Article 9, Asset Securitization, and the Great Depression
I’ve been reading Amity Shlaes’s wonderful book The Forgotten Man: A New History of the Great Depression, which provides some great story-telling and a richly deserved economic send-up of the New Deal. She illustrates the illogic of many New Deal policies — such as the NRA’s attempt to deal with the monetary problem of deflation through price controls — as well as the sheer contradictory ad hocery Roosevelt’s “bold, ceaseless, experimentation.” Her main thesis seems to be that the New Deal never actually had an economic — as opposed to an electoral and political — logic. To the extent that it was Keynsian it was Keynsian mainly by accident.
Along the way, she rehabilitates some of the class villains of the 1930s and their pre-Crash shenanigans, among them the use of holding companies by utilities. In the traditional story, the captains of industry in the 1920s used holding companies to manipulate stock prices to reap huge profits at the expense of naive investors who found themselves bilked when the market crashed in 1929.
Shlaes has a different story.
While she disclaims a single-cause hypothesis of the Depression in the intro, she mainly subscribes to the monetary theory. The problem was that the old Gold Standard did not allow the money supply to grow with the economy, a problem compounded by the Fed’s tight money policy after the Crash, which was adopted to stop “speculation.” The result was a crisis of liquidity. People lost their homes and farms because there simply wasn’t enough money in the economy even though they might have valuable but illiquid assets. Businesses faced the same problem. They responded by doing with equity what they couldn’t do with debt. If cash starved banks couldn’t provide credit, they would go to more liquid securities markets with new stock issues provided by the creation of shell companies.
Preparing for my Article 9 class this semester, I’m trying to figure out the extent to which I can work in more discussions of asset securitization. So much of how I taught the class last year revolved around the implicit assumption that we were dealing with transactions where banks were lenders and business debtors were taking out commercial loans to buy a new bit of machinery. The reality, of course, is that increasingly the law of Article 9 is used to bundle various kinds of rights to repayment, chop them into securities, and sell them on the open market. It seems to me that there is a faint analogy to the 1930s here. With the Fed cutting interest rates again, we’re hardly in the midst of a Great Depression style money drought, but borrowers are increasingly turning to financial markets rather than banks as a way of raising capital. Furthermore, there is similar suspicion in some corners. The hunt for liquidity is seen as something sinister and speculative (certain bankruptcy scholars who get really upset about bankruptcy-remote entities fall into this category) and the SPV has the aura of financial skullduggery that hovered around utilities holding companies back in the day.
Plus ca change, plus c’est la meme chose.