John Embry and Andrew Hepburn provide a valuable entry into the world of finance.
The two analysts illuminate the shadowy trail of the "Plunge Protection
Team" in its apparent mission to rig the American stock markets.
Their account is backed up by considerable indirect evidence, as well as statements
by credible insiders. If their account is correct, it means that US markets
look a lot like the Japanese markets that were long derided for being subject
to repeated official manipulation. A more important conclusion may be that US
markets are even shakier than many believe.
The trail that the two analysts follow is long, dating to just after Black
Monday, October 19, 1987. On that day, the US stock market abruptly crashed.
The Dow Jones average dropped by 508 points, to 1738. It threatened to do even
worse the next day when, after a brief rally, it went into reverse.
The markets seemed on the edge of a meltdown, but the abyss failed to open
up. This lack of a meltdown has generally been attributed to the Federal Reserve
Board's (FRB) steady hand and promises of liquidity. But sophisticated research
on the events of those two days indicates that a sudden and unprecedented rise
in the Major Market Index (MMI) sparked a recovery across the board. There is
good reason to suspect that this recovery was the result of concentrated buying
by a few firms.
It was after this crash that the President's Working Group on Financial Markets
was put in place to prevent destabilizing declines. The Plunge Protection Team
was institutionalized in 1989 as a follow-up from this working group, and originally
included the top public-sector financial authorities.
Its role was apparently tested with the Friday, October 13, 1989 stock crash.
In this case, too, a sudden rush of aggressive buying of index futures contracts
via the MMI saved the day. There appear to have been a considerable number of
interventions in the wake of that, with the group expanding to include the heads
of major banks.
Thus, for example, the markets after September 11, 2001, received a heavy dose
of intervention. The need for this intervention was so great that its outlines
emerged quite clearly in the press.
The Japanese, not surprisingly, appear to be part of the scheme as well. The
authors show that there was plenty of consultation between Japanese financial
authorities and their American counterparts in the lead-up to the Iraq War.
There are also strong indications that the markets were not left unfettered
to render their own verdict on the wisdom of the war, in the anxious days leading
up to its outbreak.
There is abundant evidence adduced in the article. It is important to note
that the authors are not against intervention per se. They note that letting
plunging markets fix themselves could result in economic chaos. But they do
warn that the secrecy and growing involvement of private-sector actors threatens
to foster enormous moral hazards.
Major financial institutions may be acting as de facto agencies of the state,
and thus not competing on a level playing field. There are signs that repeated
intervention in recent years has corrupted the system.
This aggressive manipulation of the system took place on Alan Greenspan's watch
as chairman of the FRB. The authors don't discuss the fact that Greenspan is
to retire at the end of next January and the White House is having trouble finding
a replacement in whom the markets will believe.
It may be that no credible candidate wants to take the baton from Greenspan
at a time when it seems likely that the market will implode. Observers note
that earlier changes of the FRB chair have generally been followed by much buffeting
in the markets as they test the new maestro.
Market drops are common. Present risks include the American housing bubble
blowing out, oil prices exploding, and inflation blowing in, at a time when
the twin deficits of trade and budget are already in the troposphere.
This situation points to the likelihood that the Plunge Protection Team will
be working overtime early next year.