The crash in Republican economics

Not even George W. Bush or Alan Greenspan can sugarcoat America's financial meltdown. Will the next president seize the chance to rethink how we run our economy?

By Andrew Leonard

Read more: Andrew Leonard, Alan Greenspan, Wall Street, Stock Market, Economy, Opinion, 2008 election

Salon composite / AP Photo (Mark Lennihan)

An employee enters Bear Stearns on Monday in New York.

March 18, 2008 | "In a free market, there's going to be good times and bad times," said President George Bush in a speech at the Economic Club of New York on Friday. "That's how markets work. There will be ups and downs."

Whether you label them fatuous or wise, the president's comments are not off the mark. The business cycle is real; economies expand and contract; what goes up must come down. But the corollary, unmentioned by the president, is that such ups and downs have real political consequences. When a down cycle occurs in an election year, the incumbent party in the White House takes the heat. Conversely, economic growth is good for the powers that be. Just ask Bill Clinton in 1996, or Ronald Reagan in 1984.

The upward and downward blips that Americans have experienced in the past quarter century, despite their considerable impact on the profits of big corporations and the lives of real working people, don't amount to all that much when measured on a scale that spans centuries, however. Not for nothing have the past few decades been dubbed by economists as the "Great Moderation." The rich have gotten richer, the poor poorer, and the middle class relentlessly squeezed, but there have been no society-wide economic dislocations in recent years that match the inflation-and-unemployment miseries of the late 1970s, much less the outright disaster of the Great Depression.

Until now? Consider the following extraordinary commentary: Alan Greenspan saying, "The current financial crisis in the US is likely to be judged in retrospect as the most wrenching since the end of the second world war." Former Reagan economic advisor Martin Feldstein saying, "Could this become the worst recession we have seen in the postwar period? I think the answer is yes." Paul Krugman writing that the current situation "looks increasingly like one of history's great financial crises."

Even George Bush concedes that we face "challenging times," which, when judged against the standards of his usual rosy rhetoric, should inspire a wave of survivalist stockpiling that will make the great Y2K scare pale in comparison.

It is also worth noting that two of the assessments quoted above came before the startling events of this past weekend. The Federal Reserve brokered a bailout of Bear Stearns, an elite Wall Street investment bank that imploded after trading partners started to worry that the brokerage -- hammered by exposure to bad subprime mortgage bets -- could no longer make good on its contractual obligations. The Fed also took unprecedented steps to provide credit and liquidity to the global banking system. These extraordinary moves only underscore that we are witnessing historic events. And historic events have historic consequences. The current financial crisis may determine much more than which political party occupies the White House in 2009 -- it could (and may already have) remake the zeitgeist. The Great Depression of the 1930s spawned the New Deal. Will the Great Credit Crunch of today potentially restructure how government, the financial markets and the general welfare intersect?

Only if we really want it to. New York Times Op-Ed columnist Paul Krugman has been telling us for years that the policy pendulum is finally swinging in the other direction. Liberalism is no longer a dirty word, he thunders; it's high time for government to get back in the business of governing. He might be right. As we review the wreckage created by Wall Street's finest minds, it is tempting to entertain the possibility that the impulse to deregulate and privatize and "trust" markets to be their own best guardian -- that epochal reimagining of government launched by Ronald Reagan -- has finally run its course.

The bailout of Bear Stearns by J.P. Morgan, a shotgun marriage in which Federal Reserve chairman Ben Bernanke played the role of farmer's daughter's father, has excited a buzz of commentary about the proper role of the government in the economy not seen since the orchestrated rescue of Long Term Capital Management in 1998. Critics of Wall Street's relentless drive to innovate new "structured finance" products have long warned that these complex instruments have never been tested by a real shock to the system. The demise of Bear Stearns is an exclamation point on a sentence that declares: The shock is here. Now, Wall Street and the world are catching their breath, and wondering -- is the system about to crash?

In the case of Bear Stearns, some conservatives are worrying that the Fed's move will encourage "moral hazard" -- if Bear Stearns executives are allowed to escape public humiliation and financial ruin, executives of other investment banks may be encouraged to be even more reckless in the future, having now seen that they won't ever be allowed to declare bankruptcy. Some liberals would rather see Bear Stearns' fat cats out on the street, begging for spare change instead of simply switching bosses while the government ensures against default. But both sides are being drowned out by those who have a finer-tuned sense of what is really at stake.

The consequences of Bear Stearns' failing are simply too great to allow ourselves the moral satisfaction of watching the guilty and the greedy drown in their self-inflicted gore. If anything has been conclusively demonstrated by the past year of market follies, it is that the world's financial institutions are bound together more closely than they have ever been before in a web that is extraordinarily fragile. If one string unravels, the whole structure seems poised to disintegrate -- a process that will inflict pain on a far greater number of people than those who go to work in buildings on the southern tip of Manhattan.

Next page: Even Alan Greenspan acknowledges the scope of the disaster. What about the three presidential candidates?