The Enlightened Despot

Something has always bothered me about Tim Geithner, and I finally put my finger on it: he was bad guy Eric in Billy Madison!:

Yesterday, pundits and bloggers got to play one of their favorite games: Stock Exchange-Pathetic Fallacy Madlibs. The rules are very simple: start by assuming the stock market is a living, opinionated being that reads the newspapers, pick a recent movement in stock prices and a fun, more-or-less coeval news item, then write a few sentences explaining how the market chose to do the former because of its feelings about the latter. So a few weeks back we had ongoing debates about whether the Dow was terrified of our first socialist president or sulking in its room because Republicans weren’t playing fair.

To be fair, what went on yesterday wasn’t quite as silly as this. For the most part, analysis of this sort shows every sign of just being made up after the fact. The markets do something dramatic, and a fable explaining why is created out of the news of the day. This sort of analysis is generally worthless, as I’ve written before. There are, however, some events which everyone expect will have a noticeable, very short-term effect on markets ahead of time. The most common examples are Fed meetings - everyone waits with bated breath to here what the new interest rate targets will be, and, whatever decision comes down, traders go nuts. In these cases, it at least makes sense (usually) to say that there is a causal connection between the news and the market activity; the release of details about Geithner’s plan was certainly such an event.

But the fact that we can reasonably assume stocks have risen at least in part as a reaction to the Geithner plan, it doesn’t at all follow that that market activity tells us anything interesting about the plan or whether it will work. For starters, investors don’t become more bullish about stocks when they get good news, they become more bullish about stocks when they get news that is good for the companies in question. If Congress were to pass legislation promising trillions of dollars to banks to round up and drown puppies, bank stocks would no doubt soar. But this wouldn’t be evidence that the market thought the puppy-drowning scheme was brilliant; it would be evidence that the market responds predictably to the transfer of trillions of dollars.

Secondly, consider this, from King Felix:

I had a brief discussion with Jesse Eisinger yesterday about the stock market reaction to the Geithner plan. The central question: do you look at the level of the index, or do you look at the amount that it moved over the course of the day? Geithner’s first attempt at introducing the plan resulted in the Dow falling 382 points to 7,889; Geithner’s second attempt saw a 497-point rise to 7,776.

If you ignore the direction and just focus on the Dow as a snapshot of how the market feels about the prospects for the economy, you could make a case for investors being more optimistic the first time round than than they were yesterday. That’s true even if you look at a sensible index like the S&P 500, which closed yesterday at 823, down a smidgen from its February 10 close of 827, rather than looking at the silly but ubiquitous Dow average.

Ultimately, Felix is simply trying to make the point that “it’s ill-advised to use day-to-day movements in the stock market as much of a barometer of anything.” But in his example, looking at the price rather than the short-term performance makes things even worse. As discussed above, the entire exercise is nothing but hand waving unless we are looking at extremely short-term movements in the immediate aftermath of a major announcement where we can confidently assert a straightforward causal connection; once you start looking at even slightly longer-term (and more meaningful!) trends, you can’t really talk about the market reaction to, in this case, Geithner’s plan, because there are too many other factors affecting stock movements.

Ultimately, though, what really makes these market jumps useless as a means of evaluating Geithner’s plan - or anything else - is that we actually shouldn’t expect the stock of, say, Citi to go up if investors think the plan will help Citi and down if they think it will hurt the bank. Rather, we should expect Citi stock to go up if the plan that is announced is more helpful to Citi than they expected it would be. Investors knew that a plan would be announced - just as they know when the Fed is going to make an announcement about target rates. So their expectations should already be priced in to the relevant stocks before the announcement is made. Good news should lead to a drop in prices if investors expect great news. Bad news should lead to short-term gains if investors expect terrible news. So unless we’re very sure that the market was optimistic about Geithner’s plan before the details were announced, we really can’t know what to make of what happened immediately after.

Republican Senators Hatch and Graham - not a duo likely to bolt across the aisle any time soon - have downplayed the Treasury Secretary nominee’s history with (supposedly accidental) non-payment of taxes. Hatch says that none of us are perfect, while Graham pleads that this is not the time for partisan interference with appointments to top economic jobs. So, nothing to see here, right?

That is the conventional wisdom at this point, but Michelle Malkin laughs at convention (and isn’t so wild about wisdom, either):

Time for the Geithner withdrawal betting pool. My guess? Friday 6:45pm Eastern.

I’m going to go with March 2011. This seems like one of those scandals that will be slow to develop…

A mixed day for the rumor industry. A batch of cabinet nominees were announced, headed up by Geithner and Summers, as was widely expected. On the other hand, there’s this from Ben Smith:

Obama’s staff won’t elaborate, but the President-Elect said just now that he’d roll out a plan to cut the federal budget tomorrow — something both presidential candidates said they’d do, but neither detailed.

“[T]o make the investments we need, we’ll have to scour our federal budget, line-by-line, and make meaningful cuts and sacrifices as well – something I’ll be discussing further tomorrow,” Obama said.

He said later that he’d be rolling out “some reforms in Washington” tomorrow.

Where were the leaksters on this one? Now, speculation on the next Secretary of Agriculture is fun for the whole family, to be sure. But broad cutbacks on wasteful spending was a not insubstantial part of the whole ‘changing the way Washington works’ thing our next President couldn’t stop talking about during the election. Surely tomorrow won’t represent the final word on the subject, but this seems likely to be the most substantive look at an Obama administration in action to date, and putting together any sort of proposals along these lines would have taken some serious man power. Yet - as far as I know - no one reported this until it was officially announced. So maybe this team still isn’t that leaky when they really don’t want to be…