Our Cabinet suffers from a serious paradox. It is hard to find leaders for important departments such as Defense or the Treasury. If they know enough about key issues such as Wall Street finance or defense procurement to be effective department heads, they often are too close to the industry to be objective in their decision-making.
This paradox will be key in future histories of the Great Financial Debacle of 2008. These will surely focus on why we let financial institutions like Bear Stearns and Lehman Brothers get so highly leveraged. Bear Stearns had borrowed $33 for every dollar of its own capital, and some hedge funds were leveraged even more. At this level, a 3 percent decline in the value of the firm’s portfolio wipes out its capital, and any further declines eat directly into its ability to repay its creditors.
Many critics point to the Securities and Exchange Commission’s 2004 lifting of its “net capital rule” for large investment firms as a step in the wrong direction. Before that, companies like Bear Stearns, Lehman and Merrill Lynch had been limited to leverage ratios of 15 to 1, at least in theory. Representatives of those firms lobbied intensely for looser standards.
Robert Rubin, Citigroup executive, former co-chairman of Goldman Sachs and former Treasury secretary, was one of the key pleaders for fewer restrictions. Another was the incumbent Goldman Sachs CEO and future Treasury Secretary Henry Paulson.
SEC Chair William Donaldson, a veteran Wall Street executive who founded Donaldson, Lufkin and Jenrette (and who would soon return to Wall Street), thought it was a fine idea. Although a couple of SEC commissioners expressed reservations, the vote in favor was unanimous.
While some note such firms had been able to use loopholes in the old rules to reach high leverage as far back as 1993, many analysts see the liberalization of this SEC rule as a key contributing factor in the meltdown last year of three of the five firms that most directly benefited.
Some wonder, only partly in jest, whether the nation can survive one more Treasury Secretary from Goldman Sachs.
The problem is that other approaches to filling the job haven’t worked well either.
Top executives of nonfinancial businesses have not distinguished themselves. Carter appointees Michael Blumenthal, who had headed Bendix, and G. William Miller, former CEO of Textron, were both duds. CSX head John Snow has a prominent place in the rogues’ gallery of those who stuck their head in the sand as the greatest bubble in 80 years expanded apace. And while Paul O’Neill, President George W. Bush’s first Treasury head and former Alcoa CEO, had sound ideas, he never had any clout in comparison with Karl Rove.
Presidents occasionally appoint an academic. The results have been mixed. Nixon appointee George Shultz, a University of Chicago labor economist who is one of the few people ever to hold three cabinet positions — Labor, Treasury and State — did a workman-like job. Harvard economist Larry Summers, who succeeded Rubin for the last 18 months of the Clinton administration, was seen as a great success in the glow of the dot-com boom, but history will show that some of his decisions contributed to the debacle that unfolded seven years after he left office.
The performance of veteran congressmen like Lloyd Bentsen under Clinton, John Connally under Nixon, Fred Vinson under Truman, Carter Glass under Wilson and even Minnesota’s own William Windom under Benjamin Harrison generally has been acceptable, if uninspired. But dullness may be better than some of the alternatives.
© 2009 Edward Lotterman
Chanarambie Consulting, Inc.