When the Next Crash Comes Remember Which Side You Were On and Learn

Cross posted in Orange and The Stars Hollow Gazette

Yes, another crash is coming. I can't predict precisely when as that would be a fool's errand, but much closer than you think. It will probably be after our President is reelected and will care very little what you or I think once he and his treasury push for criminal TBTF banks to bailed out once again. Doctor Doom: the nickname for economist Nouriel Roubini: one of the relatively few outside the mainstream(part of the Got It Right (pdf) project) who predicted the last crash thinks 2013 is a perfect storm for another one which will be even worse and it makes sense.

Despite on theoretical fiscal policy limits with regard to the US, Roubini is absolutely right on the political deadlock with the coming crisis. We wasted our last crisis and that's something Conservatives have not done whether we're talking about the stagflation crisis of the 70s or 9/11. There won't be as many political options this time to prop up the underlying economy in 2013 because Democrats have failed to change the Senate rules because most of them secretly like the way things work or don't work in Washington. Sadly, if Republicans take over both houses again, they will change the Senate rules as they threatening to do in 2005 and 2006.

Anyway some might still want to scoff at Roubini's prediction, but that will come back to bite them in the ass. Not even Roubini can predict the exact moment it will happen, but if one knows anything about the history of financial crashes, since the 80s when the 1933 banking reforms passed by FDR started slowly being dismantled, they started happening once again in a 5-7 year time-frame(and even closer than that if you count global stock crashes which count now more than ever since our markets turned dark with OTC derivatives and Information Asymmetry all around); some worse than others as the 2008 bust was on par with 1929 but you get the idea.

As you can see, 2013 would fit this pattern as far as major crisis are concerned even if it is in 2014 or 2015 instead. Financial History is on Roubini's side, and it's unfortunate that so many people, especiallay our politicians, want to deny it to our detriment. We're still suffering the reverberations of the last bust on top of 35 years of income inequality and debt deflation. All "recoveries" have been jobless since the .com bust, and because of this jobless recovery dynamic, our underlying economy is not strong enough to withstand the reverberations of these financial panics caused by fraud propped up by our leaders in DC that perpetuate it.

Alexander Arapoglou and Jerri-Lynn Scofield at Alternet lay out 6 reasons Roubini is most likely right in this fairly long, but extremely informative piece. The system is inherently unstable and corrupt.

Uncle Sam Needs YOU for a Bailout: 6 Reasons Another Big Banking Crisis Is Coming Our Way: Rampant financial crime and poor regulation can only mean another blowup, and guess who will be holding the bag?

Failure to pursue banks, culpable management and employees for their complicity in causing the financial crisis is one of six bad policies that ensure we’re likely to see another bust-up of a big U.S. bank -- sooner rather than later.

Who’s going to pay the price for such a failure? We will, of course. Uncle Sam’s policy of allowing banks to get too big to fail means we’ll all be left holding the bag when that collapse occurs — and another banking bailout is necessary.

1. Too big to fail

Thirty years of financial deregulation have seen unprecedented concentration of the financial sector. Before, financial firms were limited both in where they could do business and the types of business they could do. This prevented a big banking blowup in the U.S. for more than 50 years.

Banks used to be limited to owning branches within individual states. When a bank got into trouble—and some did -- losses stayed confined. Regulators such as the Federal Deposit Insurance Corporation (FDIC) could clean up the mess and preserve depositors’ assets, without unduly burdening taxpayers. But after changes culminating in the Riegle-Neal Interstate Banking and Branching Efficiency Act in 1994, those restrictions vanished.

So some banks got steadily bigger, while the overall number shrank. From 1990 to 2011, the number of commercial banks halved, from about 12,000 to 6,000, according to the St. Louis Federal Reserve Bank.

[............]

2. See no evil, hear no evil

While the financial system was consolidating, another threat was looming: the “shadow banking system“ was being created. Another New Deal reform, the Investment Company Act of 1940, imposed heavy restrictions on investment companies, which were intended to protect investors from excessive risks, fraud and scams.

But regulators decided that sophisticated investors, including the wealthy, pension funds and charities, had enough financial savvy to be allowed to invest in shadow banks that were either lightly regulated, or not at all. Such alternative investment vehicles, including hedge funds and private equity funds, were exempt from investment restrictions.

In the last two decades, there’s been an explosive growth in shadow banks. The size of this unregulated system has increased fivefold and today is larger than the regulated financial system.

[.........]

3. Calling in the cavalry, but giving them the wrong directions

Once the U.S. decided to deregulate the financial sector, and banks got bigger, it was inevitable that the government would be called in for a rescue. Most of us were aware that in 2008, the government stepped in to bail out big banks that were destabilized by Lehman Brothers’ collapse and by the bad derivatives bets entered into by AIG Financial Products. The world financial system was at the brink, we were told, and the Troubled Asset Relief Program (TARP) was necessary to save the system.

But a decade before this bailout, U.S. financial regulators were involved in a rescue of a shadow bank, which helped set the stage for TARP. In 1998, the Long-Term Capital Management (LTCM) hedge fund got into trouble by placing heavily-leveraged derivatives bets during the Asian financial crisis. Hedge funds are allowed to operate with scant regulatory supervision on the rationale that they cater only to sophisticated investors who could bear the risk.

[.........]

Sometimes you want government intervention to quell a banking panic, and to shore up or reboot a failed banking system. Banks need to be seized, or at minimum assessed by a neutral observer, and their balance sheets cleaned up. Investors, too, must pay a price for making foolish investment choices. Typically, existing shareholders are wiped out, while bondholders see their promises of guaranteed debt payments converted to more speculative shares of stock.

We used to know how to do this. The Depression-era Reconstruction Finance Corporation seized failing banks, cleaned up their balance sheets, and later transferred these institutions back to private ownership. The Resolution Trust Corporation followed similar policies in cleaning up the savings and loan crisis of the 1980s and early 1990s. More recently, the Swedish government nationalized failing banks in the 1990s. Managers were penalized, and shareholders and sometimes bondholders took losses

But the U.S. forgot all these sound policies in the 2008 TARP. The government provided cash to stabilize shaky financial institutions, guarantees to bondholders, and tax breaks. It also purchased some risky assets. But it didn’t get much in exchange. Regulators didn’t demand that banks open their books and clean up their balance sheets. The big banks continued as going concerns.

Bank managers paid no price and mostly kept their jobs. They paid themselves bonuses rather than using capital to shore up their banks. Bottom line: Managers, shareholders, and bondholders didn’t fully pay for their folly.

[.........]

4. Creating financial weapons of mass destruction

The need to bail out AIG Financial Products in 2008 arose from huge losses in unregulated derivatives trading. We should have seen that coming, because derivatives had caused LTCM to fail back in 1998. In fact, plenty of people saw that derivatives were problematic. Warren Buffett called them “financial weapons of destruction” back in 2003.

So, why wasn’t anything done to defuse these weapons?

Well, in 1998, one very prescient regulator, Brooksley Born, chairman of the Commodity Futures Trading Commission, tried, and failed, to initiate a unilateral disarmament policy.

[.........]

But folks like Federal Reserve Chairman Alan Greenspan, Treasury Secretary Robert Rubin, and his successor, Lawrence Summers, and SEC chairman Arthur Levitt, ganged up on Born to preserve the status quo. They saw derivatives users as sophisticated financial players who should not be regulated.

Congress first passed a temporary provision forbidding any change in regulating derivatives. Born resigned in 1999. Congress then passed the Commodity Futures Modernization Act of 2000, which specifically excluded OTC derivatives from regulation. This same state of play remained in 2008 when these weapons of mass destruction nearly destroyed the world financial system.

[.............]

6. Perps get off scot-free

These are the facts. No partisan financial cheerleaders can state otherwise with any credibility but they once tried. They scoffed when criminologist economist at the best economic school(because it doesn't teach the orthodox garbage in most econ departments and in our government) in the country UKMC S&L regulator with a record Bill Black warned us about this. And yet still, they smugly dug up online balance sheets they didn't understand, pretended this is a liquidity crisis instead of an insolvency crisis forgetting none of the assets were marked to market; this means that they believe a magical market in the future will make the books solvent again, so let the betting begin.

It didn't happen that way of course as fake assets turned into crushing liabilities so we should consider their purported knowledge or excuses for whatever politician to be a fraudulent asset as well. This of course goes to most economic departments that were infiltrated by the men who ruined the world and their followers(and people that excuse the politicians that excuse them. Yes. That's right). If this delusion of markets in the future making fraudulent assets whole as they were marked and still are on banks balance sheets now have any credibility, then states would have all the revenue they need. There would be no need for aid to the states but there is still a massive need. Some scoff that the focus on market to market is relying all on the market, but it's the opposite. Efficient market hypothesis states that markets will balance out all investments even if they are Ponzi investments in the future even with no accurate accounting or transaction info.

This is RW absolute historical and analytically garbage. People who call themselves progressives because they are (technically third way) Democrats shilling for this type of propaganda to protect a politician's image have no shame or knowledge. It's best that they just say sorry when the next crash and bailout comes, because they have indirect blood on their hands from the fallout. This kind of smug elitist finance geek crap found among Democratic voters looking to excuse everything the President does or those in Congress need to self reflect when it comes. It's really a shame that so many people in our party have such disdain for the damage these financial machinations cause real people whether blinded by herd mentality or cognitive dissonance.

They should just be glad they got theirs jack and go hang out with the Rubinites they truly admire on the right while pretending they are on the left because of the party label they support. Some of us were advocating for a better Swedish style bank rescue with some accountability and accounting access when the time was ripe for those real solutions. However, remember that we were shouted down by the chorus that were so sure that what really led to the 2010 mid term losses "wasn't real" because the President is always right and he's got this." Unlike fake stress tests that have been shown worthless in the past used for PPIP by the failure named Tim Geithner looking to "foam the runway for the banks," these solutions had a wide consensus and history of effectiveness.

If there was to be a bailout at all, it should have been done this was as it had been done in the past, because in the long run, it would have been better if there was no bailout than what happened. When you say that people start talking about stopping a great depression(as if the same dynamics and some worse haven't happened) but there's not a lot of substance to this claim. The lie about the commercial paper market the Fed already had plans to make purchases of does not excuse just handing the financial sector trillions upon trillions more in loan guarantees. It perpetuated a system that is no use to anyone except the Oligarchs that run and control it.

The pain is going to much greater next time because people are probably not going to ever fully recover from the last one. So if you consider yourself one of those "savvy" financial bloggers or anyone else who denied what truly needed to be done in 2008 and today for a functioning financial system, then do us and the world a favor and STFU next time. I'd rather you just thank us for laying out the danger of your ineptitude so you can learn, but you don't have to be a soulless, money worshiping, power worshiping hypocrite forever. You can change, and I hope you do.

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Amazing essay. 100% agreement.

sartoris's picture

For me, the most frustrating aspect of the global financial crisis is that nothing has been done to prevent it's recurrence. The banksters created a derivative intrument based on the Mortgage Backed Security assets and traded it around the globe without any oversight. The SEC was rendered powerless by both the Clinton and Bush administration. Obama has done nothing at all to address the lack of oversight of the financial industry. His lack of leadership on this issue will directly lead to the next crash. The next crash will be harder than this one because the governments of the world used all their available resources to try and dig out of the first crash. I think that Mike Whitney of www.counterpunch.org has done the best work covering this subject. You're probably familiar with his work but I think his writing on this subject is quite lucid, if not terrifying. Even though this is a nauseating subject this is really a great essay, Priceman.

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Thank you, Sartoris!

priceman's picture

I can barely hold my disdian for people who excuse this kind of shit like Mathew Ygleisas. Mike Whitney is excellent.

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Speaking of fake assets

geomoo's picture

This analysis wrt real estate supports the same conclusions as this essay:

Two trends are apparent. One is that banks are delaying foreclosures, or not foreclosing at all despite long-term delinquencies. The other is that private equity firms . . . have been bidding up and holding foreclosed houses off the market. These two factors have artificially limited supply and, combined with cheap mortgages rates, driven up prices. . . .these policies are obviously not long-term sustainable.
snip

Holding back inventory means that the houses that are put on offer sell faster and at higher prices. That creates an incentive to delay foreclosures or not foreclose at all even when a home is delinquent. Though this seems obvious, the mainstream housing finance community – aided by a freelance “housing analyst,” – uses the faster figures to somehow prove banks are not holding houses. “. . .

And yes, "our" government is actively participating in helping obfuscate the actual situation for the sake of short-term profit. For just one example:

Besides lower foreclosure activity, the government is going all out to give away houses to private equity firms. Recently Fannie Mae sold 275 properties across metro Phoenix in one sale to a mystery buyer, . . .
snip

I’d like to make a strong prediction but trying to gain credible insight into housing and foreclosure information is difficult because the industry, including and especially Fannie Mae and Freddie Mac, continue to hoard housing data. We can’t measure what we can’t see, and thanks to murky and inconsistent housing data all we really know is that there is a lot we don’t really know.
snip

Thanks to low lower foreclosures, real-estate speculators buying in bulk, and low interest rates there is enough direct and anecdotal evidence to suggest that we may be seeing a real-estate recovery on paper. Further, these policies are clearly calibrated to bring about a bubble, despite that bubbles are difficult to control and are not, by definition, sustainable: they always eventually pop. Let’s at least hope that when this bubble bursts the new Wall Street bulk buyers are treated with the same ruthless “free market” vigor that the prior owners of these houses were treated with after the last bubble burst. However, I doubt the mystery Asian money buyer, that Fannie sold Phoenix to, will ever be subject to something like the rocket docket.

As to accountability after being proved wrong, I wouldn't hold my breath. There will be a new bright shiny object, a new insane right-winger to obsess over, a new set of level-headed pragmatic explanations why the oligarchy must not be disturbed. Incidentally, the IMF basically admitted that they were wrong about austerity and Iceland was right (right in the sense of taking steps that led to recovery instead a vicious spiral of poverty). Few people seem to have noticed and no one expects them to change their destructive policies.

Somebody's gotta point out the lack of clothing, priceman, and it looks as though the task falls to you.

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Great job price.

chipmo's picture

The thing that keeps hitting me, when I think about the financial crisis, the "covert" war machinations, environmental devastation, etc., is that we're just a bunch of amateurs. Not saying we're wrong! On the contrary, the past 3 years have been nothing but a landslide of evidence that heterodox thinkers have it all over the professional orthodoxy.

However, I think most of the people who are profitting off of the system now are fully versed in the heterodox perspective despite their public faces saying "Oh no, how could we have ever predicted that the finite economic environment of the earth could not sustain infinite growth and unmanaged externalities?" They know and have known better than that. In fact I'd posit that the only reason that George Soros gets lambasted by the right wingers is because some faction of elites were pissed that he was being so open about the heterodox mindset that all hedge funders subscribe to.

What I'm getting at here is, despite their exortations to the contrary, the 1%, once again, are most likely setting themselves up NOW to profit off of the collapse. They WANT it to come down. They have PROFESSIONALS who run through the heterodox models and have for years. The entire capitalist venture is being shorted. They know all the same things we know, but they are fucking excited about it and are doing everything in their power to make sure it happens rather than fighting it like us. Because we are not as human as they are, merely a seething mass of collateral damage.

We are the zombies in the coming zombie apocalypse. Romero knew it all along. The zombies in his films were never the monsters, but the victims.

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Hard-hitting post

geomoo's picture

Well said. In a nutshell:

The entire capitalist venture is being shorted.

If you want to get into the psychology of it, addictive behavior is not a metaphor, it's quite literally what is driving this. The same brain chemistry that sparks at the thought of heroine revs up excitement at the thought of profits. And the profits are mind-boggling in their enormity. Humans can always find rationalizations when they are looking at huge stacks of their favorite drug. "Don't be such killjoy. Everything will be cool." Evil results spring from boringly commonplace brain chemistry.

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Its the addiction to winning.

BruceMcF's picture

In soccer a 3-0 can be a massive win, in baseball 10-3 is a massive win, in Ozzie Rules and Basketball its in the 100's of points.

They could be playing the game for fewer points all around, but in playing the money game for "more money", there's no way they will refrain from trying to "get it all".

They can't, they are addicted to the competition for money. Its the thrill of the chase and then the celebration of the kill. It is, indeed, rooted from deep down in mammalian fight or flight responses.

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Yep

geomoo's picture

My brother-in-law knew a man with enormous wealth--he had once owned 15% of MGM, just to give you an idea. This was a modest man in his daily life, ate modestly, lived modestly, a decent guy by all accounts. My b-i-l once asked him whether he had any regrets. He wished he had played on a bigger field, wished he had made more money. Yep, it's hard wired. This is why reasoning will not stop the behavior that has us on this unsustainable path.

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Thanks, chipmo! I love the George Romero reference

priceman's picture

They have the information and can bet off of it and short it the next collapse or even the collapse, with the resources, our resources, to buy access to a guaranteeing a bailout in Congress. It falls apart when they keep that info from each other, but they buy their insurance policies by buying the government and they still win in the end.

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That's why the talk of 'free markets' ...

BruceMcF's picture

... and not "competitive markets". "Free markets" mean free to do whatever you want to either the buyers of your products or the sellers of your inputs. And "free markets" can be damn expensive to be on the other side of, as Californian utility customers discovered under the Enron speculative attack.

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I disagree with this part

Eddie C's picture

Sadly, if Republicans take over both houses again, they will change the Senate rules as they threatening to do in 2005 and 2006.

Why would Republicans do that and wind up losing the power when they lose the majority again?

Besides the fact that they have a proven history, all they need to do is threaten and the Democrats will cave, they can always pick up a few votes and help in steering the public opinion from Blue Dogs while Blue State Democrats remain silent.

Such a sham both Parties are, They're like listening to Vogon Poetry.

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There's a chance. Bill Frist was serious

priceman's picture

Though you're right that all he had to do was threaten so Democrats created the Roberts court. They may do it if Democrats filibuster what they really want to do, but maybe they won't have to change the rules and Democrats will just privatize social security altogether? It's not a definte point as I wrote it. I'm open to revise it.

lol. Vogon Poetry indeed, Eddie C.

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Well do you remember what Dems said when Bush tried?

Eddie C's picture

Not a fucking thing.

Think back to that debate, the people backlashed and the Democratic leadership had nothing to offer until election season rolled around. Once Bush failed the Dems used it as an election scare tactic and the useless Dems may have prevented it from coming to a vote but they sat on their hands while Republicans went on talk shows trying to convince Americans that we need to fix the issues coming up in 2038 right away.

I guess they were setting us up. Letting the Republicans have their solo debate, allowing them to drain the public confidence in a comfortable retirement so they could turn around once Bush was gone and take over "Making Social Security safe for America."

Whatever the case was that is how I now define American politics. Republicans own the national debate until election season and once the election season is over the Dems go back into hiding. It even worked for the Repugs from 2008-2010 and when I saw that I knew that the problem was not Republicans nor the media. The problem is the combination of Democrats taking money and partisan loyalist who refuse to see what they see.

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I remember

priceman's picture

the silence was deafening. Public sentiment was palpable against privatization and that was the main reason, not anything the Democrats did to protect SS like they say in their form letters.

The problem is the combination of Democrats taking money and partisan loyalist who refuse to see what they see.

Yes, this is why I write once a week is to let it all out because this is all BS and it's going to kill us. If I can wake one online partisan out of their stupor it is worth it.

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Exactly so

geomoo's picture

Anyone who failed to see what was happening in 2008 - 2010 is unlikely to be awakened by much. That was also when I was shocked to find that Bacevich and my Nader-voting friends had been right all along. My hat is off to those who have been wise to the game a lot longer than I.

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I don't wan't to mention any names

Eddie C's picture

But anyone who spent the entire health care debate whining and complaining about "conservadems" while never once noticing the Dems from solid Blue states went into hiding, those people who were writing about a small portion of the Democratic leadership to cover for the Party, you know in between recommending and praising "Blackwaterdog" and thisismytime" diaries, pretending that it as the media or whoever they could point their fingers at, well I have a slew of (none/0) comments and unread diaries to remind me where they came from.

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she who cannot be mentioned........

sartoris's picture

Ugh. Please don't make my stomach/head/fingernails hurt by saying the name Blackwaterdog........that mess of screaming teenage girl Jonas Brother worship nearly drove me into therapy. Ugh.

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Your description was totally apt, correct, on point, and

Glinda's picture

summed it up very well.

Blackwaterdog was president of a fan club. Of course never dealing with anything substantive.

She loved, loved, loved her some "Obama." She was like ripping her shirt every time she talked about him.

She's either a crazed fan or a paid operative. At least the former is genuine.

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BWD

geomoo's picture

The first time I was certain that there are operatives on dkos. The manipulations were classic. I'm not going to analyze it here, but silly as it all seemed, it was actually psychologically quite sophisticated. Her shtick worked very well in inoculating Obama against criticism and in creating an environment in which critics of the administration became outcasts. I know I have a more paranoid view than some, but there is no doubt in my mind that BWD was a result of careful calculation--just the beginning of the wildly successful attempt to make criticism of Obama on dkos morally reprehensible and indicative of deep-seated character flaws. It got much worse later, as we all know.

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The funny meme was she was "run off" from the orange,

Glinda's picture

when every single one of her diaries made the rec list and stayed there for a lot of time.

So she's "run off," starts her own site, the other crazed fans follow her there and post, and then she "takes a break," comes back, and then NO ONE is allowed to post.

I can only guess that she couldn't handle weeding out the criticism. So the site is now: OBAMA IS THE ONLY ADULT IN THE ROOM. I love him, I love him, I love him, and where he goes I'll follow, I'll follow, I'll follow.

I admire crazed fans, they're very loyal. But I don't love crazed fans when it comes to politicians, as politicians have the ability to hurt people whereas celebrities don't have that power.

I did find her interesting, though.

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"Poor me, you scum"

geomoo's picture

"Poor me, you scum
That's BWD in a nutshell. That's what I mean by sophisticated psychologically. You can get liberals to support bombing our own country if they thought it would prevent someone being victimized. They had a solid group of people who made the claim, without fail, when the topic came up in diaries other than hers. That's when they would say [innocent voice] "don't know why people can't just let her love Obama. She doesn't hurt anyone." Then in her own diaries,attack critics of Obama, call people traitors. It was all victim. You could not even find a word to use to describe them. They ignorantly insisted that the most literal description (which is definitionally not insulting) is "Obama apologists". That is an insult, they reply and before you know it, I'm fairly pelting the poor things with insults. So I tried "Obama supporters". That was problematic. Literally, they had a policy of never allowing anyone to develop a thing to call them. Bu they made free to call the people who created this website guilty of "treason". That diary was deleted after it had planted its wicked seed, but I saw it with my own eyes.

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Speaking of operatives, there is one there now that

Glinda's picture

I'm enjoying. She/he has spent a lot of time trashing Julian Assange and defending, standing up for the current Administration.

For a millisecond it bothered me, but after that, I admired it in a warped way. Kabuki theater at its best. The trap was set, and the defenders of the Administration swooped in.

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oh, the Icelandic adventurer?

sartoris's picture

I would have to agree completely with your assessment of him/her. He/she becomes completely unhinged with confronted about the actual circumstances that led up to Assange's rape accusation. DK has just completely been taken over by the third way types that have destroyed the Democratic party. I'm pretty freaking happy to have found this place.

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Yup.

Glinda's picture

And I look forward to talking with you ;)

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Note that Roubini was among those who saw the Panic of 2008 ...

BruceMcF's picture

... coming, but it wasn't a small handful. From the AFEE Get It Right Project, a short list includes:
1996: Brent McClintock
1998: Brooksley Born
1999: Sen. Byron Dorgan, Jerry Jordon (Federal Open Market Committee)
2000: Randall Wray, Wynne Godley
2002: Dean Baker
2006: Micheal Hudson, Gennaro Zezza, Stephen Keen
2007: Christopher Brown, Eric Tymoigne
2008: Hyman Minsky

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I'm aware. It was a figure of speech

priceman's picture

Steve Keen goes back to 1995. When I say few, I mean few as in those outside orthodox economics, not a handful.

I guess I have Revere award on the mind. I do remember the got it right, project you posted in the past. I updated the diary.

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