11.29.08

Bob Rubin's House of Cards

How Rubinomics did us harm—and could yet do so again

The King may be dead, but do not entirely count out the legacy of former Treasury Secretary Bob Rubin. Rubin’s role in public life is forever blemished by the credit crisis and Citigroup travesties, but Rubinomics could well be revived to do more damage.

The recent blows to Rubin’s reputation must come as quite a surprise to his countless admirers who repeatedly echoed President Clinton’s description of him as the best Treasury secretary since Alexander Hamilton. Widely credited with restoring prosperity in the late 1990s, he left the Treasury in 1999 to join Citigroup as a high-ranking and well-paid adviser. But he was so visible at political functions, it seemed he barely had time to visit the office. Anyone with presidential aspirations sought his advice, including President-elect Obama.

The economic boom he was credited with was built more on debt and speculation than a sustainable foundation—and eventually spectacularly bad debt.

But the economic boom he was credited with was built more on debt and speculation than a sustainable foundation—and eventually spectacularly bad debt. Rubin had been in a position to subdue the Wall Street excesses, as was his number two, former Harvard economist Lawrence Summers, who later succeeded Rubin at Treasury. But they encouraged runaway speculation, sometimes by commission, but more subtly and devastatingly by determined neglect. The circumstances of the last few months now make responsibility difficult to evade.

To make matters far worse for Rubin, he joined the executive committee of Citigroup, which directly benefited from the Clinton administration’s deregulationist policies—punctuated finally by its signing of legislation that ended the New Deal restrictions preventing commercial banks from combining with and engaging in investment banking and related activities. There, Rubin restored some of his depleted bank account while insisting he had no operational responsibilities. He offered the same thin defense of his responsibilities in an interview published today by the Wall Street Journal, which reported he had earned $115 million at Citigroup since 1999.

But Citigroup, it turns out, contributed as much as any financial institution and more than most to the meltdown. And Rubin, it is now far more clear thanks to The New York Times investigation was at the heart of it in encouraging irresponsible investment practices without ensuring there was stringent risk management so that reckless managers led the banking giant to the brink of collapse. Citigroup, having reported about $65 billion in losses is being kept going with a $300 billion government guarantee of its assets, but it is not yet clear that it is free of trouble. It stock price is down 90 percent from its mid-2007 highs—and the scope of its misdeeds astonishing.

Rubin has slipped past tarnishing reports before. Citigroup was up to its neck in the Enron scandal. As the Wall Street Journal editorial page recently reminded us, he asked the credit agencies to keep up the ratings on Enron’s debt. The press quickly forgot it all.

In fact, Rubin has generated a lot of good will. He is an equable man who treats people fairly and has many friends. He is generally charming and self-effacing. He is not one to take enormous personal credit for the financial or political achievements of the organizations he ran, even as head of Goldman Sachs, his position before joining the Clinton administration. And few Democrats will forget how important he was to Clinton’s presidential victory, one of the rare powerful Democrats on Wall Street. It is probably wise not to bet too much against him.

Rubin may yet hear from irate shareholders and Citigroup clients seeking redress in the courts. But the larger question is whether his disciples can turn away from the over-simplifications of Rubinomics with enough vigor to set America on a sustainably prosperous path again. Many of those who had carried Rubin’s water in the Clinton administration will be in charge in the Obama administration, Larry Summers, in particular. The new Treasury secretary, Timothy Geithner, is a Summers protégé. Staffers from Rubin’s Hamilton Project, which issued centrist policy papers out of the Brookings Institution for the past three years, are in positions of influence.

Rubinomics rests on three legs: balancing the federal budget, a high dollar, and financial deregulation. Only the first made good sense but just temporarily in the wake of the Reagan deficits. President Clinton with Rubin’s help—Rubin was then head of the National Economic Council—got an income tax hike passed in late 1992. It contributed to falling long-term interest rates, but the causes of the boom to come in 1996 were various and included far more stimulatory Federal Reserve policies; dramatic reductions in the cost of computer power; and rapidly rising levels of consumer and business debt.

Economists and Clinton era officials (Alan Blinder, formerly vice chairman of the Federal Reserve Board and now at Princeton, and Janet Yellen, formerly chairman of the Council of Economic Advisers and now president of the San Francisco Federal Reserve,) put it in proper perspective in their book, The Fabulous Decade. Budget balancing and tax hikes, they argue, will not stimulate an economy on any regular basis. The Clinton tax hike simply came at an unusually propitious moment, enabling inappropriately high interest rates to tumble.

Under Rubin, budget surpluses soon became a Clinton administration obsession and that did damage. One number says a lot. Federal infrastructure spending as a proportion of the gross domestic product was lower in Clinton’s last year in office than in Ronald Reagan’s last year. Vital public investment was badly neglected under Rubinomics.

Rubin’s persistent support for a high dollar was always misguided. It placed manufacturing exports at a disadvantage, while enticing capital flows from foreign investors, which enabled Americans to borrow rather than save. The rising trade deficit could not last forever and, while the federal government generated overly prized surpluses, private debt dependent on low interest rates became the lifeblood of the American economy.

The final tragic principle of Rubinomics was financial deregulation, which mattered the most. In another fine piece of New York Times journalism, Peter Goodman reported how Rubin and Alan Greenspan joined together to stop the Commodities Futures Trading Commission regulating or even overseeing the financial derivatives that were the lubricating mechanism of financial excess—against the advice of the CFTC chair Brooksley Born. Again, when the hedge fund Long-Term Capital Management almost toppled Wall Street in 1998, neither Rubin or his team, nor Greenspan, asked for any new regulatory or oversight powers. They did not even ask for modest disclosure requirements. As Greenspan shied away from taking a look at Wall Street lending, Clinton never questioned him. To the contrary, Rubin supported Greenspan’s complete independence, as the law, if strictly interpreted, requires. But there has always been some ambiguity in the relationship between past Fed chairmen and the sitting president. The Clinton team eschewed even gentle questioning; they were largely in agreement with Greenspan’s deregulationist ideology.

Will Rubinomics come back? In our current emergency, the three legs of Rubinomics may appear to be fractured. First, the Obama team, casting aside concerns about a growing even enormous budget deficit, broadly favors bailouts of Wall Street and help for Detroit. Summers is now leading the charge for government programs of several hundred billion. He is even in favor of infrastructure investment, that he had resisted even as late as early 2008. So is Rubin, while serving Clinton he consistently vetoed serious money for infrastructure.

Second, the dollar is down significantly from levels of a year ago. Thirdly, President-elect Obama has also talked again about re-regulating Wall Street, though there are no concrete proposals on the table.

So Rubinonomics is down—but not out. Should we get beyond the current emergencies, it is not clear how motivated this team will be to forge the new policies we need. The to-do list is now very long and still more urgent: energy alternatives, infrastructure, pre-K education, K-12 reforms, a revitalized and efficient healthcare system, and imaginative strategies to raise wages in America. All this will not get done without truly robust government initiatives.

The Rubinomics holdovers may not be the ones to lead us there. They have been weaned on moderation. What we need is not moderation but bold intelligence, free of ideological limitations or past battles between Keynesian interventions and Friedmanite fantasies, and imbued with the kind of can-do spirit that motivated the New Deal and the Great Society. Not the same policies, mind you, because they are inadequate for our predicaments but the same spirit. There will be excesses and mistakes, and there should be every effort made to minimize them. But any government mistakes in the domestic arena will be modest compared to the catastrophe now taking place on Wall Street and spreading to every neighborhood in America.