Hello Everyone,

I started writing these modest commentaries when Barack Obama announced his presidential candidacy, in part to make sense of that process for my own edification. Since the campaign, my attention has been less intense, but I continue to try to make some sense of happenings in Washington and in our culture more broadly. Here is my latest intermittent attempt. I apologize in advance for its unusual length. Much to say after the long respite.

Promises Kept

Last Wednesday was a momentous day. The financial regulatory reform bill – the latest of what some have called a “legislative hat trick” for President Obama – was signed into law by him. Two of these new laws – this one and health insurance reform – are considered historic accomplishments.

In that context, a recent front-page article in the New York Times caught my eye. The headline: “Obama Pushes an Agenda, Disregarding Polls That Disapprove.” It quoted one observer saying: “… [Obama] talked before the election about what he wanted to do, and he’s done it. He didn’t trim his sails, he didn’t change his philosophy.” The President was also quoted: “You know, these pundits, they can’t figure me out…They say ‘Well, why is he doing that? That doesn’t poll well…’ I know it doesn’t poll well. But, it’s the right thing to do for America.”

That’s my first point today. We have a president who is doing what he said he was going to do, without regard to short-term swings in public opinion. The professional pundits are finally starting to notice that President Obama’s “approval ratings” seem to be tracking unemployment rates, not legislative accomplishments, just like President Reagan’s did, as I wrote some time back.

In the same vein, I came across an interesting website recently called Politifact.com. You may know it. It won a Pulitzer in 2009. It tracks over 500 “promises” candidate Obama made during the campaign. So far, the site says he has “kept” 119 of them, while “breaking” just 19. Most of the rest are still “in the works,” while only a handful have been “compromised” or are “stalled.” Pretty impressive. Check it out for yourself, if you haven’t already.

Debt Addiction and the Financial Crisis

While it would appear that excessive risk-taking by the largest financial institutions triggered the current financial crisis, I think an argument can be made that the “addiction to debt” – which is pervasive throughout our society and that I have also written about previously – bears much of the blame. And, I mean pervasive – afflicting individuals, as well as governments and corporations. No politician dare bring this squarely to our attention lest he or she be attacked for “blaming the victim.” But it’s true – the blame is virtually universal.

Many citizens in this country use multiple credit cards to borrow at usurious interest rates, incur mortgage debt to buy houses they know or should know they can’t afford, and then borrow on top of that using second mortgages (innocuously marketed as “home equity loans”), all the while saving preciously little or nothing at all, net of debt. Understandably, many use debt to compensate for little or no income growth. But, when economic hard times inevitably reappear, they have little cushion to soften the blow. And, in an incredible display of hypocrisy, many who have long been addicted to debt all of a sudden awake from their stupor and demand that governments “live within their means.” An amazing sight to see.

There was a piece in the Times several days ago that inadvertently – and somewhat pathetically – amplifies my point. Under the headline, “The Rich Catch Everyone Else’s Cutback Fever,” it remarkably bemoans the fact that the economy has recently lost momentum because high end consumers’ negative savings rates have flattened out. Perverse logic indeed.

Crises Are More Frequent Than We Think

Some of you may have read This Time is Different, by economists Carmen Reinhart and Kenneth Rogoff. They have documented financial crises in 66 countries over the last 800 years. I take away three key points from the book: 1) crises are more frequent and unpredictable than we care to admit, 2) in today’s globalized economies, crises in other countries quickly reach our shores, and 3) financial crises are inevitably exacerbated by debt.

As a result, it seems clear that we Americans need to kick our addiction to debt. If we do, it will mean that economic growth – and job growth – will be slower for some time. But, we can’t expect our government to perform miracles by simultaneously creating jobs and cutting deficits. It can’t happen.

The foundation for the 2008 financial meltdown may have been laid in 1982, when then-Treasury Secretary Paul Volcker broke the back of The Big Inflation. This set the stage for a long bull market in the U.S., marked by small crises and rapid rebounds. That bull market, partly fueled by a long decline in interest rates, came to an end in 2000 when the technology stock bubble burst. With another quick rebound and artificially low interest rates, the illusion of prosperity persisted into 2007.

The financial world “escaped from its box” in the early 1980’s, as Michael Lewis, the author of The Big Short, put it. I remember it well since I made Managing Director at Merrill Lynch about that time. That escape culminated in the repeal one of the last vestiges of effective Wall Street regulation in 1999, during the Clinton administration no less.

Over that nearly two decade period, we were lulled into financial complacency, believing that prosperity and stability were the norm. In fact, as Reinhart and Rogoff argue, we live in an inherently volatile world.

One proxy for that volatility is the stock market. Over the past 45 years, the average annual return for the S&P 500 approximates 9%. But, the standard deviation was 18 percentage points, or a range of returns from -9% to +27%. Volatility is, in fact, the norm, not the exception. We should all plan for that.

Mistakes We Make

On the heels of our most recent financial crisis, I wrote about the problems caused by an “Other People’s Money” mentality – the willingness of financial actors to take out-sized risks with money not their own.

As the aftermath of the crisis lingers, I have also come to realize how we humans are innately reluctant to take responsibility for our own mistakes. There seems to be a parallel to the Other People’s Money phenomenon – the “Someone Else’s Fault” syndrome. As in, someone else caused this financial crisis; I had nothing to do with it.

A few weeks ago, I first heard about a psychology book that sheds some light on the Someone Else’s Fault syndrome and the current wave of what might be called the “politics of anger.” Mistakes Were Made (But Not By Me) was published in 2007 by two social psychologists, Carol Tavris and Elliot Aronson. The latter is apparently quite prominent in the field. Some of you have undoubtedly read it.

It explores the theory of “cognitive dissonance” – the psychological discomfort that occurs whenever a person tries to simultaneously hold two or more contradictory opinions or ideas. One way to relieve the tension caused by these contradictions is to blame someone else for a predicament which is, at least in part, of your own making – usually accompanied by indignation or anger.

Think of a Tea Party member up to his or her ears in personal debt lambasting the federal government for an increase in the national debt resulting, in part, from the tax cuts and two wars he or she favors. Consumers need to improve their balance sheets – more savings, less debt. Yet, a consumer-driven economy (estimated at about 60% of GDP) cannot quickly return to job-producing growth rates, without high levels of consumer spending. We need to both save and spend. Dissonance.

Insistence on job creation, on the one hand, with fierce aversion to government debt, on the other, so no further stimulus. Dissonance. Reduction of governmental deficits and debt, on the one hand, without cuts in Medicare and Social Security or increased taxes, on the other hand. Dissonance. Small- government, pro-drilling Gov. Bobby Jindal angrily demanding that the federal government fix the oil spill. Major Dissonance.

Mistakes Were Made asserts that the psychoanalytic belief in catharsis – expressing anger relieves frustration – is incorrect. Research shows that anger usually begets more anger. I believe that the Tea Party movement and its ilk will realize that angrily dismissing incumbents will not solve their cognitive dissonance, and will probably only aggravate it. “Irrational vituperance,” to coin a variation on a well- known phrase.

One remarkable exception to this rule is a private investment partnership in which we invest. It is managed by Larry Pidgeon who chose to name his firm “CBM Capital” which stands for “Coke Big Mistake.” This is for him a constant reminder that he should have invested in Coca-Cola when he first analyzed it in depth in the 1980s when it was dirt cheap. Admitting a big mistake. No dissonance there, just a role model.

Avoiding My Own Dissonance

One of the phenomena associated with cognitive dissonance is self-justification – the need to rationalize in order to be consistent. I am aware that some of you think that I suffer from this condition as I cling to my high opinion of our President. Fair enough.

How do I deal with my own potential sources of dissonance and self-justification? Let’s start with deficits and debt, which I agree are a problem, although not largely of this president’s making. Contrary to my self-interest, I achieve consonance by believing that tax cuts for higher-income folks should be permitted to lapse this year and the estate tax reinstated. Likewise, I think that Social Security and Medicare benefits should be income-adjusted to reduce the deficit.

I support the President, but don’t agree with him on every front. For instance, I agree with Roger Altman, a former Treasury official, that the administration can be seen as hostile to business. Although I think that perception does not conform to the record, I do agree that the “no business seat at the table” criticism has some validity and have told the President’s advisers that. Altman writes: “…no important member of [this] administration has ever met a major payroll. Such an absence of business experience in a presidential administration is unique in recent decades and carries negative connotations; certainly no other comparable interest group is so unrepresented. This could be remedied by recruiting a senior industry figure for one of the four or five key economic policy positions…Another problem is that the administration’s rhetoric… has the effect of tarring all of business with the same brush. The White House might better distinguish between Wall Street, Big Oil and health insurers, which have all incurred public wrath, and the majority of businesses, which haven’t.”

I am trying to avoid the trap of cognitive dissonance and self-justification. I’m sure that you will continue to remind me when I fall short.

A Way Forward: Focusing on the Long Term

Lest we despair, my favorite conservative pundit, David Brooks, once again came to the rescue this morning. He writes:

It occurs to me that the Obama administration has done a number of (widely neglected) things that scramble the conventional [political] categories and that are good policy besides…championed some potentially revolutionary education reforms…increased investments in basic research…promoted energy innovation…invested in infrastructure — not only roads and bridges, but also information-age infrastructure.

These accomplishments aren’t big government versus small government; they’re using government to help set a context for private sector risk-taking and community initiative…They also address the core anxiety now afflicting the public. It’s not only short-term unemployment that bothers people…Americans fear we’re a nation in decline.

What would happen if Obama sidestepped the fruitless and short-term stimulus debate and instead focused on the long term? He could explain that we’re facing deep fundamental problems: an aging population, overleveraged consumers [emphasis added], exploding government debt, state and local bankruptcies, declining human capital, widening inequality, a pattern of jobless recoveries, deteriorating trade imbalances and so on.

These long-term problems, Obama could say, won’t be solved either with centralized government or free market laissez-faire. Just as government laid railroads and built land
grant colleges in the 19th century to foster deep growth, the government today should be doing the modern equivalents.

The Chinese seem to have figured this out. It is time we do, too. Please, as always, pass it on. Chuck


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