Economics of Contempt

It looks like it's time for everyone's favorite whipping boy, "financial innovation," to come in for another round of mockery in the blogosphere. Simon Johnson and James Kwak make all the familiar arguments about CDS and CDOs, neither of which they seem to understand in the slightest. Their discussion of CDOs is particularly specious:

The magic of a CDO, as explained in the research paper "The Economics of Structured Finance" by Joshua Coval, Jakub Jurek, and Erik Stafford, lies in how CDOs can be used to manufacture "safe" bonds (according to credit rating agencies) out of risky ones. Investors as a group were willing to buy CDOs when they would not have been willing to buy all the assets that went into those CDOs. We don't have to decide who is to blame for this situation—structurers, credit rating agencies, or investors. The fact remains that at least some CDOs boosted financial intermediation by tricking investors into making investments they would not otherwise have made–because they destroyed value.

This is usually how CDOs are portrayed these days: they're obviously voodoo finance, because—get this!—they claimed to take a bunch of risky bonds and transform them into a super safe bond. What a ridiculous idea, right? Now do you see how useless financial innovation is? Of course, this isn't a remotely accurate description of CDOs. Notice how they conveniently leave out the explanation of how CDOs transform risky bonds into a safe bond. They do this through subordination and various other credit enhancements. Say we have a CDO with a $100 face value, backed by a pool of BBB-rated mortgage-backed securities. The CDO sells three classes of bonds: an equity tranche, a mezzanine tranche, and a senior tranche. Investors in the equity tranche will take the first 10% of the losses; investors in the mezzanine tranche will take the next 15% of the losses; and investors in the senior tranche will take the rest of the losses. Investors in the senior tranche wouldn't suffer any losses unless and until the total losses on the CDO exceeded 25%, so we'd say that the senior tranche has a subordination level of 25%. When Johnson and Kwak say that CDOs "manufacture 'safe' bonds out of risky ones," the "safe" bonds they're referring to are the senior tranches. But as you can see, the idea that the senior tranche would be "safe" isn't at all ridiculous—after all, there's almost always some level of subordination that will make the senior tranche a safe investment. The problem, in very broad terms, was that the lending standards on the underlying mortgages significantly deteriorated, while at the same time the rating agencies were handing out AA and AAA ratings to tranches with lower and lower subordination levels. I can't find a similar chart for CDOs, but this chart of CMBS subordination levels is instructive (the trend for CDO subordination levels was similar): But of course, we get no discussion of low subordination levels—or even the idea of tranches—from Johnson and Kwak, who use the term "CDO" as some sort of trump card, the mere mention of which automatically ends any debate on financial innovation. This apparently passes for Serious Commentary nowadays. Felix Salmon, in discussing Johnson and Kwak's article, says that it's (finally) time to "make some nicer distinctions than have generally been made until now" in the debate over financial innovation. I agree. Unfortunately, Salmon makes the same kind of gross over-simplifications that Johnson and Kwak do. The worst one was this:

Securitization absolved lenders from sensible underwriting, since they knew they were just going on onsell that debt anyway.

This is just not true. I know most people think this is true, and that it's some profound insight, but it's not. Securitization doesn't necessarily absolve lenders from sensible underwriting. In theory, if investors in securitizations do the proper due diligence and are sufficiently discriminating, then they wouldn't buy securitizations with bad quality loans in them; lenders who make bad loans wouldn't be able to sell them on, and thus wouldn't be "absolved" from sensible underwriting because they'd have to hold them on their own balance sheets. The weak link in this chain was, again, the rating agencies: investors in securitizations have long outsourced their due diligence to the rating agencies, who got it colossally wrong in 2004-2006. It was the rating agencies that absolved the lenders from sensible underwriting by slapping AAA ratings on securitizations with laughably bad mortgages underlying them. Once it became clear that pretty much any securitization, regardless of the underwriting standards on the underlying loans, could get rated, all bets were off. Conduits—which package together and securitize mortgages—revised their origination guides that they circulate to banks and other loan originators, which essentially gave them the green light to ignore underwriting standards, since the conduit knew it could place virtually any loan in a securitization and still get it rated. Because underwriting standards didn't matter anymore, the mortgage business became all about volume. Independent mortgage lenders like Countrywide and banks like WaMu originated as many loans as humanly possible, confident that they could sell them on to a mortgage conduit. (Of course, Countrywide owned its own conduit, which probably presented absolutely no conflict-of-interest whatsoever. Or something like that.) Far from showing that securitization absolves lenders from sensible underwriting standards, what this shows is that the securitization market of 2004-2006 absolved lenders from sensible underwriting standards. So yes, let's have a serious discussion about the costs/benefits of financial innovation. I'm all for it. But to have that discussion, you have to be willing to not play to the crowd for a few posts. So far, the entire debate over financial innovation seems to have taken place among people with little or no experience in financial markets, and thus little understanding of how certain financial innovations have translated into real-world benefits. Unfortunately, the only defenders of financial innovation have been people like Niall Ferguson, who—let's be honest—is a total joke. Now, I definitely wouldn't characterize myself as a "defender of financial innovation" (though I guess a lot depends on how you define "financial innovation"), but I've been around long enough to know that the last 30 years, contrary to popular belief, have seen plenty of beneficial financial innovations. I've been meaning to write a post about financial innovation for a while, but I obviously haven't had time. In the interest of having a serious discussion of financial innovation though, here are some of the beneficial financial innovations of the last 30 years:

• Zero-coupon bonds
• Project finance
• Treasury STRIPS
• Medium-term notes
• Puttable bonds

I'll write a post explaining how these have been beneficial later, but I think the benefits of each of these financial innovations are pretty clear-cut.

Bernanke's reappointment seems to be the topic of the day, so I suppose I'll weigh in as well. I think Bernanke absolutely deserves a second term. He reacted early and aggressively when strains in the funding markets first appeared back in the fall of 2007, after the two Bear Stearns hedge funds failed and the ABCP market shut down, and he's kept his foot on the gas ever since. Everyone seems to be praising Bernanke for his "creativity" in responding to the financial crisis. While the Fed's various liquidity facilities have indeed been creative, they were almost certainly designed by the New York Fed's markets desk, not Bernanke. What Bernanke deserves credit for is his willingness to use these new and decidedly non-traditional facilities without hesitation. Like Paul Krugman said, a different Fed chairman might well have balked at these new facilities. Bernanke's willingness to approve the AMLF—the most creative of the new lending facilities—probably saved the entire prime money market fund sector, which was experiencing a full-blown bank run. (The Fed pumped $122 billion into money market funds in the first 7 days of the AMLF—and bear in mind that only money funds that were experiencing specified redemption pressures were even eligible for the AMLF in the first place.) People who, like Kevin Drum, oppose Bernanke based on his regulatory views, simply haven't been paying attention. Drum claims that Bernanke "inherited and then perpetuated weak regulation of consumer loan products, something that aggravated the housing bubble." It's true that Bernanke inherited weak regulation of mortgages, but it's simply not true that he perpetuated that weak regulation. That sounds more like what Drum thinks Bernanke probably did (if he had to guess, and without looking at the record). In reality, the Fed adopted new regulations on subprime mortgages over a year ago, and there was nothing "light touch" about them. The Fed started the process of adopting new regulations on subprime mortgages way back in 2006, and the explicit focus from the beginning was on curbing the abuses of 2004/2005. But a Fed chairman can't just wave his magic wand and have new regulations appear in Federal Register—the rulemaking process takes time. And when it comes to something like Reg Z, which is both controversial and complex, it often takes even longer than normal. Bernanke can't be blamed for sweeping the regulatory effort under the rug either. He devoted the bulk of his semiannual Humphrey-Hawkins testimony—the most high-profile testimony a Fed chairman gives—to the need for more regulation of subprime mortgages in July 2007. (He made the case for subprime mortgage regulation again a few months later, in even longer testimony.) The Board of Governors approved the final rule in July 2008. Mark Thoma, who previously argued that Bernanke will be an effective regulator, actually concedes Drum's point, saying that his argument is probably "based more on hope than on evidence." Don't give up so easily, Professor Thoma! If anything, Thoma's argument is the one based on evidence, while Drum's seems to be based on a flawed memory. [Read Barry Ritholz's post on disingenuous Bernanke bashing as well.]

This, from Fitch, is pretty depressing:

While the number of U.S. prime RMBS loans rolling into a delinquency status has recently slowed, this improvement is being overwhelmed by the dramatic decrease in delinquency cure rates that has occurred since 2006, according to Fitch Ratings. An increasing number of borrowers who are 'underwater' on their mortgages appear to be driving this trend, as Fitch has also observed. Delinquency cure rates refer to the percentage of delinquent loans returning to a current payment status each month. Cure rates have declined from an average of 45% during 2000-2006 to the current level of 6.6%. It is important not only to observe total roll rates, but delinquency cure rates as well, according to Managing Director Roelof Slump. 'Recent stability of loans becoming delinquent do not take into account the drastic decrease in delinquency cure rates experienced in the prime sector since the peak of the housing market,' said Slump. 'While prime has shown the most precipitous decline, rates have dropped in other sectors as well.' In addition to prime cure rates dropping to 6.6%, Alt-A cure rates have dropped to 4.3%, from an average of 30.2%, and subprime is down to 5.3% from an average of 19.4%. 'Whereas prime had previously been distinct for its relatively high level of delinquency recoveries, by this measure prime is no longer significantly outperforming other sectors,' said Slump.

Cure rates of 6.6% in prime mortgages? Yikes. Honestly, I think the housing market is going to be in shambles for several years.

Via Greg Mankiw, this essay by Prof. Rick Trebino is one of the funniest things I've read in a long time. Absolutely classic. And in case you're wondering, the journal in question is Optics Letters. The offending article is here, Prof. Trebino's Comment is here, and the Reply is here.

Sadly, as Gillian Tett's prominence has risen, the quality of her columns has plummeted. Take this paragraph from her latest column, which is pure gibberish:

[S]ecuritisation has produced a particularly curious – or absurd – paradox. A few years ago, it was widely assumed that the process of slicing and dicing credit would create a more “complete”, free-market financial system. But by 2005, credit products had become so complex and bespoke, that most never traded at all. Thus they had to be valued according to models, since they could not even be priced in a market – in a supposed free-market system.

This makes no sense at all. Apparently Tett thinks that a financial instrument can't be efficient unless it's frequently traded. Huh? Lots of corporate bonds are very thinly traded, but that has nothing to do with whether corporate bonds are efficient financial instruments. This isn't even a coherent argument. Tett also thinks that bespoke credit products are inherently inconsistent with a "free-market financial system." Why? Because they can't be easily marked-to-market. Umm, of course bespoke credit products can't be easily marked-to-market—they're bespoke. (Believe it or not, there aren't a lot of investment firms that are interested in buying a credit product that was custom-made for a different firm.) The simple fact is that free-market financial systems have bespoke credit products—after all, every financial product that's sufficiently standardized to be heavily traded started out as a bespoke product. And how bespoke credit products are valued for accounting purposes has absolutely nothing to do with whether they make financial markets more complete. It's strange that Tett has a reputation for being an expert on structured credit markets when she so frequently makes these kinds of basic errors in discussing structured credit. (Errors like claiming that JP Morgan created credit derivatives in 1997, even though every single bank on the Street had a credit derivatives department by at least 1994.)

I’m back from a very nice, (mostly) Blackberry-free, family vacation. My wife permitted me only 20 minutes in the morning and 20 minutes at the market close to scan Bloomberg headlines and read news/commentary, so I’m really far behind right now. That's why I just got around to reading Jonathan Weisman and Neil King's article about President Obama's tendency to get down into the details of economic policy in his daily briefings/discussions with his economic advisers. The article has already been discussed in the econoblogosphere, and most people seem to share my view: while informative, the article was surprisingly sloppy for the WSJ news section, and was frequently just wrong. One error in particular really stuck out to me, but I haven't seen anyone mention it yet. Weisman and King claim that Obama became frustrated with his economic team's discussion of derivatives regulation in "early July":

[Rahm Emanuel] says Mr. Obama was frustrated his team wasn't offering up a full range of views on how to approach derivatives regulation. "Get me some other people's opinions on this," Mr. Emanuel recalls the president as saying. "I want more than what's in this room." In the end, the administration tweaked its position on derivatives. In legislative language drafted this week, it is seeking to require financial firms that offer customized derivatives to maintain higher capital cushions.

The problem with this is that the administration has been proposing higher capital requirements for customized derivatives from the beginning—that is, it's been part of the administration's OTC derivatives proposal since the proposal was unveiled in June. The administration's white paper (pdf) on financial regulatory reform, which was released on June 17th, addressed this very clearly:

Counterparty risks associated with customized bilateral OTC derivatives transactions that should not be accepted by a CCP would be addressed by [a] robust regime covering derivative dealers. As noted above, regulatory capital requirements on OTC derivatives that are not centrally cleared also should be increased for all banks and BHCs.

Weisman and King make it seem like Obama's desire to hear outside views on derivatives regulation led the administration to adopt a tougher stance on derivatives regulation in its final proposal. The implication is that Obama's economic advisers (i.e., Geithner) favored a more Wall Street-friendly approach to derivatives regulation, but that Obama was swayed by arguments from outsiders, and ended up going with a final derivatives proposal that's tougher on the Wall Street dealers. That's a nice story (which Rahm probably fed to Weisman and King), but it's simply not true, and they would have known that if they had taken the 5 minutes it takes to read the administration's original proposal for OTC derivatives reform—which is a daunting 2 pages long (see pp. 47-48). If Obama did, in fact, demand a renewed and wider debate on derivatives regulation in early July, that debate didn't lead to any material changes in the administration's derivatives proposal. Brad DeLong's familiar lament seems appropriate here: Why oh why can't we have a better press corps?

I see that Gretchen Morgenson has another ridiculous article about Goldman's (mythical) involvement in the AIG bailout. The article focuses on the fact that Hank Paulson talked to Lloyd Blankfein more times than he talked to other CEOs in the week after Lehman failed. The article is misleading in extremis, and relies heavily on innuendo and misdirection. The clear suggestion is that Paulson bailed out AIG to save Goldman. The obvious problem with that argument is that AIG was bailed out by the Fed, not Treasury. But I want to address a premise of the article: that Goldman had substantial exposure to AIG. Of course, Morgenson takes it as a given that Goldman had substantial exposure to AIG—since, hey, she's the one who started that rumor in the first place! Unfortunately, it's just not true: Goldman had hedged its exposure to AIG. But since there's apparently not a journalist in the country who understands what it means to be "hedged" (other than Shannon Harrington of Bloomberg, who is top-notch), I'm going to break down the Goldman-AIG trading relationship as clearly as I possibly can. Now, I've never had a talent for explaining complex issues in clear, easy-to-understand terms, so bear with me. The most important thing to understand is this: "Exposure" in credit derivatives is equal to the cost of replacing a credit derivative in the market, not the notional amount of the transaction. Think about it: the total notional amount of CDS that Goldman bought from AIG was roughly $20 billion, but AIG didn't "owe" Goldman $20bn. It had merely promised to protect Goldman against future losses on certain CDOs up to $20 billion. If AIG had failed, Goldman would have lost that protection, and would have had to buy the same CDS contracts from someone else to replace the lost protection. Therefore, Goldman's "exposure" to AIG was equal to the cost of replacing the CDS trades it had on with AIG. Now we can break down the Goldman-AIG trading relationship, which Goldman CFO David Viniar laid out in this conference call:

• Goldman bought roughly $20 billion of total CDS protection on various CDOs from AIG.
• In September 2008, the cost of replacing the CDS protection that Goldman had bought from AIG was $10 billion. [Direct exposure to AIG = $10 billion]
• Against this $10 billion, Goldman held $7.5 billion in collateral, the vast majority of which was in the form of cash. [Direct exposure to AIG = $2.5 billion]
• The remaining $2.5 billion was hedged via CDS on AIG—that is, Goldman bought CDS protection on AIG from a third party. [Direct exposure to AIG = $0]

Goldman's claim that it held $7.5 billion in collateral when AIG almost failed is supported by this 8-K filing by AIG, which shows that Goldman held $8.4 billion in collateral by late November 2008. Now, we can argue about whether the counterparties that sold Goldman CDS protection on AIG would have been able to pay if AIG had been allowed to fail—I'm perfectly willing to have that debate. Unfortunately, we don't know who those counterparties were. Standard single-name CDS are collateralized and marked-to-market every day, though, which means that as the CDS spread rises, the protection seller has to post more and more collateral. So it's likely that by the time AIG collapsed, Goldman's counterparties had already posted most of the $2.5 billion in collateral. So there you go: $10 billion of exposure, hedged by $7.5 billion in collateral and $2.5 billion in CDS on AIG. I don't think I can make it any clearer than that.

Ben Stein finally loses his NYT column. Felix Salmon, who has been calling for the NYT to fire Stein for almost 2 years, is obviously thrilled. Sadly, the official reason for his firing wasn't "gross incompetence" (although it could have and should have been). The official reason was his appearance in commercials for FreeScore, a deceitful company that charges people to look at their credit report (which you're entitled by federal law to see once a year for free, from each of the 3 credit reporting agencies). It's about time.

I'm a little surprised that the source of Goldman's record profits in Q2 is being treated as a Great Mystery. Both John Hempton and Rick Bookstaber, for example, wonder aloud where Goldman's profits are coming from. Of course, Goldman doesn't explain their trading strategies to us, as some people apparently think they should. But even so, I think it's pretty clear where Goldman's profits came from. Here's my take on it. Conditions in Q2 couldn't have been better for a market-making dealer bank with a strong balance sheet, and Goldman is, without a doubt, the quitessential market-maker. For that reason, the following factors likely played a big role in Goldman's blowout quarter: 1. Volatility. While down relative to last fall, volatility was still pretty high. Carrying inventories of securities for trading purposes—which is what market-makers do—is riskier when volatility is higher, so dealers demand wider bid-ask spreads to compensate for that risk. (The bid-ask spread represents the dealer's profit on each trade.) That means Goldman's trading business would have been more profitable even if its trade flow had remained at normal levels. 2. Reduced competition. With Lehman and Bear Stearns out of the picture, and many other dealers struggling, Goldman and a few other major dealers—e.g., JP Morgan, Credit Suisse—have been increasing their market share. With fewer market-makers out there to choose from, the remaining dealers have been handling increased trade flows—which, as I said, is now more profitable per trade, due to the high volatility. 3. Mass portfolio rebalancing. Goldman's increased trade flow didn't just come from Lehman and Bear cast-offs. Banks and investors all over the world undertook a dramatic rebalancing of their portfolios last quarter. Pretty much every investment firm in the world went into an uber-defensive position last fall, which meant lots of Treasuries and lots of cash. Firms didn't come out of their financial bomb shelters en masse until there was sufficient certainty about the path of the world economy, which didn't really come until last quarter. As governments worked out the details of their financial rescue packages firms started to rebalance their portfolios and reallocate capital (I hate the phrase "reallocate capital," but I can't think of any other way to say it right now). This mass portfolio rebalancing really took off after the U.S. government completed the so-called stress tests and many banks quickly raised capital; there was a palpable change in investor sentiment after the stress tests were completed. The point is that nearly every investment firm in the world was exiting old trades and entering into new ones, which increased the trade flows for the major dealer banks like Goldman even more. 4. Steep yield curve. The yield curve was also relatively steep throughout the second quarter—the 10yr/2yr was over 200bps for nearly the entire quarter. A steep yield curve helps dealers' rates trading desks, as they tend to be long duration. The conventional wisdom is that rates trading desks had a huge quarter, and the fact that most of Goldman's revenues came from FICC is consistent with that story. Plus, bond issuance volumes were still off-the-charts in Q2, so in addition to earning a share of those fees, all of those embedded interest rate swaps would have boosted Goldman's rates trading desk as well. I'm sure there were other factors too—like the negative basis trade starting to snap back and benefit the firms that were able to stay in them—but the factors I highlighted seem to offer the best explanation. To me, at least. I could be wrong. It certainly wouldn't be the first time. (I didn't include high frequency trading (HFT) because, like John Hempton, I just can't imagine that HFT is anywhere near that profitable for Goldman. In fact, they put out a statement saying that HFT, broadly defined, accounts for less than 1% of total revenues. That sounds about right. I think the whole HFT thing has been blown way out of proportion. And by the media, no less! What's next, Republicans advocating for tax cuts?)

I was traveling all day yesterday, so I had a chance to read almost all of David Wessel's new book, In Fed We Trust. I think it's very good (and, just as importantly, accurate). Among the most interesting quotes/revelations from the book are:

• Hank Paulson, to Geithner and Bernanke, on the possibility of bailing out Lehman: "I'm being called Mr. Bailout. I can't do it again."
• Fed governor Kevin Warsh, on Lehman: "If there had been a buyer, the guys on the first floor [the Wall Street CEOs] would have filled the hole, and if they wouldn’t have, we would have."
• Bernanke, on Lehman (emphasis mine): "Bernanke also made it clear that had Congress given the Fed and the Treasury more authority sooner — for example, had the Troubled Assets Relief Program (TARP) been enacted earlier — he would not have let Lehman fail. 'We could have saved it. We would have saved it,' he said in an interview in October 2008. 'Even then, it would have been politically tough because of the risks to the taxpayer that would have been involved. And, of course, if Lehman hadn't failed, the public would not have seen the resulting damage and the story line would have been that such extraordinary intervention was unnecessary.'" (This actually strikes me as very politically astute. Bernanke was right, of course: if they had asked Congress for the TARP any sooner than they did, they would have been laughed out of the room.)
• Geithner, to Sheila Bair, who—amazingly—wanted to wipe out Wachovia bondholders: "It has to be this way. We just went to Congress for $700 billion. The policy of the U.S. government is that there will be no more WaMu's." [Emphasis mine]
• Geithner, on his decision to bail out AIG after initially indicating that he probably wouldn't: "I just changed my mind, and I wasn't alone in changing my mind."
• Harvard economist Martin Feldstein, in his capacity as an AIG board member, actually opposed accepting a Fed rescue. According to Wessel, Feldstein "said it wasn't the government's role to forcibly buy private companies." (Apparently Feldstein thought his duty was to his personal economic philosophy, rather than to the shareholders. What a clown.)
• Bernanke, on why they bailed out AIG but not Lehman: "'The impact of AIG's failure would have been enormous,' Bernanke [said]. 'AIG was bigger than Lehman and was involved in an enormous range of both retail and wholesale markets. For example, they wrote hundreds of billions of dollars of credit protection to banks, and the company's failure would have led to the immediate write-downs of tens of billions of dollars by banks. It would have been a major shock to the banking system.' Even banks that weren't intertwined with AIG would have been hurt, he said. 'Since nobody really knew the exposures of specific banks to AIG, confidence in the entire banking system would have plummeted, putting the whole system at risk.'"
• Sheila Bair sucks. Okay, this isn't really a new revelation, but still, Wessel's book drives home that Bair is truly an atrocious regulator. She sought to undermine Bernanke, Geithner, and Paulson's efforts to save the financial system whenever she got a chance. This is in addition to the colossal mistake she made in forcing WaMu's bondholders to take huge losses at the absolute height of the panic. No wonder the other regulators were so eager to avoid including her in any rescue policies. She has a grand total of 0 years of experience in banking, and is concerned with only one thing: her image. The sooner this walking train-wreck is out at the FDIC, the better.
• Sen. Harry Reid, cautioning Bernanke and Paulson (as well as Pelosi, Boehner, and McConnell) that TARP may not sail through the Senate quickly: "This is not an easy thing to do. ... This needs hearings. I know the Senate. It takes two weeks to pass a bill to flush the toilet."

Good stuff from Wessel. Highly recommended.

Every time Paul Krugman writes a column about something other than finance, I wholeheartedly agree with him, like I always have. But his columns about finance are downright uninformed and naïve. Unfortunately, today's column is about finance. Krugman claims that both Andrew Hall, the head of Citi's coveted commodities trading operation, and high frequency trading (HFT), are "bad for America." Why? Because, according to Krugman, "speculation based on information not available to the public at large" is socially useless, and could even be destructive. Where to start? First of all, Krugman confuses HFT with "flash orders," which is when an exchange or ECN shows an order to certain algorithmic traders about 30 milliseconds before showing it to everyone else. Flash orders allow trading based on private information, and should legitimately be banned. But HFT isn't the same thing as trading based on flash orders. High-frequency algorithmic trading that isn't based on flash orders (the vast majority of HFT) isn't trading "based on information not available to the public at large." The information has indisputably been released to the public at large. (The fact that algo traders can react to the information faster than Joe Retail Investor doesn't make the information any less public.) The Jack Hirshleifer paper he cites to support his argument is therefore completely inapplicable. Krugman clearly didn't fully understand the concept of "high frequency trading" when he wrote the column. Yet just six days ago, in a post criticizing Martin Feldstein for writing plainly inaccurate op-eds on health care, Krugman said, "Yes, I write about subjects on which I’m not an expert — but I do my homework first." Umm, not this time. Krugman's argument against Andrew Hall is just plain illogical. He starts out by saying:

Just to be clear: financial speculation can serve a useful purpose. It’s good, for example, that futures markets provide an incentive to stockpile heating oil before the weather gets cold and stockpile gasoline ahead of the summer driving season.

But then he claims that Hall's job is "bad for America" because—I kid you not—he makes his money as a speculator:

The Times report suggests that [Hall] makes money mainly by outsmarting other investors, rather than by directing resources to where they’re needed. Again, it’s hard to see the social value of what he does.

It's not possible to reconcile these two statements. It's simply inconceivable that Krugman—one of the best economists of his generation—actually believes his argument against Hall. I'm sorry, but Krugman's columns about finance are just as irresponsible as Feldstein's op-eds about health care.