Financial hindsight has 20/20 vision

Hindsight has 20/20 vision and now we can see who was right and who was wrong on financial matters.

When Michael Lewis looks back on the Wall Street he wrote about in his 1989 best-seller, Liar's Poker, the street looks positively quaint. At the time, it was shocking that an investment bank CEO made $3 million a year.

His newest book, Panic: The Story of Modern Financial Insanity, is a collection of essays and articles written during the past two decades. As Lewis tells NPR's Renee Montagne, it begins with the crash of October 1987.

"It seemed to be the first of a new breed of financial panic, and it was panic without any seeming economic consequence," Lewis says. Since then, "the financial market seemed to be able to convulse in the most extraordinary ways without most people ever really feeling very much. And the lessons people seemed to learn … was that, well, markets do these crazy things, but in the end they don't really matter."

A New Kind Of Crash

The current crash is different — very different. Lewis says he didn't appreciate its distinctions until he began doing research four or five months ago. "The size of the problem is massive," Lewis notes. "Not only did trillions — trillions — of dollars get lent to people who won't be able to repay them, but Wall Street at the same time created a market in side bets about whether these people would be able to repay their loans. And that market in side bets is tens of trillions of dollars."

Where did those dollars go? Most "went to building a lot of houses that we can't afford," Lewis says, pointing to McMansions and other "unproductive assets."

But substantial money also went to "people who took the other side of the bet, and a lot of those people are lying low because they're not going to be so popular," Lewis says. "The biggest sum of money ever made by a single person in the history of Wall Street was made last year by a hedge fund manager named John Paulson, who made almost $4 billion for himself because he took the other side of the bets. … Big money has been made, but by very few."

The cycle of soaring profits and crashes that began in 1987 is unlikely to continue, Lewis contends.

Diminished Interest In Risk Likely

"There will still be people who will take big risks and earn big returns in the financial markets, but they won't be working at places called banks," Lewis says. "They may be working at hedge funds or in private equity, but that will be a much smaller operation and, in general, the appetite for risk will be dramatically reduced. I don't think, going forward, you will see people working at a place called Goldman Sachs taking home $70 million or $80 million at the end of each year, which they have done in the past."

Such earnings are unwarranted, Lewis says. "One of the madnesses of the last 25 years … has been the rewards we've bestowed on financiers," he says. "The people who have actually been allocating the capital on Wall Street have done a rather bad job of it. … The idea that these are essentially the highest-paying corporate jobs in America, by far, seems to me insane."

The 'Distorting Effect' Of High Earnings

Those rewards have had "a really distorting effect" on society, Lewis says, creating a new norm for personal financial rewards for CEOs of all stripes. "That's going to be gone."

Disproportionate earning has another negative effect, luring young people who could contribute to society in other ways, Lewis says. "It distracts lots of young, passionate people from doing the things they probably should be doing."

A few months ago, Lewis visited Princeton University, his alma mater, "to find out what the kids who were going to be investment bankers were now going to do with their lives." He says he was "so frustrated with how unimaginative young people had become in choosing their path in life that I thought that someone should establish a kind of 'Scared Straight' program for Ivy League students." He'd require them to spend a week with a hedge fund manager in Greenwich, Conn., "just to see how miserable" they'd be after 20 years.

The plunging market has changed many of their plans, Lewis says. "The kids … who thought they were going to be financiers are having to rethink the premise, and that's a very good thing."

Mr Doom, aka Peter Schiff, is an economist from the Austrian School of economics. I have come to understand that the people who use Austrian theories to support their economic predictions have a much better track record than others and especially those who follow Keynesian policies, even in so-called 'modernised' form.

He is not at all confident that the next 5-10 years will be anything but slow and hard.

I think that the appointment of Tim Geithner as Treasury Secretary and Larry Summers as a chief economics advisor will lead to egregious, New Deal style attempts to stimulate the economy, which will simply kick the fix-the-underlying-structure can down the road and ensure that Schiff's predictions come to pass.

On this point I don't blame only Democrats.

I think that John McCain would not have appointed people who would have made different decisions.

There is still a lot of pain to go through.

(Nothing Follows)