Where Caveat Emptor Still Stalks the Land

I am not generally the dullest knife in the drawer, but when it comes to the subprime, I-mean-credit, I-mean-whatever financial crisis, I often feel like one. I know a few facts, but can’t put them together in a satisfactory way.

Fortunately, for my ego, I’m not alone. Few people seem to understand it all.

One that comes closest is the recent article The End of Wall Street’s Boom by Michael Lewis, author of, among other books, 1990’s Liar’s Poker. I heartily recommend this for anyone wanting to better understand what went on at the heart of the storm.

If you believe there is something hopelessly twisted at the heart of the financial sector of the global economy, you’ll find some support here. The most telling story Lewis relates, I think, is that of a dinner that Steve Eisman had with a fund manager:

His dinner companion in Las Vegas ran a fund of about $15 billion and managed C.D.O.’s backed by the BBB tranche of a mortgage bond, or as Eisman puts it, “the equivalent of three levels of dog shit lower than the original bonds.”

[Eisman] had spent a lot of time digging around in the dog shit and knew that the default rates were already sufficient to wipe out this guy’s entire portfolio. “God, you must be having a hard time,” Eisman told his dinner companion.

“No,” the guy said, “I’ve sold everything out.”

In other words—‘no problem, I’ve unloaded the toxic waste onto my customers. I’m doing fine, thanks for asking.’

Let’s be clear. If your grocer sold you toxic milk for your child, would they say ‘no problem, I unloaded it onto my customer?’ How about your local pharmacist? Your auto dealer? Heck, if your local drug dealer sold you bad weed, wouldn’t he at least be embarrassed?

Those other industries at least have the good taste to be ashamed. In this sector–well, not so much.

There is a belief afoot in Finance Land, put well in the Financial Times by George Soros last January in Worst Financial Crisis in 60 Years Marks End of an Era :

Fundamentalists believe that markets tend towards equilibrium and the common interest is best served by allowing participants to pursue their self-interest.

As Soros points out, it’s simply not true. The current crisis was caused by markets, and (sort of, so far) mitigated by governments. I learned in business school the notion that competition leads to equilibrium is a bad economist’s dream: the real point of competition is to bash the other guy’s head in. Du-uh. The only reason it doesn’t reach end game more often is regulation—agencies, anti-trust laws, etc. which say “tilt” and “restart.”

I’ve met all too many people educated in our “best” schools who have come to believe that selling toxic waste to customers is a legitimate part of a noble, even moral, endeavor called ‘capitalism,’ founded by Adam Smith, tweaked by Ayn Rand, and quasi-guaranteed in the Constitution. The customers? Caveat emptor. It’s good for them. Culls the weak from the herd.

No, it’s not. It is simply selling toxic waste to customers, and it is despicable under any code of behavior within 10 miles of the word “ethical.” It is not even good capitalism.  Poisoning a customer is like selling your mother to pay the rent, or stealing the life preservers from your children on a sinking boat.

Congratulating yourself for doing it is simply beyond the pale.

How many banks and hedge funds who sold Bernie Madoff’s funds to their clients will offer to make good? To simply refund the commissions? Or—a novel thought—just apologize? There’s your caveat emptor at work, still stalking the land.