In the ongoing speculation on who will replace Ben Bernanke as the chairperson of the Federal Reserve, it appears to be a two-horse race, with Larry Summers, former Treasury Secretary under Bill Clinton, and Janet Yellen, currently second-in-command at the Federal Reserve, vying for the position. The appointment will determine who takes over the reigns of the central bank in 2014.
CNBC reports that barely 5 years after the 2008 financial collapse, Obama favors Summers, one of the architects of financial deregulation — a policy that many economists believe contributed to the 2008 financial downturn that wiped out a reported $11 billion in personal wealth and threw millions out of work.
The Financial Crisis Inquiry Commission found in 2011 that this crisis was entirely avoidable and was made possible because of “shoddy mortgage lending, the excessive packaging and sale of loans to investors and risky bets on securities backed by the loans.” Regulators, powerless to stop risky and borderline fraudulent investments, watched as markets crashed and millions of homes eventually were foreclosed.
Deregulation of derivatives
Summers, an architect of financial deregulation under Bill Clinton, lost $1 billion while serving as President of Harvard University from 2001 to 2006 and as a member of the Harvard Corporation, which handles investments for the Ivy League institute.
He approved a corporate investment of $3.52 billion in financial derivatives investments. By 2008 those investments had lost the school roughly $1 billion, a loss that Vanity Fair declared the “worst financial implosion” in Harvard’s 373-year history.
The university isn’t hurting for cash at present, boasting a $30 billion endowment as of 2012, the largest endowment of any U.S. college or university, according to rankings published by the National Association of College and University Business Officers and Commonfund Institute.
What are these derivatives that led to Harvard’s billion-dollar loss? A derivative is a contract created to dictate the terms of payment between two parties. The derivative’s value is determined by the commodity being traded. These type of assets are far more uncertain than a standard investment in the stock market and are prone to speculation.
Sound familiar? It was speculation on derivatives of defaulted mortgage swaps between banks that inflated banks’ risk portfolios beyond their cash-in-hand, leading to the 2008-2009 mortgage crisis.
Big risks could lead to big rewards, but eventually they gave way to big collapses both in terms of Summers’ derivatives investments at Harvard and the years of similar investments on Wall Street leading to the 2008 financial downturn. When that house of cards came crashing down, President Obama vowed to increase regulatory oversight — but years after the financial downturn, he may soon hand over the reigns to Summers.
“Unscrupulous lenders locked consumers into complex loans with hidden costs. Firms like AIG placed massive, risky bets with borrowed money. And while the rules left abuse and excess unchecked, they also left taxpayers on the hook if a big bank or financial institution ever failed,” the President said while signing the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010.
That law was supposed to put measures in place to keep an eye on Wall Street and ban the riskiest forms of derivatives trading. Many economists still believe it is an important piece of legislation to prevent another 2008 collapse from occurring in the future.
“Dodd-Frank was passed June of 2010 that was the financial regulatory law that was passed in response to the 2007-2009 financial crisis. In the years prior to the passage of Dodd-Frank and prior to the financial crisis, basically the mode of operation was deregulate finance because ‘Wall Street knows better, they are smarter than everybody, they know best…we don’t need to regulate them,’” Robert Pollin, a professor at the University of Massachusetts-Amherst and co-director of the Political Economy Research Institute, told the Real News. “Well, we only needed to have this massive financial crisis to prove that approach wrong. The consequence was the passage of Dodd-Frank in 2010.”
Previously, Summers supported the partial repeal of Glass-Steagall legislation, provisions passed in 1933 as part of the Banking Act after the Great Depression that limited certain actions and affiliations between different types of banks. “Today Congress voted to update the rules that have governed financial services since the Great Depression and replace them with a system for the 21st century,” Summers said in 1999. “This historic legislation will better enable American companies to compete in the new economy.”
Many critics, including President Barack Obama, believe that the 2007 subprime mortgage financial crisis was caused by the partial repeal of the 1933 Glass–Steagall provisions.
But is Summers’ opponent Janet Yellen any better?
Yellen reportedly saw the writing on the wall and had called out the problems on Wall Street while serving in previous positions. “Unlike Larry Summers, Tim Geithner, and other Bob Rubin-minions frequently mentioned in the financial press as potential Bernanke successors, she was not part of the deregulatory cabal that got us into the 2008 financial crisis,” explained former Federal Deposit Insurance Corp. Chairman Sheila Bair. “In fact, she had a solid record as a bank regulator at the San Francisco Fed and was one of the few in the Fed system to sound the alarm on the risks of subprime mortgages in 2007.”
“Among the plausible candidates, Yellen is a very strong one, one that I think certainly merits the appointment, way, way over Summers,” Pollin said.
Crises at Harvard
Beyond his financial policies, Summers remains a controversial figure dating back to his stint as president of Harvard University from 2001 to 2006. He became a controversial figure in academia when he tangled with Cornel West, a prominent social critic, professor of philosophy and author of a number of best-selling books, including “Race Matters.”
Boston.com reported that the spat began during an October 2001 meeting when Summers complained that West had missed three weeks of classes to work on Bill Bradley’s presidential campaign in 2000, and that he was contributing to grade inflation.
He also said that West’s spoken-word CD was an “embarrassment” to Harvard and that he needed to do more scholarly work.
West denied the accusations, saying he had missed one class in his entire time at Harvard, that his grades would hold up next to those in any other department and that he had written 16 books, including scholarly work.
The disagreement led to West leaving for greener pastures in 2002. He now teaches at Princeton University in the African-American Studies department.
Roughly four years later, Summers resigned from his position after the the Harvard Faculty of Arts and Sciences passed a clear vote of no confidence in his leadership. The faculty voted 218 to 185 in favor of the vote of no confidence, with 18 abstentions.