The Go-Go Years (43 page)

Losses, then, of $300 billion in a year and a half, spread over more than 30 million investors—such were the bitter fruits of the go-go years: of the conglomerates and their promoters' talk of synergism and of two and two making five; of the portfolio wizards who wheeled and dealt with their customers' money; of the works of bottom-line fiction written by the creative accountants; of the garbage stock dumped on the market by two-a-week underwriters; of the stock salesmen who acted as go-betweens for quick commissions; of the mutual funds that got instant performance by writing up the indeterminate value of unregistered letter stock. But the fact remains that the human and social damage that resulted from the more recent crash was immeasurably less. In a nation far richer in real terms than it had been in 1929, the market losers of 1969-1970 could better absorb their losses, and moreover, more intelligent and conscientious federal regulation in the later era shielded the losers from the worst consequences of their gullibility and greed. With no government restrictions at all on borrowing for the purpose of buying stock in 1929, people had been free to invest their savings in stocks on 10 percent or 20 percent margin, thus assuming the suicidal risk of being wiped out on a 10 percent or 20 percent market decline. The Federal Reserve margin requirement—amounting to 80 percent through most of the 1969-1970 crisis—made it necessary for investors, except for a few who found highly sophisticated ways of circumventing the rules, to put up far more cash in relation to their risk exposure, and thereby became the key factor in preventing a repetition of the wholesale personal tragedies of 1929. Indeed, the margin requirement made it quite difficult in 1969-1970 for a stock investor to be wiped out entirely. What resulted, in fact, was a middle-class crash, productive of severe discomfort rather than disaster. If one heard of investor hardship in 1970, but not of lost homes,
shattered lives, and suicides, much of the credit must go to that key piece of New Deal reform legislation, the Securities Exchange Act of 1934, which (among many other things) gave the Federal Reserve its power to regulate stock-market credit. At the very time when old-style liberalism was being widely reviled and ridiculed, a key measure of old-style liberalism, little noticed or honored, was serving as a small but significant piece of evidence that in forty years the country had learned something, after all.

And of course—not so much because of more enlightened government policies as because of the enormous industrial strength of the nation—the 1970 crash, unlike that of 1929, was not followed by a catastrophic depression. It was, however, followed by a serious one. Unemployment, which had amounted to about a quarter of the civilian labor force in 1932, never got more than slightly above 6 percent in the worst days of 1971, but that was bad enough, especially since (unlike 1932) it was concentrated in the black-minority areas of large cities—and in some of those areas, indeed, it did reach or exceed 25 percent. The Economic Report of the President for 1970 equivocated: it spoke of “slowdown,” of “decline of output,” of economic performance that “disappointed many expectations,” but never of “recession,” far less of “depression.” One prominent economist went so far in his efforts to put matters in a cheerful light that he came up with the apparently self-cancelling phrase “growth recession.”

But to the layman, the signs of recession late in 1970 were everywhere plain to see. In October, the Bureau of Labor Statistics reported that, with national unemployment at 5.2 percent of the work force, the figure for male black teen-agers in urban areas stood at 34.9 percent. At about the same time the tide of recession began spreading upward in the economic spectrum. It never did soak, or even dampen, the rich—corporate chieftains went right on drawing astronomical salaries, and banks in particular actually flourished because of continuing tight money—but in the autumn of 1970 the recession wave swamped the middle class. An organizer of the United Steelworkers told
Studs Terkel, chronicler of the Great Depression of the nineteen thirties, “When a guy is cashing his biweekly check at the neighborhood bar, every check for the last few years has been $300, $400. Now he brings home $150 to $170.” A twenty-two-year-old described the effect of recession on the youth counterculture: “Most people with long hair have to work for dog wages. There aren't many places that hire them, so they work at rip-off joints. You know, $1.75 an hour. It's like being black.”

In October, the airlines, anticipating collective losses of at least $100 million on the year's operations, were cutting back luxury services: sandwich meals now instead of steaks, fewer in-flight movies, paper towels instead of cloth ones, no more snacks of expensive macadamia nuts. The same month, the Department of Labor identified thirty-five separate major labor areas with “substantial or persistent” unemployment; the Council of Better Business Bureaus estimated that there were 400,000 currently unemployed executives; and large companies began making across-the-board cuts of executive and white-collar paychecks. The Norton Company of Massachusetts, to name one, shaved 15 percent from the salaries of 5,000 managers and white-collar workers, which for a person earning $25,000 meant a cut of about $72 a week. By November, in New York City, it was clear that the welfare rolls were being swelled faster by new applications from non-Puerto Rican whites than by those from blacks and Puerto Ricans. At the Professional Placement Center of the New York State Employment Service, the number of professional and managerial claimants for unemployment benefits had risen by more than 100 percent in a year, and there was talk of stockbrokers working as cab drivers, art directors taking jobs as layout artists, and accountants accepting sharp salary cuts and for the first time in their lives paying agency fees. That winter in Manhattan, for-hire limousines were in supply rather than in demand; for the first time in the memory of many opera patrons, there were empty seats at almost every Metropolitan Opera performance; many former Saks Fifth Avenue customers were patronizing Klein's or Alexander's, and many former taxi riders were riding buses and subways. In December, placement
counsellors at colleges began telling seniors of a sharp drop in job offers, and warning them that the days when they could take their pick of starting jobs were over. Most large industrial companies began cutting their campus recruiting visits sharply, some cutting them in half. The advanced-degree job market became a small disaster area, with new Ph.D. holders taking jobs, when they could find them, at half the going rates of the year before. Urban private schools, used to watching affluent parents agonize over berths for their offspring, suddenly were competing among themselves for scarce applicants.

And so it went. There were no breadlines or applesellers, but bread was being eaten instead of cake, apples instead of baked Alaska. And the reaction of worried politicians to the deteriorating situation called forth more sardonic echoes of the past. As the year 1970 ran out with the gross national product down for the first time since 1958, and with industry limping along at three-quarters of capacity, the President, with the concurrence of Congress, began applying that old Herbert Hoover standby, the trickle-down theory of trying to save old jobs and create new ones through federal handouts to business. By the end of the year, Congress had voted the Lockheed Aircraft Corporation a $250-million loan guarantee in a financial rescue operation intended principally to save the jobs of 60,000 employees by saving the company from bankruptcy; the bankrupt Penn Central was on the way to a $125-million federal loan guarantee to keep its passenger trains running, and their employees working; a new governmental corporation, Amtrak, was being established to operate all of the nation's intercity trains; and government shipbuilding subsidies were in the process of being greatly increased. It all looked like Hoover's famous breadline for business, the Reconstruction Finance Corporation, all over again, with the difference that the R.F.C. had usually driven a harder bargain with its petitioners than the Nixon administration did now.

Week by week and month by month, new parallels kept appearing. In 1971, Nixon repeatedly rejected the idea of direct federally sponsored job programs, just as Hoover had done in
1930 and 1931. Week by week and month by month, the dollar grew weaker in the international markets. When the United States had finally been forced to abandon its pledge to redeem dollars with gold on April 18, 1933, it had been three and a half years after the beginning of the 1929 stock-market crash. This time, the triumph of political necessity over national honor came sooner. When the gold default of 1933 was repeated down to all but the smallest details in August 1971, it was hardly more than a year after the height of the 1970 crash.

History, in its economic aspect, seemed to have become a recurring nightmare from which the United States could not awake. But for Wall Street, the nightmare this time had a new dimension. In the second half of 1970, Wall Street itself, as distinguished from its hapless customers, came within a hair of plunging into irretrievable bankruptcy, and the American securities market into full-fledged socialism.

CHAPTER XIII

Saving Graces

1

If Wall Street can lay claim to special expertise in any particular field, that field is the raising and management of capital. Bringing together, presumably in an orderly and mutually beneficial way, companies that need new money to run their businesses and investors who wish to hire out some of their money at reasonable risk, is Wall Street's work—the social justification of its existence. By and large, over the years, it has performed this function well. Yet in the latter nineteen sixties the capital structure of Wall Street itself became unsafe and unsound to a degree that, when hard times struck, was revealed as nothing less than a scandal. It was more than a case of a physician being unable to heal himself; it was a case of a physician habitually and systematically flouting everything he had learned at medical school, including the simplest rules of personal daily hygiene.

Matters had not always been thus. The celebrated post-1929 suicide victims had been for the most part customers rather than brokers. The brokers' yachts were scarce by 1932, but their firms had come through that crisis still solvent, partly because most
of them had been conservatively financed with the personal resources of careful Puritanical partners, partly because the brokerage business in those days had been of manageable size, and not least because the terrible drop in stock prices had occurred on such unprecedentedly high trading volume as to enable brokers to recoup on commissions much of their losses on stocks they owned. When brokerage failures did occur back in those days, it was usually a matter of outright fraud, as in the famous case of Richard Whitney and Company. But in the nineteen sixties, when the securities business had broadened to become mass business for the first time, brokerage houses financed themselves not by adopting the mass-business methods they understood so well and so often urged on others, but by merely adding new and dubious twists to the traditional methods of what had been, by the standards of American Telephone or General Motors, a cottage industry. Not until 1970, for example, did the first Wall Street firm raise money for its operations from outside by selling its own stock to the public, and it took a change in the New York Stock Exchange's constitution to make such a sale possible. Like most bad business practices, Wall Street's obsolete and unsound capital-raising methods worked well enough in good times; it required only a little misfortune to expose them as the jerrybuilt mechanisms they were.

That misfortune, utterly unanticipated, consisted of the simultaneous drop in stock prices and trading volume in 1969 and the first half of 1970.

Let us look, in brief and simplified form, at a brokerage firm's typical capital structure in 1969-1970, as administered by the New York Stock Exchange and grudgingly but nonetheless leniently approved by the S.E.C.

The Stock Exchange rules imposed on such firms the requirement that the ratio between their aggregate indebtedness and their “net capital” be at no time higher than twenty to one, and the Stock Exchange through a system of surprise audits undertook to see that its members complied with this rule. And what was the nature and source of the “net capital” required under the rules? Its basic and soundest forms were the tradi
tional ones—the cash investments of general partners, entitling them to stated shares in the profits, and the cash loans of other backers, entitling them to interest. But that was only the beginning, and, by the end of the nineteen sixties, only a small percentage of the capital of many firms consisted of such unassailable assets. There were other less substantial but still permissible forms of “capital” that, after the great expansion of 1967-1968, came to predominate over the traditional ones. One of these consisted of the loan of securities by an investor to a broker—a fair enough form of capital except that, unlike cash, the securities might abruptly decline in dollar value, thus abruptly reducing the amount of capital that they represented. Also qualified for inclusion as capital were a firm's accounts receivable, which sometimes consisted of such birds-in-the-bush as anticipated tax refunds and possibly uncollectable cash debts from customers. Then there were secured demand notes. Anyone owning a batch of securities—no matter how volatile and speculative—could pledge them as backing for a paper loan to a brokerage firm and thus technically contribute to the firm's capital. No money would actually change hands, nor would the investor actually give up the benefits of his loaned securities; there would merely be, for the firm, a cheering new capital entry on its balance sheet, and for the lender, the pleasure of regularly collecting interest on money he had never parted with and at the same time collecting dividends, were any paid, on his stocks. As if this were not a pleasant enough arrangement, under the terms of some such notes it was explicitly agreed that the lender would not have to part with any money or any securities, except in the all but unthinkable event that the brokerage firm should become insolvent, unable to meet its day-to-day obligations, or not in compliance with the net capital rule.