When Henry Paulson was asked about the global economy two years ago, at a time when many financial analysts were upbeat, the Goldman Sachs chief executive cautioned that “there still are a number of yellow flags out there.” In a February 2004 interview with USA Today, Paulson explained: “There is no doubt that the twin deficits (budget and trade) are significant problems that everyone needs to be concerned about.” Now that Paulson has been nominated to be America’s next treasury secretary, he will be doing plenty of worrying himself.
His nomination comes at a time of unusual volatility in financial markets – after a mercurial month of May that has seen sharp declines in commodities, the dollar, emerging markets and major stock markets. Investors who once looked for reassurance to the father figure of global finance, Alan Greenspan, now see the inexperienced and accident-prone Ben Bernanke at the Federal Reserve.
Paulson brings the soothing cachet of the Goldman name, which will remind investors of Robert Rubin, another former Goldman CEO turned treasury secretary, who won plaudits for his steady hand during periods of global financial instability in the 1990s. The two actually have quite different banking pedigrees: Rubin made his name as a trader, betting billions on his understanding of the markets.
Paulson, in contrast, comes from the mergers-and-acquisitions side of the business, which stresses deal-making skills and relationships with powerful clients.
The political significance of the Paulson nomination is that it further demonstrates the Boltenization of the Bush White House.
Since taking over as chief of staff two months ago, Josh Bolten has overseen the firing of Porter Goss as CIA director, the installation of the telegenic Tony Snow as White House spokesman and now, the posting at Treasury of a man who epitomizes what’s left of the old Republican Establishment – not just a white-shoe investment banker, but an environmentalist, to boot.
“If you do run into problems, it’s important to have someone at Treasury people respect. They do respect Hank, and they should. He’s a good choice,” Rubin said.
Rubin is now chairman of the executive committee of Citigroup.
Lawrence Summers, who succeeded Rubin as treasury secretary in 1999, agrees that it’s a good time for the Bush administration to bring in financial expertise from Wall Street. “With uncertainty in oil markets, a buildup of speculative pressures and the large U.S. current account deficit, there is a real possibility that Paulson’s crisis-management skills will be tested,” says Summers, whose stint as president of Harvard University will end in June.
What’s roiling the markets? My own guess is that we’re seeing the early signs of a correction of the financial imbalances – especially the towering U.S. budget and trade deficits – that have long worried economists. Though it wasn’t widely noted at the time, the roller coaster left the station when the G-7 finance ministers met April 21 and issued an unusual special communique promising to bring the global economy back into balance through “shared responsibility.”
In practical terms, that meant the dollar would fall and the Chinese yuan would rise – leading to a slowdown in U.S. consumption and an increase in saving.
That rebalancing formula is just what deficit-worriers had been urging for several years. And over the long run, it’s sure to put the global economy on a steadier growth path. But to many investors, the rebalancing signaled the end of the “Goldilocks economy” that had depended on easy money and ever-buoyant U.S. consumers. It was as if the financial laws of gravity had been reaffirmed after several years when they seemed to have been suspended.
The problem with rebalancing is that people with lopsided portfolios often get caught short. Hedge funds have been scrambling the past few weeks to unwind positions that suddenly looked vulnerable, and in mid- May a financial advisory firm called Bridgewater Associates sent out a message to clients headlined “The Tremors Before the Big One,” warning that “We believe the odds of a dollar/U.S. debt crisis in the next twelve months are elevated (say 50 percent),” according to a market commentary by Dow Jones’ MarketWatch.
Battered by Iraq, Iran and other international worries, the Bush administration needs global financial turmoil like a hole in the head.
In picking a treasury secretary from the most elite perch on Wall Street, the administration finally has someone in that job who can deal with a financial crisis if it comes. But that doesn’t mean Paulson can head it off. For now, all he can do is watch for the yellow flags – and keep worrying.
David Ignatius (davidignatius@ washpost.com) is the former editor of the International Herald Tribune.
