Jeremy Nowak at Woodruff Arts Center (transcript)

Transcription of the presentation by Jeremy Nowak, president of The Redevelopment Fund and a member of the Board of Directors of the Federal Reserve Bank of Philadelphia. Tuesday, October 14, 2008. Introductions by Ben Cameron and Bob Lynch

Ben Cameron:

Tonight's session is called Ten Reasons to Commit Suicide or Have a Strong Drink After, as we begin to turn to the state of our national economy.

Now tonight's session according to the original agenda, as some of you may know, was originally intended to be an election year focus summit, and we invited both delegates from the Obama and the McCain campaigns to submit their platforms and send representatives to talk to you. If you haven't seen them already in the lobby at the hotel I'd urge you to check them out.

The Obama campaign responded to us with a long statement that addresses arts education, the NEA, cultural diplomacy, international exchange, artists' healthcare and PACs propositions for artists.

And even though the McCain campaign subsequently has submitted a paragraph basically addressing the importance of arts education, at the time we got into our final planning mode, we had yet to hear back from that campaign and with Mississippi about to happen we thought one debate where one podium was empty was probably enough, so…

Given…boy I'm going to get in so much trouble, aren't I? Given also as well the state of the national economy we decided to seize the moment and really pursue in greater depth the discussion that was foremost on everyone's mind: What is going on in the national economy? What are the conditions that have contributed to where we are now? And as grantmakers and as servants to the not-for-profit arts sector, how should we be thinking about solutions and what we can do in this difficult time?

We are graced tonight to have a wonderful, fantastic, brilliant economist expert who's going to give us all the answers. But in order to introduce him, let me turn the podium over to Bob Lynch, a man many of you know, and if you don't, you well should. For 12 years he led the National Association of Local Arts Councils which subsequently merged with 12 more _____. He's led Americans for the Arts. What his bio will not tell you is that after one Beefeater martini, very dry, with three olives, he does a mean Jerry Lee Lewis and can pound the keyboard with a “Great Balls of Fire” you'll never forget. Here he is, Bob Lynch.

Bob Lynch:

Thank you Ben. Actually this year of tracking the presidential campaigns has been fascinating and I had a chance to meet several of them along the way. And it's going to get more and more interesting right up to the very end, as you can see from the statements.

But I'm really pleased to be asked to introduce our plenary topic and speaker tonight. I can think of no conceptual artiste or shock-theater production with a more bizarre or controversial theme than tonight's presentation titled: The State of the US Economy. This plot has taken some dramatic and unprecedented twists just while we've been here at GIA. And for me personally, last Monday it got ugly.

Americans for the Arts held its annual budget board meetings in New York City, last Monday. Three months earlier, I had been delighted to line-up a really exciting glittery space for this meeting for this, my 2009 budget presentation, where it has to be voted for approval.

Through the generosity of a board member who's a senior director at NASDAQ, we had the meeting in a high-tech headquarters in Times Square, of the NASDAQ stock exchange. On one of the worst days in American financial history.

And worse for that, we were all in one room with glass walls all the way around. On the other side were people running around crazily, and a two-foot-high giant jumboTron with stock price quotes.

And so as I presented my — I thought conservative — 2009 budget, there behind me on a two-story-high bright, clear, digital screen, the stock market was crashing in huge, visible numbers.

So it has been really good seeing so many of you at this meeting as I won't be traveling very much in the coming years. Call me.

No individual makes an arts decision because of economic impact. No artist is motivated to create work because of economic trends data reports. Nor should they. Yet we all know that the economy affects every part of our art world.

The amount of resources that we, you, have to give away, whether it's a foundation or a business or an individual or government. The amount of money that we as individuals can spend, whether we're trying to enjoy the arts or acquire the arts or make the arts. And the amount that our schools have to spend on arts education.

But the economy is, as we have seen, not a precise science. It's more of an art form, in a way.

The other night in a partnership that we have, a strategic alliance that we're trying to build with the National Association of Business Economists, we were giving an award to a young student who is both an economist student and also a violinist here at Emory University, actually. Jeffrey Sachs was the economist who gave the speech.

And I expected a nice, quiet group listening. And when he started to talk about government regulation and taxes as part of the solution for the future — his idea — a riot broke out in the room with economists taking different sides. Fascinating! Kind of like arts board meetings that I've seen in the past.

So policy-makers in general, public and private, are often very influenced by financial and human numbers associated with any expenditure that they make, including the arts. Mayor Shirley Franklin, for example, referenced figures yesterday for economic impact with Atlanta, the number of jobs, the total economic impact figures, the number of dollars backing government taxes.

So that's why the economy is the number one issue for, in this year's election, local, state, federal elected officials, campaigns, and for the presidential candidates right now. But interestingly, you know, and maybe sadly, it always is. If you remember “It's the Economy Stupid” was the slogan during Bill Clinton's campaigns, both of them.

We're lucky tonight because Jeremy Nowak knows money and economy from several different points of view. He's the president and CEO of the Redevelopment Fund, which he founded in 1985. He manages 500 million dollars in development assets. That company is one of the leading community development organizations in the nation, and it specializes, it uses that financing for things like affordable housing, for a fresh foods financing initiative, which is 50 food markets in underserved urban and rural areas. He served on the Consumer Advisory Board of the Federal Reserve Bank. He chaired the board of the Industry Trade Association, the National Community Capital Association. And in January of 2008, he began a three-year term on the board of the Federal Reserve Bank of Philadelphia.

He knows the nonprofit world, too. Chairman of the board of Mastery Cluster Schools, a network of four intercity cluster high schools in Philadelphia. He chairs Alice's Lemonade Stand, which at first I thought was a small business that he was using as a hedge in case the day gig was… But in fact it's a charity that raises money for pediatric cancer research.

A Ph.D. from the New School of Social Research. A fellow at the Aspen Institute on Entrepreneurial Leaders in Education.

Many papers on topics that relate to some of the topics that we've had here over the last couple of days. The Role of Development Finance in Older Industrial Cities, for example. Or The Role of Development Finance in Urban Environmental Reclamation.

In 1994 the City of Philadelphia gave the Philadelphia Award to him, the highest civic honor in the city.

So here to help us understand this theater we know as the national economy — Jeremy Nowak.

Jeremy Nowak:

It's a pleasure to be here. So the game plan is for me to talk for about 25 or 30 minutes, maybe a little more, maybe a little less, then just open up to have a conversation. And I think that I welcome the conversation.

So my idea was to chat a little bit about some of the drivers of the present mess, some of what is going on right now, and what some of the big macro ideas that have sort of emerged out of that, and then to get it down to some of the things that we as citizens and as philanthropists and as people in the public sector, people that run arts organizations, those artists care about and think about.

And the emphasis I want to make is the importance of we as citizens being pretty informed about this and understanding that these issues are issues that we deserve to have a voice about. Americans have curiously in the last 50 years in particular, but I'd say in fact in large part in the last century, have clearly let go of what Bill Brier once called “The money question”, right?

You think about American history throughout the 19th century, you know, if you ever read about the populist, Larry Goodwin's great book, The Populist Moment, you know it was all about the distribution of credit, it was about, you know, wild speeches about the gold standard and the silver standard. And you think about the first couple of decades of the 20th century and that was true also.

There was a certain point after the 1950s, but particularly from the 1970s onward, we've really sort of abdicated some of that responsibility as citizens, that's become kind of a technical domain that we leave to experts. And technical domain that we leave to experts, sometimes it's okay and sometimes it can be quite problematic, particularly when it defies common sense and logic. So I want to sort of emphasize the importance of our engagement as citizens in this.

I'm speaking here today as Jeremy Nowak, a speaker here today, as the Reinvestment Fund, I'm certainly not speaking here — they'd be rolling over right now if I was speaking here as the Federal Reserve or the Philadelphia Federal Reserve. Although I have to say when I first got there in January, they every once in awhile would look at me in meetings like, “Who let the Visigoths into the doors of Rome?”

And since then I've become sort of like one of the guys, you know? And I mean the guys, and particularly because I had a view in January that was much closer to where we are right now. So now every once in awhile someone says, “What do you think is going to happen next, Nowak?” So it becomes quite curious.

Alright anyway, so just some of the fundamentals, the little bit that we know about, and uh some that maybe you don't.

So we had over, you know, a long period of time, six, seven years, this extraordinary housing bubble. And that housing bubble, many of us benefited from, many of us didn't benefit from. It was driven by what economists call “liquidity.” There was an incredible amount of money out there. There was an incredible amount of money out there because the Federal Reserve had really low interest rates. Incredible amount of money out there because developing countries had savings — India, China, those economies were emerging. So you had low interest rates also. You had demography in the US growing, one of the countries in the developed world that still, you know, grows demographically, in large part because of immigration.

You have this sort of surge of housing values. And the surge of housing values was accompanied by something else. And it helped folks facilitate it, but it was also its accompaniment. And that was this extraordinary amount of innovation in the financial services sector. Right? If I'm losing any of you, just you know…

So when I mean innovation I mean both by product — all of a sudden people who, you know, could never get mortgages or could never get debt, they may have paid a lot more than they wanted to, all of a sudden those people could get debt, could get mortgages. And you could do it really quickly and all of a sudden you were being loaned to by institutions that you really never knew existed anymore.

The old world of banking had changed really dramatically over 20 or 30 years, and you had this innovation by product and innovation by institution. What Paul McCulley refers to as the “shadow banking system”, sort of ten trillion dollar shadow banking system of mortgage companies, of all kinds of other institutions, you know hedge-funds, emerged over a period of time.

It was not your grandfather's Buick anymore, this is a fundamentally different kind of system in part driven by deregulation, in part driven by technology, in part driven by globalization. But there was a really keen connection between a household in central Harlem and north Philadelphia, or rural Nebraska and Wall Street. It was a connection that in some ways no one really understood how keenly connected they were.

And at the same time that this happened, you had this emergence, if you remember, as part of this, of sub-prime lending, particularly but not exclusively in the mortgage market. So sub-prime lending in the early '90s was a relatively small part of the mortgage industry. It grows rapidly, particularly when you can now bundle them together, sell those, you know, securities out in the mortgage market, and get rid of those mortgages. You know, you don't hold them anymore, you get investors that buy them.

So you have this emergence of sub-prime lending, a small piece of the mortgage market in the '90s grows evermore significantly. And then over the last couple of years, I mean becomes a huge part of the mortgage market. And people are warning, you know, if you read Ed Gramlich who's a terrific guy who died unfortunately a few years back, wrote one of the great books on sub-prime lending. He was a Fed Reserve governor, and if you read Ed's work, Ed was warning Alan Greenspan and others that something was going on here, we'd better pay more attention to it than maybe we're paying, it may have some hazard to it, right?

Now you know my organization, among the things it does, it does a lot of policy work. So we would be doing the analysis, going back ten years ago we'd be looking at the rise in sub-prime lending, we were looking at all this explosion of foreclosures even way before you have these adjustable-rate mortgages. And we're seeing all this and we're seeing all these people that are getting loans that, quite frankly, the housing values don't justify, and neither do their incomes. And often they don't understand the terms, and certainly don't understand the consequences of those loans.

And to some extent you didn't simply have a sub-prime mortgage market, but you had a sub-prime financial system. You had an extraordinary amount of, you know, car title loans, you know, payday lending, I mean just this explosion everywhere, you know? I mean you just… everywhere you would go.

Last year I was in Phoenix, I don't know if anybody here's from Phoenix, I love the place, but every place I would go, I would see another sign for another funny lending operation. You'd go by the little strip-mall and along with like the drugstore it was like, you know, the lending operation that took your car title and just sort of moved it. And those little places that looked like sort of marginal parts of the financial system, all of a sudden they're not such marginal parts of the financial system because they're keyed-in to Wall Street securities, right? That's where they're getting, as economists would say, “they're liquidity.”

I'm not trying to make this too complicated but you have this transformation of the financial system, and the transformation is extraordinary. And that transformation is something where, you know, when a market is strong, when a market is hot, people that are in markets function a little bit like lemmings, right? You know you just keep going over. When it's good it will never get bad. I mean this is the psychology.

And by the way, now that it's bad, it will never get good, right? I mean this is the problem, right? And maybe this is just sort of human and this is the problem, but at a certain point you've got this middle line incentive, and you've got a very, very disaggregated system, this is what I mean by that. And then I'll sort of just get off this point.

But in a system you've got a broker, somebody that finds the loan for Mrs. Jones. And then they go to the investor, the lender, and then they make the loan. And then separately you've got the appraiser who comes up with the value of the house. And then separately you've got the securitizer who puts together a bundle of mortgages and sells it. And then you've got the rating agency who figures out how it's going to be rated, so that prices it. And then you've got the insurer for the pool. And their incentives are all in some ways — and I'm not saying in any way that, I mean there was some corruption, but for the most part this is about just the misalignment of incentives. Everybody's got a hot market, everybody's making money on this flow of debt, this extraordinary flow of debt is happening in every household.

And one of the results of that — there are several results of that, but one of the extraordinary results to that is the amount of leverage, the amount of debt in American institutions and in American households, skyrockets over a 20 or 30 year period. Absolutely skyrockets! If you measure it against… Martin Wolfe recently in The Financial Times had a really nice little article we looked at, where you looked at the amount of debt in households over 20 years, and how that has increased as a percentage of gross domestic product.

Or same thing with financial institutions, right? All of a sudden you have this extraordinary amount of leverage, and it's risky, right? And you at the same time have deregulation that is going on, and you've got certain kinds of instruments that are supposed to manage risk, they're supposed to hedge risk. And they're out there in the sort of global stratosphere, and nobody really knows how to account for them to some extent, right? You've got now this market for example of 60 trillion dollars worth of something called “credit default slumps.” And nobody exactly quite knows where they are or what they are, there's no clearing house for it.

The New York Times did a wonderful little article on Sunday about the attempt by some people in the government, who were just like us, right? Just regular folks, trying to say, we'd better get a handle on this.

And by the way, this wasn't just the Bush administration; this was the Clinton administration too, right? There's enough blame here to go around.

But as markets were good, as things were moving forward it was just let's just let it roll, it will regulate itself. There's a kind of an ideology here about self-regulation or about the capacity of markets to regulate themselves. And you know, to some extent that's true for certain things, and for many other things it certainly needs a lot of help and a lot of supervision.

And the issue was not just what was regulated or what was not regulated, but the issue was, what was the capacity? Let's actually supervise it and have enough information to understand it.

So you get all of this, and at the same time then the housing market falls down and the value of those assets goes way down, and now you've got the big bust. And the big bust is not just people who are losing their homes, right? Because all of a sudden, you know, the rates reset, the value of their home is much less than the mortgage.

But now you've got something else going on, financial institutions that all of a sudden when they march to market or they look at the quality of those assets or they try to figure out how to get rid of those assets, those assets, those mortgage-backed securities, other kind of mortgage-related paper, other asset-backed securities, that value goes way down and all of a sudden they're not adequately capitalized. They don't have enough equity, they don't have enough net worth.

So we were talking about Alice's Lemonade Stand, it's a wonderful little charity that I've been part of, we've raised 25 million dollars for pediatric cancer largely by selling lemonade stands I would not have predicted. Largely they have lemonade stands, people all over the country, hope you have one in your neighborhood.

I would not have predicted that we would outlive Lehman Brothers or Bear Stearns. I certainly would not have predicted that we have more net worth than Fanny Mae and Freddie Mac combined. And I say this because this happened like overnight! This is unprecedented, it felt like it happened overnight, right?

And so all of a sudden the question was, what was the capacity to respond to this? What was the nature of the, as they sort of say, “contagion” — how much of this stuff is out there, and what would its ripple effect be for the economy at large? And so we know, you know, sort of some of that as it played out.

So you know, all of a sudden you get the Fed and the Treasury Department saying, We maybe have to intervene in ways that we didn't think that they would intervene before, right? I mean this is extraordinary that overnight, for something like AIG, that the Federal Reserve who worked for Bear in the relationship with J.P. Morgan, would intervene in the way that it intervened.

But to intervene, if you're the Treasury Department, or if you're the Federal Reserve, the assumption or the theory — and I believe that people acted on this — would not be that you would intervene just because you wanted to save one institution versus another. That's the theory.

The theory is not that you want to save an institution. The theory is that you think there is systemic risk from one institution going versus another. Right? Now you could ask again, citizens could ask good questions: prove it to me; how do you know; why was it a systemic risk for Bear not for Lehman; what do we not know about it? And you can come up with all sorts of questions about this.

But of course you didn't have much time, and the question was, where do we intervene? Because if we don't intervene and there is indeed this extraordinary amount of systemic risk, right? The system as a whole. Then you'll have a problem.

So you get this in part, and if I were to have a critique of this, as I'm sure many people — you included — would, you get a kind of a reactive mode, right? As events happen, Treasury or Fed begins to react a bit by event. The question was, at what point was there a systemic understanding of the over-leverage of the system, of what markets by themselves could do or could not do, and of what role the public sector would have to play.

Now remember, this was an administration that did not start out to become the largest public intervention in the history of American capitalism, right? This was not on their minds. It was not, “Well you know, we'll do this, versus we'll do that.” Right? I mean they weren't thinking this. This wasn't going to be like Comrade Bush, right? This was not the way they were thinking.

So to do this, you've got to think that a lot is happening and it is going to damage the system in some irretrievable way that would become a significant problem.

So there were two kinds of crises at the same time…is this understandable, by the way? So there were two kinds of crises that they were dealing with, and to some extent, many people felt like there was some confusion at different times about what did they really mean? Or were they right about which crisis versus the other?

To some extent, for some institutions, and we hear this now, there was a crisis of what's called “liquidity.” You know, there's not the money, people don't want to lend. There's not the money to lend. Or, I don't trust what's on your balance sheet. So Lord knows, I'm not going to lend to you, or I'm not going to deposit there, because I don't know whether the bank is going to belly-up. So you've got a question of liquidity.

And then also, at least that last comment was a question of insolvency. So was it about liquidity or was it about insolvency? Right? And for some institutions it's maybe liquidity, for some other institutions it's maybe insolvency. And so the question becomes, where in the financial institution, where in this mess, do you intervene?

So we have a variety of different things. They rolled out one by the other, they still roll out, they still were being explained. We are a long way from the three-page memo that asked for 700 billion dollars with no oversight. But they're still sort of rolling out, right? Like the artist who created people, so it's still rolling out.

So just think of what we've seen in the last six months, I mean it's really extraordinary. We've seen a stimulus package, right? That seems like a million years ago, right? The stimulus package, remember that? And that was like a big deal, a big government intervention in the economy, there was a stimulus package.

Then there was the housing package, the four billion dollars in housing package which was, how do we keep people in their homes? Although it had different, you know, issues related to it.

There were an extraordinary number of guarantee programs to keep people, you know, all of a sudden, you know, government's not only here, but to some extent more effectively in some other countries began to say, we're not going to just guarantee your deposits up to 100,000, we'll guarantee them, as the US said, up to 250,000. And then some countries began to say, “We'll just guarantee them.” Right? Remember? I mean two weeks ago Ireland just said, they'll guarantee it. Right? And Germany said, you know, wait, that's ridiculous. And then by the afternoon Germany said, we're guaranteeing them too, because all the money's going to go to Ireland, right? And so they said, well we're guaranteeing them too.

And then you got, you know, well we're going to guarantee, you know, inter-bank lending, because a lot of how an economy moves, one bank lends to another, you know, you have the __________ (?) in the UK and you have other kinds of inter-bank systems that are mediated through the Fed, and the question was becoming, will we guarantee, you know, all that?

And then you have the question of, you know what “busting the buck” is, everybody's trying to go to a safe place to put their money and the question was, are money-markets safe? And that seems, you know, I mean Lord knows you don't get anything in return, right? So that seems like it's safe. But the second it busts the buck, it goes below a dollar, right, a dollar value for a dollar, then people say, oh my God money-markets aren't safe! Right?

And at that point, the government turned around and said, we're going to find 55 billion… I don't know where this math came from — 55 billion dollars and it is going to guarantee what in essence was up to four trillion dollars of money-market funds. A week, a year, maybe later, we'll see, as my grandmother would say.

So the question has been, for I don't want to be too, you know, sort of silly about this, but in part this is this kind of piecemeal to some extent, you know, country-by-country saying which part of the system do we have to guarantee to keep people's money in…you know, to keep people… And then you were getting these extreme…

You know, I have a friend who's on the board of a local bank in Philadelphia, in the suburbs of Philadelphia in the Mainline, in Bryn Mawr, and he said that they had a person who literally came and wanted to withdraw over 20 million dollars. And they had like, you know, you had a 48-hours notice, and then they had like a Brink's truck went. And it was just some quirky person. And they went, well God, the Brink's truck loaded with 20 million dollars. And they had a big argument about the denominations of the money. But theoretically I guess you can get this.

And they brought the Brink's truck to his house, as I understand, and the person who dropped it off said when he left, half of it was in a safe but there wasn't enough, but when he left at least half of it was on the dining room table, right? I will not give you the address.

But you know what you can't have in a society is that kind of run, right? Whether it's on money-markets or trea…you can't have that! You can't have the sense that there's going to be this general default because you've got this extraordinary amount, you've got these toxic assets out there that are creating a liquidity problem, creating insolvency some places within the global marketplace.

At the same time, you had a whole set of institutions which all of a sudden, it becomes clear that their model maybe worked at a certain point, but the model doesn't work anymore. So standalone investment banks, right? I mean, you know, does everyone know what a leverage rate is? The amount of what you owe to what your equity is. So on a strong bank a leverage ratio would be, I don't know, you'd have 10% capital for the rest of it would be deposits and other kinds of financial instruments that you owe back out.

Well, you know, in Goldman Sachs or Morgan Stanley, the leverage ratios were 35 to 1! That's pretty risky. But they had lots of hedges to that risk. And when markets were good, it was okay. And when markets weren't so good, all of a sudden the model didn't seem to work.

And so what did you see? You saw a whole bunch of investment banks just, you know, go away! Right? And the last two standalone ones, Morgan and Goldman, overnight the Fed said, We're giving you a commercial… We're giving you a bank holding company status, but you've got a couple years to get to that point.

But you know, you could ask, reasonably, what the hell does that mean? It didn't change the model, right? So is there going to be a change even with Morgan and with Goldman? Will they start acquiring banks? Will they become part of a… as mortgages did with a Japanese bank, would they become part of a larger, you know… What will begin to happen and begin to play out?

So you've got this set and then finally you've got the 700 billion dollar, you know, which originally, you know, had lots of different, you know, negotiations, we were all part of this big public dialogue. I know I took several congressional people.

And this by the way is scary. And I mean no disrespect to the great congressional delegation in the Philadelphia area. But I mean, you know, it was a run on the country. So it might be good if they knew what a GSE was, right?

You know, this is actually the part of this that I get nervous about. That we don't know enough about what the… Nobody has to be an expert in any of this. I mean, Lord knows, most of the people who screwed it up weren't. But the question becomes like, do you have enough public knowledge in order to understand and to ask the right kinds of questions, right?

So I remember just chatting with congressional people who would say, you know, “Well where will you go on this? This is what we're hearing from…and where…” And sort of go back and forth on that.

And people like me were, among other things, were pushing, actually along with this, our own view, which was change the bankruptcy bills. Change the bankruptcy laws. Right? That was a huge one.

If you go to bankruptcy court in America right now, the judge can reorganize the debt on your second home or your third home or your yacht. But not your first home. Right? And there I was, like arguing like, seems like that change would be good, you know? You'd be able to keep more people in there just, you know, you'd (noise) they'd say…you know, I don't know, but anyway.

So this question, you know we had this big public dialogue, and now what you're saying is that we move from actually just wanting to buy the toxic assets and try to discover the price of it and get the market going, to maybe a strategy which was unveiled in the last couple days of first investing directly, public dollars in the shape of preferred stock in the banking institutions themselves with the idea that you would recapitalize the banks. Many economists have said that was the way to go. Many other countries went in that direction. Gordon Brown in the UK went (noise) way with that despite the fact that they have a much smaller economy with not as many problems, although plenty of problems and plenty of bank failures. And to some extent it was the global coordination and the understanding it would begin to move in that direction that maybe began to change the tenor and tone of things.

Now…for regular people like us, right? We know a couple different things. Number one, we know that in 15 months two trillion dollars worth of pension wealth got wiped out. I don't know about you, but I'm going to be working until I'm like 190, right? And I mean it's fine, you know? Just forget it. I don't even open it up anymore, right? And I was in conservative stuff. Hopefully it will come back, I'm not trying to make light of it, but that is a huge shift in wealth.

But number two, what we've learned is that there is this absolutely unprecedented transformation that has happened. We know that the rates of innovation far surpassed the ability of not only the public, but also when I say public regulation, also private regulation, to keep up with it.

So did the people at S&P and Moody's — good people, honest people, please I don't mean anything by this, but did they understand the risk profile of the most exotic of these securities? As one person who I won't say who it was because you'd know who that person is, said to me once, “If they understood they would have been working on the street, not working at S&P.” And the guys and the gals who even designed them, sort of understood what they would look like and what the risk profile was of those securities.

So what was the ability to understand that? What was the ability of the insurers to understand that kind of risk, let alone what was our ability to understand what was going on in the financial services industry, and what it meant for us, right, you know, in our households with our credit cards, with everything.

So what we know is that we will have to, one way or the other, we will have to fundamentally… You know, the last time the financial services industry had a huge blast of regulation, the regulation that we largely still are based on, the creation of the SEC, the creation of all sort of the banking infrastructure, that was the 1930s. Things have changed.

So what we have got is a 1930s infrastructure with changes, obviously changes in technology, capacity and changes in terms of all sorts of things. But we largely have got the outline to the 1930s infrastructure for a financial service industry that is radically different, right? And we assumed that the new kinds of securities that were out there, and the globalization of those, was going to actually limit the amount of systemic risk. Alright, that was the argument. And you know, who knows?

Did anybody ever read the book The Black Swan? It's a terrific book, I just love this book. The Black Swan is about…someone dies actually, an investment banker but a sort of epistemologist and a real character. And you know, for years people thought that swans were only white. It was just assumed, swans were white. And then one day some Europeans were in Australia, and they said, “Oh my God! There's like a black swan!” And all of a sudden their world got turned upside down.

So the black swan becomes the metaphor for the fact that we overvalue what we know, and we undervalue what we don't. This is a fundamental human trait.

Now what I would say is that to some extent, this sort of global system sort of that was put together, there were lots of people that said, you know, whether they were right or wrong, that there were risks. Whether this was a black swan event or not, I would say in large part it wasn't a black swan event. The level of global risk that was there, which direction, how systemically it could fall apart, maybe it was.

But I would sort of say to you that we're now in a world that is so dramatically interconnected, right, that there was, for awhile when this first started to happen in August of 2000, and when big actions started to happen in the spring of 2007, if you read business pages, they talked about “decoupling”, the theory of decoupling. Right? Decoupling was the idea that you could have a significant amount of financial problems in one sector of the global economy and we were now at a place where it wouldn't affect the other sectors of the economy.

Well you don't hear decoupling anymore, right? It's sort of a global problem in an unprecedented way, and it takes global infrastructure, and it will likely take not only local and national but global regulatory capacity or supervisory capacity to even have the information to understand the nature of systemic risk.

So we will fundamentally change. We will fundamentally transform sometime in the next several years, the infrastructure. We know for example that we fundamentally have changed the way the banking and financial services industry looks, just from the names of the institutions, right? Look, the last time I looked, and it was awhile ago, there were about 85 trillion dollars worth of bank assets, 90 trillion dollars worth of bank assets. About 8500 banks in America down from about 15,000 during the S&L crisis about 20 years ago. All those 8500 banks, four of them now can draw 60% of all bank assets.

Most banks are these little…you know I sit on the Federal Reserve in Philadelphia, a local fed, and a lot of them are represented by people who run little banks, right? And their view is, we didn't have anything to do with this, why are we getting involved in it? You know, we're just to primarily mail loans in Laxter, Pennsylvania. And this wasn't their world, right?

It's a fundamental world that had to do with money center banks, it had to do with investment banks, it had to do with hedge funds, it had to do with a fundamentally different part of the economy, a more dynamic part of the economy. But a part of the economy that appears to have had, because it was so unregulated, because our information was so problematic, appears to have had a more systemic risk than we can imagine. So we will have a clearing house for this information in a way that we never thought.

We will, at the end of the day, have to figure out how to keep people in houses. Look, the housing market, no matter what happened to the Dow — it was about even today — no matter what happens in the Dow, the housing market still has not finished coming down. This is regionally specific, right? Some regions are fine, they never went up.

The good news and bad news about Philadelphia is it grows kind of like a treasury bond, right? It doesn't have like vroooom then vroom, right? So in most places we don't have these big crashes, right? The big crashes are in like Las Vegas, right? And in whole parts of the South, parts of the Southwest, or parts of the Midwest that never went up, but they're going down pretty fundamentally.

So in many places, it hasn't come down the amount that it has to come down, right? In the real world, when there was a relationship between income and housing value, or a relationship between income and what you could afford on a mortgage. In the real world it was about three and a half dollars of housing value for every dollar of income. Once we transformed that world and people had much too much value for what they could afford, the debt was too great, now it's going to come back down.

The availability of capital, the availability of debt, the availability of easy access helped drive up values. Also created access. Sometimes that was good, sometimes that was problematic, but it did that.

So we're now at a point of coordinated global action. We don't know what direction that will go, but we've got a couple huge issues, obviously, besides how long it takes to get out of the liquidity problem and the salvage problem.

One is, what is the extent of a national recession? Will it be deep? Recession just technically means, you know, negative growth. What will it be? I mean if you looked at America by regional economies, I don't know, Mark Zandi told me 55-60 percent of the country is in a recession, there's been a recession for a long time. But if you look at it in the aggregate, nationally, the question is, are we in a recession? I don't know. You know, it depends, I haven't seen…not in the last quarter but in the quarter coming up, maybe.

My gut says, again, just as Jeremy Nowak, my gut says 2009 will be recessionary and the question is, recessionary, how deep? And how long? Right? And I think that's going to be driven by lots of different kinds of factors.

You know you could already see what was starting to happen with the credit slowdown. You know, when Main Street gets hurt, somebody can't get a line of credit, all of a sudden the home equity loan gets cut off, you know, all of a sudden you get all of these things and people lay people off, and you begin to get this sort of big problem.

All right. So we've got a set of questions, it seems to me. And by the way, I'm delighted to be here because I think, you know…I was here not to do this, but I was here to do a session because I care so much about the arts and its role in not only the rebuilding of cities and other places, but its role in our sort of public life and its role in economic life to some extent. Although as I've always warned, I would never make that the thing that I hang my hat on, because it's far more meaningful than that.

So the question becomes, it seems to me, you could look at this from a variety of different perspectives and I'm sure you all have looked at this from a variety of different perspectives. But let me throw out a few and then we can just stop and we can talk.

So the first thing that's happening in a lot of places is, we've got the problem or the question of a whole new set of relationships. I mean think of your peers, think of the people that you work with.

Is anybody here from Charlotte, North Carolina? So if you're here from Charlotte, the Wachovia Foundation just is in a different situation now, right? So all of a sudden, welcome to Wells Fargo, right? Do you know anybody in Wells Fargo? Well I don't know. We all know, the transaction costs of a new set of relationships, a new set of institutions, people sort of having their feet on the ground and knowing that, that is a big deal. And in many of the places where I know you work and where I work, financial institutions played a significant role. Maybe not as much as we'd like them to, but certainly one of the largest financial institutions plays a significant role in philanthropy.

So we have a shift in relationships, a shift in institutions, and like good relationship managers we are going to have to spend a lot of time rethinking, re-understanding the infrastructure of philanthropy and civic capacity in our places and bringing people in that are not in yet and just arrived off the plane from wherever to, you know, figure out what they're going to do with the new place.

Philanthropic budgets. Philanthropies have done, by and large, pretty well in the boom over the last couple years, and obviously in most philanthropies you give out money based on the percentage of assets.

Philanthropies have also been heavily invested in alternatives, which, depending again, the alternatives meaning REITS and hedge funds and the like. And the question is, for many, you know when we think about philanthropy, generally you're thinking about the five percent of assets that you give out. Well the real action, I hate to say, is the assets that are invested. Right?

You know, if you want to know what somebody does for a living, look at the balance sheet. So yeah, you give out money for a living, but guess what you do for a living? You're an investment house. You're a huge bunch of assets that gets invested. And then you make decisions, like everybody else, on where those things get invested. And you do some things that…and you've got a balance risk, I'm sure. You do it responsibly and you've done pretty well. Some of you that have been in some of the larger, more dynamic hedge funds have done really well. I know some foundations that have got 20, 30, 40 percent of assets and alternatives, private equity hedge funds and REITS, some that have got a lot less. It's based on the theory of your balance sheet where you want to take risk, how good you are about that.

Well all of a sudden, guess what's going on? There's a lot of hedge fund redemptions going on, and a lot of funds are not doing as well, obviously, as they had been doing before, and in fact a good number have shut down.

Now, nothing like the mortgage industry, there's been 289 mortgage companies that have closed since 2007, minor and major. So nothing like that.

But you know, that is going to affect your balance sheet, and if it does affect your balance sheet you probably won't know for a little while. Then the question of what's your capacity to give out money and not to give out money, becomes a big issue.

So do our public budgets. Public sector depends a lot on, you know, fees and ratables, and in a world where real estate markets have largely frozen, where there are fewer transactions, where you could get recessionary effects related to employment and the growth of employment, then you get declining public sector budgets! And if you get declining public sector budgets, then you have the public sector crisis.

And some mayors and some governors are really good at using a crisis to figure out how to do cool, good things…and some are not. In fact most are not. I always said you could measure the quality of city leadership by who uses crisis more effectively than the other. Sometimes you want to manufacture crisis if you can get away with it, just to sort of make tough political moves that you ordinary can't do. So public sector budgets for a little while could be a problem, it depends on the place, it depends on the severity, it depends on which states have rainy-day funds and which states don't have rainy-day funds and how much of them have been used up. But I don't know, about half the states have rainy-day funds. Some states are looking for bailouts.

Philanthropic budgets could become a problem. A huge issue of relationship management becomes the big issue. And many of the small organizations that are the struggling organizations. That are the organizations that do not have big donors and even those that have issues with big donors could temporarily have a problem.

Now here's the good news. The good news is, this won't last forever. But reality says that these problems will last for awhile. And so it seems to me our job as citizens, as philanthropists, as public sector people, as civic activists, is to look at it squarely for what it is. You know the biggest problem in the last ten years is we sometimes have pretended that things weren't as they were. Right?

We did a study in Philadelphia where we took 13,000 mortgages of the secured debt in 13,000 households, and we did an archaeology if you will, of those 13,000 households. We published it in a book called Lost Values. And we did the nitty-gritty, right? Of just trying to see what happened over a period of 10, 15, 20 years. This is an extraordinary story of what happened.

Once you have looked at things as they were, you began to, you know, get a little nervous. So it's a time to look at things for what they are, and to take, it seems to me, smart action to prepare both for the immediate and to prepare for the way back out. Right? So it's a time for smart collaboration. It's a time for efficiencies. It's a time for sharing information. You know there are generally two things people don't like to talk about, and money is one, you can guess what the other is, right? Money and relationships, is a nice way of saying it. So people, if anything, are going to hold back in talking about that, right? Nobody ever walks around and says, “Well gee, how's your balance sheet doing? You know? Or “Did you get messed up in that?” You know, “If mutual funds went down by 40%, what's that going to mean for you?”

The question is, can we, in our places, come together, look at this not in a pop… You know, there is this tendency in pop-thinking, to want to be pretty damned Pollyannaish about things. You know, markets have had a tendency to do this, you know, for people to sort of delude themselves, right? This is not a time for delusional thinking, this is not a time for catastrophic thinking. Things will change. Things will get better. They get better because people take smart actions. They get better because people construct institutions that do a better job of regulating entrepreneurship, not trying to stop entrepreneurship, I mean I'm a capitalist, I believe in entrepreneurial activity and I believe in markets. But they've got to have appropriate levels of regulation, and certainly appropriate levels of transparency, right?

This is a time to be part of that conversation, right? This is a time in your world to understand that you can't be sort of on the side in the background of this, because you deal with arts and philanthropy, and after all, what is that? What do you mean, what is that? That's damned important. It has a lot more value than some of this other crap that we invested in, right? I'm not saying that as just sort of a throwaway line, I mean it's a time it seems to me to not be shy about this. I've really found America to be, you know, pretty shy about this whole thing over the last six months. I find the number of questions to be, you know, not actually all that… I mean, just think about it! Think about if you were…

I admire Hank Paulson for thinking that he could write a three-page memo and ask for 700 billion dollars with no oversight. And you guys are running saying, Well Dick, we got a little bit of money from that budget and I hope, you know… Oh I feel so bad! You know what? Where have you been? Right? I mean they're not shy, right?

So you know, part of it is, we've got, it seems to me, our duty is to make these mystifying complex things into things that are a little bit more simple, things that are a less complex, be part of the public dialogue, reclaim our role as citizens, in that public dialogue. Demand a kind of accountability and transparency that will allow us to construct the kind of economy that will build the wealth that will go for the things that you want to do.

So I will stop right here and then take questions.