Book Review: "Deception and Abuse at the Fed"

By Tom Kaufman and Christian Hudson

Originally Published in the Santa Cruz Sentinel: 07/27/2008

Foreclosures in record numbers, inflation worries, a stagnant stock market ... Ask yourself: Have you seen a newscast in the past week that doesn't mention the Federal Reserve Board?

That's because the Fed is very much the 800-pound gorilla when it comes to righting our country's financial ship. But we're willing to bet you really don't know much about the Fed, and that's because historically it likes it that way.

That's why Dr. Robert Auerbach's new book, "Deception and Abuse at the Fed," has perfect timing. Auerbach served for more than a decade as an economist on the House of Representatives' Banking Committee [now Financial Services Committee] under then Chairman Henry B. Gonzalez. [Full disclosure, Auerbach has been a long-time friend, source and adviser in the ways of both Washington and economics for one of the column's authors.]

It is former Fed Chairman Alan Greenspan who takes center stage in Auerbach's critical look at the Fed's actions over the years. Perceptions ebb and flow in waves and the sea may be leaving Greenspan's reputation on somewhat rockier shoals of history. In part, this may be due to Auerbach's detailed account of skirmishes between then-chairman Greenspan and then-chairman Gonzalez.

The skirmishes pitted an ever-aggressive populist with little patience for the perceived imperial Fed in Gonzalez versus Greenspan's protection of the Fed's cherished independence.

The depiction is certain to dim the luster of the Greenspan years and bring into question the role of the Fed. More importantly for Greenspan, the book questions his political role in the Bush tax cuts and not preventing some of the abuses that have led to bubbles and the recent economic distress first arising out of the subprime market.


The book makes the case that for 17 years, the Fed insisted there were no records of the meetings of the famous "Federal Open Market Committee," which sets Federal Reserve strategy. Dogged determination by Gonzales forced the Fed to admit that there were actual transcripts going back to 1976 and they were eventually released. In other words, journalists and market watchers should send Auerbach a thank-you note pushing them into the light.

Greenspan was an unparalleled master of the media, and Auerbach asserts that as the "Master of Garblements" he manipulated congressional hearings and the press to achieve his desired results. Auerbach also argues that the Fed has brilliantly insulated itself from criticism by gobbling up able-minded economists out of academia with plum contracts.

Knowing the world would dissect his every word, Greenspan became a zen master at vague descriptions that left open an incredibly wide range of interpretations. At one session, four eminent newspapers had four different headlines on the same answers given by Greenspan: "Greenspan Sees Chance of Recession," "Recession is Unlikely, Greenspan Concludes," "Recession Risk Up, Greenspan Concludes," and "Fed Chairman Doesn't See Recession on the Horizon."

But this book highlights more than just Greenspan and his legacy. It sets forth the challenges that Congress faces in dealing with the Fed. The Fed needs to remain independent, but it is Gonzalez's premise, and apparently Auerbach's too, that it is unacceptable for an unelected body having vital control over the U.S. economy to be able to operate in secrecy without disclosing to the public its entire decision-making process. Auerbach's book, while focused on Gonzalez's victories with the Fed, is invaluable to anyone who cares about the economy and the at-times guerilla warfare between Congress and the Fed as they both grapple with what's best for the American economy.


Tom Kaufman is the Capital Markets Committee Chairman for the American College of Real Estate Lawyers.

Christian Hudson, a former Santa Cruz resident, now practices law at Hunton and Williams LLP in Washington.

Mortgage/Credit Crisis Doesn't Spur Change in Banks' Ability to Hide Assets

We can almost guarantee that you didn't pause as you passed by this New York Times headline, "Accounting Board Delays an Asset Rule." That's truly a bummer. We wish this important article had this headline, "Companies Still Allowed to Hide Assets in Wake of Credit Crisis." We think that would have caught your attention.

Here's why you care: Read the article and ask yourself if this is the type of regulation that will help bring confidence to investors - and thus more investors back to Wall Street?

So now that you're asking yourself - why on earth are the Banks getting a pass for another year? The answer is essentially this: If banks had to account for all of their assets this year given how bad the market is, it would force them to raise even more cash when they are all trying to do that just to get buy.

The Washington Post has interesting quotes from the folks that decided to let the banks get by for another year. What's most interesting is how conflicted and angst ridden their comments are.

Here's another reason why you care: If it is a big deal to the reluctant rule makers, it should be a big deal to you.

Reading the Tea Leaves of the Power Players

We think the one article that you probably didn't read but really should is the New York Times story about an investment firm (Lone Star Funds) taking advantage of a down market to buy mortgages at bottom basement prices. Lone Star Funds is interesting for a couple reasons: 1) They bought Merrill Lynch's mortgages at fire sale prices; and 2) they made money during the Savings and Loan debacle years ago.

Here's why you care: As we've said before, right now is like an after Christmas sale for the financial and real estate inclined. That can mean Lone Star Funds, or other firms we've pointed to in the past. What they all have in common is that they saved their pennies, and didn't get soaked when the bubble burst. If more of these actors are coming on the stage then hopefully it means things are getting back on track.

A sign they are not? Well, that would be the Federal Reserve's move to extend until January the ability of Wall Street firms to get emergency overnight loans. Basically, this is what the Fed did because of Bear Stearns. (We pointed out a great explainer piece on the Fed the other day). They say if things get better before January, then they'll pull back. Why you care is because it helps Wall Street feel a little more confident given the trouble waters.

And here's why you care again: If you have investors picking up the scraps, and the Fed helping the banks - those are both good signs given your property value.

Obama, Bernanke and 16%

As Why You Care noted for you last week, three times as many people say the economy should be the government's first priority over terrorism. That's why both Sen. Barack Obama and Sen. John McCain are out and about talking everything from jobs to oil. We noted that you'll see more of this. The Wall Street Journal reports that Sen. Obama is meeting with Federal Reserve Board Chairman Ben Bernanke today.

Here's why you care: First come the meetings, then come the policy statements. Get ready for lots of coverage of Sen. Obama's - and Sen. McCain's - economic game plans. That's good, we just want clear details so we can have something to analyze. And remember, this is all within the context of a report showing that home prices drop almost 16% from this point last year. (Even more interesting is the market to market analysis - that's why you care about this report).

The Warning Sign: Lending Pendulum Changes Course - How Extreme Will it Get?

Chances are you actually saw this article today given it was on the front page of the New York Times. We just hope you took a moment and didn't dismiss it as, "If it is Monday, there must be another bank related headline".

Here's why you care: The Times perfectly lays out just why the tightening of credit (aka the ability for a business to get a loan) is creating financial constipation. The squeeze on the small business owner means he can't get the loan to do his next thing. That next thing means expanding and hiring another worker. That means one more person who could have had money in his pocket. And so on, and so on...

There are those that say, nah, don't worry about the business, they'll take care of their own. We say, nah, don't ignore the warning signs. The lending pendulum swings both ways, and this story illustrates the flip side of not having money available.

In other words, we're talking about all of our collective jobs.

Three Times As Many People Say the Economy Should be Priority #1 for the Government as Terrorism

What a difference a housing crisis makes. The latest Wall Street Journal/NBC poll out today shows that three times as many people say the federal government should make jobs and the economy the first priority as terrorism. The numbers have been trending that way for a while, but wow.

If you dig into the poll you'll see that jobs/economy had 23% to terrorism's 8%. What's more eye opening is that if you combine jobs/economy with the next highest response which was energy/gas price at 20% then you end up at 43%. That's over five times more than terrorism.

Here's why you care: You may say, ok yeah, but polls are polls. Nah, the poll is about you, but why you care is because of who reads the polls: Politicians. They are reading and they are listening. That's why former Navy pilot/Senator/Republican Presidential Candidate, John McCain gets treated in the Politico to this headline: "McCain Struggles to Overcome Economy Gap".

In short, there will be many stump speeches from both Sen. McCain and his Democratic rival Sen. Barack Obama on the issue of economy. The key will be to look past the headlines, and really consider the outcomes of their proposed policies. Why You Care is looking forward to more details from both of their camps.

You can count on us parsing the verbiage. In the meantime, look at the both of the pending VP picks and ask - hmmmm, did concern over the economy play into this?

Not Only is Your House Worth Less, You're Gonna Pay Higher Taxes (for Everything)

Do you feel a squeeze? You probably said, yeah. Well, what you may not realize is the domino effect the mortgage mess has on everything else connected to your wallet. The Wall Street Journal has a terrific explanation as to how the first domino of the mortgage mess kicks off a cycle.

Step one: Defaulting mortgages bring down home prices.
Step two: Consumers pull back on spending for fear of rising prices and or their jobs.
Step Three: Less homes sold, cars sold, etc. means less tax collected by the states.

Here's why you care: The states HAVE TO make up that money as the Wall Street Journal rightly points out because many of them have to balance their government checkbook.

THAT MEANS they take a multiple choice test:
A) Raise taxes
B) Raise prices on the things your state does for you (like transportation or community college).
C) Cut back on things the state provides (everything from the Park Ranger to health care).

But there's something that is going to make it feel like a double whammy. That something is those bonds we talked about a week or so ago and pointed to another Wall Street Journal article that deserved more attention.

Why you care is because when the state wants to do things it gets a bond. When the market is tight that means the state pays more. And, if the state has less money, but paying more over the long haul it is the equivalent of the state taking a credit card balance and pushing on a new card with a higher rate but over a longer period. In other words, it will cost more money. That's your money, and you'e gonna pay for it either in choice A, B, or C.

Now do you feel squeezed?