Wearing Blinders on Wall Street

Wearing Blinders on Wall Street

You have to wonder what they're smoking up there on Wall Street.

With the housing decline still accelerating, the dollar tanking, profit growth slowing, buyout deals cratering, commodity costs soaring, and consumers and businesses showing signs of pulling back on spending, you'd think investors might be a bit anxious or concerned.

But instead of worrying how much further stocks might fall, the Wall Street chatter is all about when the market might reach new record highs.

This misguided optimism stems in part from traders' growing relief that the credit market freeze is beginning to thaw. Some deal financing is getting sold, more commercial paper is rolling over and bank borrowing from the Fed has all but stopped. Compared with the meltdown scenarios for the credit markets contemplated a month ago, things look noticeably less scary.

But more vexing is the hyper-confidence generated by the Federal Reserve's recent rate cut, as if it was some magic cure-all for the markets and the economy.

Never mind that the market price for overnight lending -- the dollar Libor rate used as a benchmark for much commercial lending -- stands at half a percentage point above the Fed's target for the federal funds rate.

And never mind that the longer-term rates that determine borrowing costs for most businesses and consumers have increased, not decreased.

It's becoming clear that for the generation of hyperactive young hot shots who now dominate trading on Wall Street what happens in the real economy hardly matters. For them, the markets are reality -- a virtual reality that unfolds minute by minute on the computer screens flashing before them. It is a reality with its own vocabulary, its own rythms and its own logic. But it has also become a dangerously self-referential reality, uninformed by history, unconcerned about genuine value creation and unhinged from common experience.

Financial markets used to be prized for being so foward-looking. How ironic that in the process of becoming bigger and more efficient, they seem to also become more inward-looking.

World Bank and IMF Transitions

With the installation of Robert Zoellick as the new president and Dominique Strauss-Kahn the new managing director, the World Bank and the International Monetary Fund have been blessed with impressive new leaders. But more than 60 years after they were created, Washington's two great international economic institutions still want for a new mission and rationale.

Although its rhetoric suggests that the bank is a critical source of advice and development capital for the poorest countries, most of its loans go to "middle-income" countries such as China, India and Brazil that don't particularly like the advice and have easy access to global financial markets, but aren't about to give up the bank's lower rates and easy terms without a fight.

And at a time when several trillion dollars are traded every day on global markets that set the relative price of different currencies, it's hard to know exactly what role can be played by an IMF that was set up to manage a world of fixed currencies with all of $300 billion at its disposal. Now, with central banks around the world flush with reserves, the fund's biggest problem is finding enough borrowers for its many-strings loans so it can cover the cost of its large and well-heeled staff.

Predecessors to Zoellick and Strauss-Kahn put reinvention at the top of the agenda, but both met stiff reisistance from entrenched bureaucracies and countries on their governing boards. One fears the same fate is likely for the new guys unless they find a way to bring market discipline to more of their operations and open their decision-making to greater public scrutiny.