of them as virtual Post-it notes
for just 34 percent of GDP),
and inflation is pinned by
m~~~~r~;s
•
plans to inject $30 billion into ,'.
hawkish interest rates. Brazil crisis. For now
local banks though,
to avert a real
somewhere in the ether, waiting for I"
•'
the wonfell20 percent, as Koreans our personal-finance providers build us a
datedecline
began hoarding U.S.dollars in their better dashboard over the Web. We need
home safes, fearful ofthe globalmar- ,, , , something that lets us know more than
"ket swoons.Thefirst current account
deficit in a decade nowlookscertain. the balance of our 401(k)s, something
Andthe ghosts of '98 are back. that connects us to the ebb and flow of
live financial markets around the world.
It wouldn't be hard. No new technology is
required-people just need to demand it
(loudly). All that is required is our active
interest in making sure that the world
doesn't come down around our ears. We
are part of this system, and we need a
window into it.
One window must look in on what
goes on between traders-including in-