Disclosure restores both confidence in financial system and consumer confidence

A NY Times article by Binyamin Appelbaum highlights how lack of confidence in the financial system feeds directly into consumer confidence.

Regular readers know that as long as current asset and liability-level data is hidden behind the regulators' information monopoly that it is hard for investors and banks to have confidence in the solvency of the other banks and the financial system.

Patrick Honohan, the head of the Irish Central Bank, observed that this lack of confidence was to be expected because the failure to disclose this data says there is something to hide.

It is the fear that there is something to hide that erodes consumer confidence.

It is clear to consumers that regulators are hiding something when the regulators say that they have run stress tests on the banks showing they are adequately capitalized and the tests are discredited within months.  The failure of the stress tests serves as a reminder that it was the job of the regulators to prevent the financial crisis from occurring in the first place.

It is clear to consumers that there is something wrong in the relationship between the government, regulators and the financial industry they are suppose to regulate.  For example, the Dodd-Frank Act was passed before the Financial Crisis Inquiry Commission could publish its findings.  To consumers who were taught in school that before you try to solve a problem you gather the facts, this suggests that the Act will not fix the problem.

In fact, the Nyberg Report on the Irish financial crisis discussed what is wrong in the relationship between government, regulators and the financial industry in great detail.  It confirms the consumers' suspicion that the Dodd-Frank Act will not fix what is wrong.

When consumers fear that there is something to hide and the problems in the relationship between government, regulators and the financial industry which directly contributed to the financial crisis are not going to be fixed, consumer confidence declines.

Fortunately, showing that there is nothing to hide and fixing what is wrong with the relationship between government, regulators and the financial industry is easily fixed by fully implementing disclosure under the FDR Framework.

As FDR showed when he implemented disclosure during the Great Depression, it works.  As a scholar of the Great Depression, Ben Bernanke should know this.

Ben S. Bernanke, the Federal Reserve chairman, offered a new twist on a familiar subject Thursday, revisiting the question of why growth continues to fall short of hopes and expectations. 

Mr. Bernanke, speaking at a luncheon in Minneapolis, offered ... something new: Consumers are depressed beyond reason or expectation.

Oh, sure, there are reasons to be depressed, and the Fed chairman rattled them off: “The persistently high level of unemployment, slow gains in wages for those who remain employed, falling house prices, and debt burdens that remain high.” 

What happened to the fact that the government is talking about the need to cut back on retirement programs like Social Security and Medicare?  Consumers do not need to be depressed about these cutbacks however it is reasonable to assume they will adjust their spending knowing they are coming.

However, Mr. Bernanke continued, “Even taking into account the many financial pressures that they face, households seem exceptionally cautious.” 

Consumers, in other words, are behaving as if the economy is even worse than it actually is. 

Economic models based on historic patterns of unemployment, wages, debt and housing prices suggest that people should be spending more money. Instead, just as corporations are sitting on their money, households are holding back, too. 

Are these models based on historic patterns in the 1930s or the 1980s to before the credit crisis?

Why? Well, one possibility is that Americans collectively are suffering from what amounts to an economic version of post-traumatic stress disorder. 

“People are on edge waiting for the other shoe to drop,” John Williams, the president of the Federal Reserve Bank of San Francisco, told the Seattle Rotary Club on Wednesday. “In fact, the latest consumer sentiment readings are near the all-time lows recorded in late 2008 during the most terrifying moments of the financial crisis.” 

Why is this surprising?  As discussed above, consumers know that the financial system has not been fixed because they have no way to Trust, but Verify the fact.

Moreover, the national mood is souring. Although the economy has grown this year — albeit slowly — surveys of consumer confidence keep finding increasing pessimism about the future. 

Mr. Williams noted a recent survey finding that 62 percent of households expected their income to stay the same or decline over the next year, the bleakest outlook in the last three decades. 

“It’s hard to have a robust recovery,” he said, “when Americans are so dispirited.” 

There is a longstanding debate among economists about the importance of confidence. 

Research has found that consumers are not very good at predicting the future. Optimism often fails to correlate with growth; pessimism doesn’t necessarily foreshadow a recession. 

Still, it seems intuitive that a lack of confidence can drag on the economy. As pessimistic people pull back — deciding that there is no point in looking for work; that this is not the year to go on vacation; that it may make sense to stop eating in restaurants — the economy shrinks.

Actually, people might not be spending because they realize that the retirement programs are going to be slashed.  As a result, people may be acting in a very prudent manner by not spending and instead saving for retirement.

There is a natural instinct to address this problem by trying to cheer people up. Mr. Bernanke in recent speeches has been careful to note that he continues to think that the American economy has a bright future. 

There is also the possibility, however, that the national mood is a more accurate reflection of the economic reality than any of the other, sunnier statistics. 

“Confidence is mostly reflective of fundamentals,” said Eric Sims, a professor of economics at the University of Notre Dame. As a result, he said, the only way to cheer people up is to improve the condition of the economy. “You’ve got to give people a reason to have confidence.”