Financial Crisis

Theories of the Financial Crisis: Goldman Sachs Did It! (cont.)

[digg-reddit-me]To follow up on my initial piece: Joe Hagan in New York magazine addressed the various accusations and news stories about Goldman Sachs’ role in the economic crisis and its aftermath – and he had inside access to the top honchos at Goldman Sachs as they attempted damage control. Hagan seems to have gone into the piece fair-minded and, unlike Taibbi and other polemicists, tried to give the pro-Goldman side its due – but he still ended up summarizing the two takes on Goldman Sachs’s business model thus:

On Wall Street, there are two interpretations of this business model: Either the firm is so brilliant at making near-riskless bets that it continually attracts more clients, who don’t mind being used for the golden database if it means more profits for them—or it’s a giant casino in which the house has gamed the system by knowing every hand at the table and using that information to enrich itself at the expense of others.

Read Hagan’s whole piece – it’s quite good. It’s hard to see how these two models are different – except that on one hand, Goldman is seen as good for its clients; and in the other bad. Either way, for the market and country as a whole, what do they contribute? And how is it that a company can make so much money making “near-riskless bets”? In a real market, one couldn’t – because everyone else would be providing the same “near-riskless bets.” But Hagan provides an expanation – the presumption that Goldman Sachs uses its access to its clients portfolios and finances to become more knowledgeable about the market than almost any other participant. Which is why they saw the subprime mortgage fiasco coming and while still providing these mortgages, bet that they would lead to a disaster. Hagan quotes Peter Solomon – “chairman and founder of the investment bank Peter J. Solomon Company” – explaining how Goldman Sachs along with other Wall Street firms has an interest in creating unfree markets – all the better to profit from if one already has advantages:

The interest of the Street, dominated by Goldman Sachs, has been to have markets that are opaque, inefficient, and unregulated. And that’s been the policy for twenty years. That’s what the world is reacting to.

Hagan explains  Goldman Sachs is able to make money because it exploits the inefficiencies in the market – it profits not from free markets but from unfree ones. Hagan also quotes Joseph Stiglitz deriding the business model of Wall Street firms in general, and Goldman in particular:

“Much of their recent profits seemed to be derived from ‘trading,’ which typically means gambling—not lending,” says Joseph Stiglitz, the Nobel Prize–winning economist who teaches at Columbia University. “It is lending which is required if our economy is to be revived; it was gambling that got our financial system into trouble.”

Goldman Sachs’s outrageous recent success proves once again that it is a proud beneficiary of gambling and unfree markets – with the government taking any losses. No wonder people people are losing faith in the financial system.