In fairness to Pandit, one should note that he only took on Citigroup's mess about a year ago. Still, his protests that the steep decline in real estate prices that undermined banks' balance sheets couldn't have been foreseen because real estate prices have historically always gone up is unnerving. Is that what they call "analysis" on Wall Street - "Duh" - prices always go up"? I recall a taxi driver in San Diego who, in about 2005, gave me a lecture on the intolerably high ratio of mortgage payments and rentals to average disposable income in California and predicted that housing prices there would crash "big time" soon. Were Wall Street Boards of Directors and CEOs who earn three to four times as much in a day what taxi drivers earn in a year totally unaware of these standard analytic metrics?
Rubin, too, now opines that the problem is the "buckling financial system" without acknowledging forthrightly that Citigroup was a major player in making the system buckle. According to The Wall Street Journal, as chair of the executive committee of Citigroup's board, "Mr. Rubin was deeply involved in a decision in late 2004 and 2005 to take on more risk to boost flagging profit growth." That is, he decided to invest in additional risky assets when Citigroup's debt-to-asset ratio was already 93 percent. Risky assets offer higher rates of return than safe ones when things go well, especially when they're bought with cheaply borrowed funds. But these assets can tank in value when the cash flows that give them value decline. When the total market value of a firm's assets fall below the total debt it owes - the debt-to-asset ratio exceeds 1 - the firm is technically insolvent, and at a debt-to-asset ratio of 93 percent it does not take much of a decline for insolvency to occur. Hence the need now for the government to guarantee the value of some $306 billion of Citigroup's risky assets at artificially high levels and to inject $45 billion of cash outright into Citigroup, without any real control by the government over how that money gets used.
Asked if he has any regrets, which one might think he might, Rubin is quoted as responding: "I guess that I don't think of it quite that way. If you look back from now, there's an enormous amount that needs to be learned." But what exactly should be learned now, and by whom, that any properly trained financier should not have known all along?
Finally, Rubin rejects any notion that he personally played a role in Citigroup's debacle with the observation that "nobody was prepared for this [calamity on Wall Street]." That, of course, is literally true. No one on Wall Street was prepared for the morass into which the directors and CEOs marched in lockstep. But Robert Shiller of Yale predicted it, as did Nouriel Roubini of New York University and as did Princeton's own Paul Krugman, along with many others both here and abroad. "I wouldn't run a financial institution based on someone's view about what markets would do," Rubin protested with some hauteur. Perhaps he should.
As someone who has always respected and liked Mr. Rubin, I am saddened and alarmed to see him quoted thus. Alarmed, because U.S. Treasury Secretary Henry Paulson and Federal Reserve Chairman Ben Bernanke still look to Wall Street's CEOs to lead us out of the economic swamp into which they have led us. Like religious fanatics throwing money at a golden calf, the Paulson-Bernanke duo now throws hundreds of billions - and before long, trillions - of taxpayers' dollars at financial institutions, hoping to make executives to do what they are supposed to do: efficiently and prudently channel money from savers to the usually prudent business people on Main Street.
Wouldn't a better approach be to put in place a government lending facility by which taxpayers, through the offices of a trustworthy new government agency, can make loans directly to Main Street, rather than mindlessly throwing money at Wall Street's golden calf? This is the restructuring we need. Perhaps some smart Princeton undergraduate can work it out in a senior thesis.
Uwe E. Reinhardt is the James Madison Professor of Political Economy and a professor in the Wilson School. He can be reached at reinhardt@princeton.edu.
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