REVIEW & OUTLOOK

DECEMBER 1, 2009

Systemic Risk and Fannie Mae

The education of Joe Stiglitz and Peter Orszag

As Congress lumbers toward creating a systemic-risk regulator, it's worth a look back—to 2002, when an economist named Stiglitz and a duo named Orszag wrote a paper with the droll title, "Implications of the New Fannie Mae and Freddie Mac Risk-Based Capital Standard".

We won't keep you in suspense. The paper, written the year after Joseph Stiglitz won the Nobel Prize for economics, concludes that "on the basis of historical experience, the risk to the government from a potential default on GSE debt is effectively zero." Their analysis has recently been making the rounds on the Web to a chorus of chortles.

But the real lesson of the paper is not that Mr. Stiglitz, or Peter Orszag, the current White House budget director, and his brother Jonathan are dupes or rubes. The paper is notable because it represents the almost universally held view of the two government-sponsored mortgage giants at the time and for years afterward.

These pages began writing about the systemic risk posed by Fannie and Freddie at around the same time, but until the very end we were in the distinct minority. Fan and Fred's own regulator assured the world that they were well-capitalized almost until they were put into conservatorship in September 2008.

The Stiglitz-Orszag paper's method was to put the companies through "millions of potential future scenarios," and then to judge the likelihood of default. The assumptions in the test were said to be "severe." Even so, the probability of a default was found to be "so small that it is difficult to detect." Some $111 billion in taxpayer-funded bailouts later, with perhaps hundreds of billions to go, the risks have been detected.

To be fair, the Orszags and Mr. Stiglitz acknowledged that "the extremely rare events located in the tail of a distribution are often quite difficult to analyze accurately." Even so, they noted that White House budget gnomes had tested Fan and Fred's capital against "the financial and economic conditions of the Great Depression." The result: "[G]iven 1990 levels of capital, both Fannie Mae and Freddie Mac had sufficient capital to survive."

In reality, it took barely a year of financial distress for Fan and Fred to burn through their capital and wind up in taxpayer laps. Professor Stiglitz says of his paper today, "I'd like to think that if we'd done the same stress test in 2007 . . . we would have said, 'You ought to be worried.'" Taxpayers would like to think so too.

The crucial point is that assessing systemic risk is difficult to impossible—and the likelihood of coming to a reliable consensus about it is even lower. Both Orszags and Mr. Stiglitz were officials in the Clinton Administration and saw the debates about Fan and Fred that the Clinton Treasury began in the late 1990s, only to get clobbered by the companies' lobbying machine. Yet the three amigos still saw fit to put their names to a paper dismissing any risk of failure.

Why should anyone think that regulators—or economists—will predict the next systemic debacle any better? We only know better about the past. When the next problem erupts, as in 2002, smart people will be on both sides of the argument. And when large, systemically important companies are threatened with curbs on their business, they will pay Nobel laureates to write studies that explain away the dangers, and hire lobbyists to block any reform. A future Treasury secretary may also dismiss critics of a future Fannie Mae, or Goldman Sachs, as "ideologues," as Hank Paulson did in 2007-2008.

The very existence of a systemic risk regulator, or council of regulators, will assist the largest and riskiest firms by creating an illusion of stability in a world made less stable by the implicit guarantee that this regulator would convey. It would be an accident waiting to happen, and one made inevitable by the institution created to prevent it.

Look no further than the eminent Mr. Stiglitz or the brilliant Orszag brothers for how hard it is to detect systemic risk, much less to do anything about it.

Copyright 2009 Dow Jones & Company, Inc. All Rights Reserved

Opinion

Intellectual hypocrites threaten us all

Liberals think they should be in charge of everything, even though many can't run anything.

Jonah Goldberg

December 1, 2009

I think I've had my fill of moral hypocrisy. We routinely hear stories of evangelical ministers who "mentor" hookers at $500 an hour, "family values" politicians who like the cut of a congressional page's jib or senators who love to press the flesh, one bathroom stall at a time. And, given the times, we increasingly hear stories about progressive politicians and columnist who -- gasp! -- have bigger carbon footprints than they want the rest of us to have: CO2 emissions for me and not for thee! For shame.

Ever since the golden age of Fleet Street, if not the dawn of newspapering itself, the press has loved stories of moral hypocrisy. To catch a politician violating his own moral code -- particularly when he or she exhorts others to live up to that code -- warms the cockles of every reporter. Indeed, sometimes journalists seem to think the real offense is the hypocrisy and not the crime itself. "If a politician murders his mother," the late Washington Post editorial page editor Meg Greenfield once said, "the first response of the press . . . will likely be not that it was a terrible thing to do, but rather that in a statement made six years before, he had gone on record as being opposed to matricide."

The crusade against moral hypocrisy will naturally hit conservatives harder, not because conservatives are more immoral but because they uphold morality more publicly, making them richer targets. The left aims much of its moralizing at moralizing itself -- "thou shalt not judge." Meanwhile, the right focuses on the oldies but goodies -- adultery, drug use, etc. I think we're right to uphold a standard even if we fail to live up to it from time to time.

Regardless, what I don't think we hear enough about is intellectual hypocrisy. What do I mean? Well, if moral hypocrisy is saying what values people should live by while failing to follow them yourself, intellectual hypocrisy is believing you are smart enough to run other peoples' lives when you can barely run your own.

I know many extremely smart liberals for whom no idea is too complex, no concept or organizational flow chart too hard to grasp. They want the government to take over this, run that, manage some other things and in all cases put people exactly like them in charge of pretty much everything. Many are geniuses, with SAT scores so high you could get a bloody nose just looking at them.

But you wouldn't ask one to run a carwash.

The chairman of a small college's English department thinks it's obvious intellectuals should take over healthcare, but he can't manage the class schedule of three professors or run a meeting without it coming to blows or tears; a pundit defends government intervention in almost every sphere of economic life, but he can't figure out how to manage the interns or his own checking account.

The most famous story of an intellectual hypocrite getting his comeuppance is the tale of George McGovern and his inn. The senator, 1972 presidential nominee and college professor thought he could run a vast, technologically sophisticated, continental nation with a diverse population and an entrepreneurial culture. Then, after leaving Washington, he bought an inn in Connecticut to while away his retirement years. For a guy as smart as him, running an inn should have been child's play. But it went belly up before the end of the year, with a contritely befuddled McGovern marveling at how much harder running a business was than he thought.

Rep. Charles B. Rangel (D-N.Y.) offers a more timely example. Rangel heads the Ways and Means Committee, which writes the tax code, and he recently backed the imposition of an income tax surcharge on high earners to pay for healthcare, calling it "the moral thing to do." Yet he can't seem to figure out how to file his own taxes properly or, perhaps, legally. The lapses are the subject of a House Ethics Committee investigation.

Now I also know lots of conservatives who are basket cases at everything other than reading and writing books and articles, giving speeches and thinking Big Thoughts (just as I know lots of liberals who despise conservative moralizing about sex and religion who nonetheless live chaste and pious lives themselves). The point is that conservatives don't presume to be smart enough to run everything, because conservative dogma takes it as an article of faith that no one can be that smart.

Moral hypocrisy is still worth exposing, I guess. But we are living in a moment when revealing intellectual hypocrisy should take precedence. The American Enterprise Institute's "Enterprise Blog" recently ran a chart from a J.P. Morgan report showing that less than 10% of President Obama's Cabinet has private-sector experience, the least of any Cabinet in a century. From the stimulus to healthcare reform and cap-and-trade, Washington is now run by people who think they know how to run everything, when in reality they can barely run anything.

Copyright © 2009, The Los Angeles Times

Volume 6 - Issue 3

November 30, 2009

Reckless Myopia

By John P. Hussman, Ph.D.

Long time Outside of the Box readers are familiar with John Hussman of the eponymous Hussman Funds. And once again he is my selection for this week's OTB.

This week he touches on several topics, all of which I find interesting. As he notes:

"We face two possible states of the world. One is a world in which our economic problems are largely solved, profits are on the mend, and things will soon be back to normal, except for a lot of unemployed people whose fate is, let's face it, of no concern to Wall Street. The other is a world that has enjoyed a brief intermission prior to a terrific second act in which an even larger share of credit losses will be taken, and in which the range of policy choices will be more restricted because we've already issued more government liabilities than a banana republic, and will steeply debase our currency if we do it again. It is not at all clear that the recent data have removed any uncertainty as to which world we are in."

Have a good week.

John Mauldin, Editor
Outside the Box

Reckless Myopia

John P. Hussman, Ph.D.

I was wrong.

Not about the implosion of the credit markets, which I urgently warned about in 2007 and early 2008. Not about the recession, which we shifted to anticipating in November 2007. Not about the plunge in the stock market, which erased the entire 2002-2007 market gain, which was no surprise. Not about the "ebb and flow" of short-term data, which I frequently noted could produce a powerful (though perhaps abruptly terminated) market advance even in the face of dangerous longer-term cross-currents. I expect not even about the "surprising" second wave of credit distress that we can expect as we move into 2010.

From a long-term perspective, my record is very comfortable. But clearly, I was wrong about the extent to which Wall Street would respond to the ebb-and-flow in the economic data – particularly the obvious and temporary lull in the mortgage reset schedule between March and November 2009 – and drive stocks to the point where they are not only overvalued again, but strikingly dependent on a sustained economic recovery and the achievement and maintenance of record profit margins in the years ahead.

I should have assumed that Wall Street's tendency toward reckless myopia – ingrained over the past decade – would return at the first sign of even temporary stability. The eagerness of investors to chase prevailing trends, and their unwillingness to concern themselves with predictable longer-term risks, drove a successive series of speculative advances and crashes during the past decade – the dot-com bubble, the tech bubble, the mortgage bubble, the private-equity bubble, and the commodities bubble. And here we are again.

We face two possible states of the world. One is a world in which our economic problems are largely solved, profits are on the mend, and things will soon be back to normal, except for a lot of unemployed people whose fate is, let's face it, of no concern to Wall Street. The other is a world that has enjoyed a brief intermission prior to a terrific second act in which an even larger share of credit losses will be taken, and in which the range of policy choices will be more restricted because we've already issued more government liabilities than a banana republic, and will steeply debase our currency if we do it again. It is not at all clear that the recent data have removed any uncertainty as to which world we are in.
Taking the weighted average outcome for the two states of the world still produces a poor average return/risk tradeoff. Taking the weighted average investment position for the two states of the world is somewhat more constructive. As I noted several weeks ago, I have adapted our weightings accordingly. As a result, we have been trading around a modest positive net exposure, increasing it slightly on market weakness, and clipping it on strength, as is our discipline. Currently, the Strategic Growth Fund has a net exposure to market fluctuations of less than 10%, but enough "curvature" (through index options) that our exposure to market risk will automatically become more muted on market weakness and more positive on market advances, allowing us to buy weakness and sell strength without material concern about the (increasing) risk of a market collapse.

There is no chance, even in hindsight ("could have, would have, should have" stuff) that I would have responded to the existing evidence in recent months with more than a moderate exposure to market risk during some portion of the advance since March. But our year-to-date returns might now be into a second digit had I recognized that investors have learned utterly nothing from the bubbles and collapses of the past decade. That recognition might have encouraged a greater weight on trend-following measures versus fundamentals, valuations, price-volume sponsorship, and other factors.

Still, our stock selections continue to perform well relative to the market, our risks remain well-managed through a substantial (though not full) hedge, and our investment approach has nicely outperformed the S&P 500 over complete market cycles, with substantially less downside risk than a passive investment approach. We have implemented some modest changes to improve our potential to benefit from (even ill-advised) speculative runs, but we've done fine nonetheless, and we can sleep nights.

Whether or not I have focused too much on probable "second-wave" credit risks is something we will find out in the quarters ahead – my record of economic analysis is strong enough that a "miss" on that front would be an outlier. What I do think is that over the past decade, investors (including people who hold themselves out as investment professionals) have become far more susceptible to reckless myopia than I would have liked to believe. They have become speculators up to the point of disaster.

Frankly, I've come to believe that the markets are no longer reliable or sound discounting mechanisms. The repeated cycle of bubbles and predictable crashes over the recent decade makes that clear. Rather, investors appear to respond to emerging risks no more than about three months ahead of time. Worse, far too many analysts and strategists appear to discount the future only in the most pedestrian way, by taking year-ahead earnings estimates at face value, and mindlessly applying some arbitrary and historically inconsistent multiple to them.

This is utterly different from true discounting – which does not rely on multiples, but instead carefully traces out the likely path of future revenues, profit margins, cash flows and earnings over time, and explicitly discounts expected payouts and probable terminal values back at an appropriate rate of return. That's what we actually do here. Talking in terms of multiples can make the process easier to explain, and can be a reasonable approach to the market as a whole if earnings are normalized properly, but ultimately, an investment security is a claim to a long-term stream of cash flows. It is not simply a blind multiple to the latest analyst estimate.

Fortunately, the evidence suggests that the long-term returns to a careful discounting approach tend to be strong even if investors repeatedly behave in speculative and short-sighted ways. This is because long-term returns are fully determined by the stream of cash flows actually received by investors over time, and because inappropriate valuations ultimately tend to mean-revert. In the face of speculative noise, the long-term returns from a proper discounting approach may not capture as much speculative return as might be possible, but over time, many of those speculative swings tend to wash out anyway.

In part, the market's increasing propensity toward speculation reflects the increasing lack of fiscal and monetary discipline from our leaders. Policy makers who seek quick fixes and could care less about long-term consequences undoubtedly encourage investors to embrace the same value system. Paul Volcker was the last Fed Chairman to have any sense that discipline and the acceptance of temporary discomfort was good for the nation.

Our current Fed Chairman's voice literally quivers in response to the phrase "bank failure," even though in the present context, a bank failure implies none of the disorganized outcomes that characterized the Great Depression. It simply means that the bondholders take a loss and the remaining part of the institution survives intact as a "whole bank" entity (and can be sold or re-issued back to public ownership, less the debt to bondholders, as such). The same outcome would have been possible with Lehman had the FDIC been granted authority from Congress to take conservatorship of a non-bank financial entity.

In my estimation, there is still close to an 80% probability (Bayes' Rule) that a second market plunge and economic downturn will unfold during the coming year. This is not certainty, but the evidence that we've observed in the equity market, labor market, and credit markets to-date is simply much more consistent with the recent advance being a component of a more drawn-out and painful deleveraging cycle. Meanwhile, valuations are clearly unfavorable here, and even under the "typical post-war recovery" scenario, we are observing an increasing number of internal divergences and non-confirmations in market action.

As Gluskin Sheff chief economist David Rosenberg noted last week, "Even if the recession is over, the historical record shows that downturns induced by asset deflation and credit contraction are different than a garden-variety recession induced by Fed tightening and excessive manufacturing inventories since the former typically induce a secular shift in behavior and attitudes towards debt, asset allocation, savings, discretionary spending and homeownership. The latter fades more quickly.

"This is why people didn't figure out that it was the Great Depression until two years after the worst point in the crisis in the 1930s; and why it took decades, not months, quarters or even years, for the complete transition to the next sustainable economic expansion and bull market.

"Mortgage applications for new home purchases hit a 12-year low in the middle of November (down 22% in the past month!), fully two weeks after the Administration said it was going to not only extend but expand the program to include higher-income trade-up buyers. Once again, there is minimal demand for autos and housing, and that is partly because the market is still saturated with both of these credit-sensitive big-ticket items after an unprecedented credit and consumer bubble that went absolutely parabolic in the seven years prior to the collapse in the financial markets an asset values. We are probably not even one-third of the way through this deleveraging cycle. Tread carefully."

Andrew Smithers, one of the few other analysts who foresaw the credit implosion and remains a credible voice now, concurred last week in an interview with my friend Kate Welling (a former Barrons' editor now at Weeden & Company): "The good news so far is that the stock market got down to pretty much fair value or even, possibly, a tickle below it, at its March bottom. But now it has gone up… we probably have a market which is, roughly, 40% overpriced. In order to assess value, it is necessary either to calculate the level at which the EPS would be if profits were neither depressed nor elevated, or to use a metric of value which does not depend on profits. The cyclically adjusted P/E (CAPE) normalizes EPS by averaging them over 10 years. It thus follows the first of those two possible methods. Using even longer time periods has advantages, particularly as EPS have been exceptionally volatile in recent years - and using longer time periods raises the current measured degree of overvaluation. The other methodology we use measures stock market value without reference to profits: the q ratio. It compares the market capitalization of companies with their net worth, also adjusted to current prices. The validity of both of these approaches can be tested and is robust under testing - and they produce results that agree. Currently, both q and CAPE are saying that the U.S. stock market is about 40% overvalued."

In the chart below, the current data point would be about 0.4, not as extreme as we observed in 1929, 2000, or 2007 of course, but equal to or beyond what we've observed at virtually every other market peak in history. This aligns well with our own analysis, where as I've noted in recent weeks, the S&P 500 is priced to deliver one of the weakest 10-year total returns in history except for the (ultimately disappointing) period since the mid-1990's.

(Click to enlarge)


One of the fascinating aspects of the past few months is the lack of equilibrium thinking with respect to what happened to the trillions of dollars in government money that has been spent to defend the bondholders of mismanaged financial companies. Almost by definition, money given to corporations will show up most quickly as improvements in corporate earnings, and then slightly later, as executive compensation. A few pieces came across my desk last week, hailing the ability of the corporate sector to bounce back from the recent economic downturn even though revenues have continued to suffer and employment has been steeply cut. Why is this a surprise? Where else could the money have gone? Labor compensation? It is truly mind-numbing that a moment after a temporary surge of trillions of dollars, borrowed and tossed out of a helicopter (though to specific corporations and private beneficiaries), analysts would hail a subsequent improvement in corporate results as evidence of "resilience."

What matters is sustainability, and unfortunately, it is clear that credit continues to collapse. Banks are contracting their loan portfolios at a record rate, according to the latest FDIC Quarterly Banking Profile. Even so, new delinquencies continue to accelerate faster than loan loss reserves. Tier 1 capital looked quite good last quarter, as one would expect from the combination of a large new issuance of bank securities, combined with an easing of accounting rules to allow "substantial discretion" with respect to credit losses. The list of problem institutions is still rising exponentially. Overall, earnings and capital ratios have enjoyed a reprieve in the past couple of quarters, but delinquencies have not, and all evidence points to an acceleration as we move into 2010.

Urgent Policy Implications

From a policy standpoint, it is effectively too late to forestall further foreclosures absent explicit losses to creditors. The best policy option now is to make sure that the second wave does not result in a debasement of the U.S. dollar. The way to do that is to require three things:

First, the FDIC should be given regulatory authority to take non-bank financials into conservatorship the way they should have been able to do with Bear Stearns and Lehman. If this authority had existed in 2008, Bear's bondholders would not now stand to get 100% of their money back, with interest, as they presently do, and Lehman's disorganized liquidation would have been completely unnecessary. As I've noted before, the problem with Lehman was not that it went bankrupt, but that it went bankrupt in a disorganized way. If the FDIC had authority over insolvent non-bank financials and bank holding companies, it could wipe out equity and an appropriate amount of bondholder capital, and sell the fully-functioning residual to an acquirer, as is typically done with failing banks, without any loss to depositors or customers.

Second, bank capital requirements should be altered to require a substantial portion of bank debt to be of a form that automatically converts to equity in the event of capital inadequacy. This would force losses onto bondholders, rather than onto taxpayers. This policy adjustment is urgent – we have perhaps a few months to get this right.

Finally, Congress should be clear that government funds will be available only to protect the interests of depositors, not bondholders. Specifically, any funds provided by the government should be contingent on the ability to exert a senior claim to bondholders in the event of subsequent bankruptcy, even if a category is created to allow those funds to be counted as "capital" for purposes of satisfying capital requirements prior to such bankruptcy. Government-provided capital should be subordinate only to depositor claims, if equity and bondholder capital ultimately proves insufficient to meet those obligations.

Since early 2008, beginning with the provision of non-recourse funding in the Bear Stearns debacle, the Federal Reserve and the Treasury have repeatedly allocated or implicitly obligated public funds to defend the bondholders of mismanaged financial companies. This has included the outright and non-recourse purchase of nearly a trillion dollars in mortgage securities that have no explicit guarantee by the U.S. government. By purchasing these securities outright (rather than through a well-defined repurchase agreement), the Fed is effectively obligating the U.S. government to either guarantee them or to absorb any future losses.

Aside from the fraction of bailout funding that was specifically allocated by Congress through legislation, these actions represent an unconstitutional breach into enumerated spending powers that are the domain of the elected members of Congress alone. The issue here is not whether the Fed should be independent from political influence. The issue is the constitutionality of the Fed's actions. The discretion that it has exerted over the past two years crosses the line into prerogatives reserved for Congress. That line needs to be clarified sooner rather than later.

Emphatically, the trillions of dollars spent over the past year were not in the interest of protecting bank depositors or the general public. They went to protect bank bondholders. Instead of taking appropriate losses on those bonds (which financed reckless mortgage lending), those bonds are happily priced near their face value, for the benefit of private individuals, thanks to an equivalent issuance of U.S. Treasury debt. But that's not enough. Outside of a very narrow set of institutions that are subject to compensation limits, just watch how much of the public's money – which benefitted several major investment banks following a very direct route – gets allocated to Wall Street bonuses in the next few weeks.

John F. Mauldin
johnmauldin@investorsinsight.com

Healthcare tests the Senate’s credibility

By Steven Hill

Published: November 30 2009 12:46

America’s healthcare debate has been like a tennis match, bouncing from the Senate to the House of Representatives and back again. Now it is back in the Senate, as the US tries to end its status as the only advanced economy without universal healthcare for its people. One hundred senators from 50 states will decide what lives and what dies in healthcare reform.

With so much at stake it makes sense to ask: who are these 100 senators? Might that give us a clue what to expect from America’s upper chamber?

For a start, this “representative” body hardly looks or thinks like the rest of the nation. Only 17 senators are women, while the US as a whole has more women than men. Only five senators are Hispanic, black, or Asian-American, whereas one-third of Americans now belong to ethnic minorities.

A senator’s average age is an elderly 63 and most are wealthy millionaires. A famous 19th-century aphorism said: “It is harder for a poor man to enter the United States Senate than for a rich man to enter heaven,” and things are hardly different today. The senescent senators already have great healthcare benefits themselves, even while tens of millions of Americans do not. This powerful legislative body debating healthcare for the entire country is a patrician gerontocracy more closely resembling the ancient Roman Senate than a New England town meeting.

For those who are hoping that majority-rule might end this healthcare nightmare, it gets worse. With two senators awarded per state, regardless of population – a legacy of the deal struck in 1787 partly to keep the slave-owning states from exiting a fledgling nation – California, with more than 36m people, has the same number of senators as Wyoming with a half a million people.
That disproportional allocation has only deteriorated over time. When the Senate was created, the most populous state had 12 times more people than the least populous; now it has 70 times more people. In the 1960s, the Supreme Court established the groundbreaking principle of majority-rule based on “one person, one vote”, meaning that all legislative jurisdictions must be equal in population. Yet the US Senate completely violates this fundamental principle.

As a result, the 40 Republican senators represent a mere third of the nation, meaning Republican voters have more representation than everyone else. That over-representation is bad enough, but the bias goes even deeper. For the US has added an arcane layer of parliamentary procedure known as the “filibuster”.

The Senate’s use of the “filibuster” means you need a majority not of 51 votes but of 60 votes to stop unlimited debate on a bill and move to a vote. So a mere 41 senators can kill any legislation. The 40 Republican senators representing only a third of the nation need to peel away only a single conservative Democratic or independent representing a low population state such as Montana, Nebraska or Connecticut to torpedo what the senators representing the other two-thirds of the nation want.
Given such a vastly malapportioned and unrepresentative Senate wielding its anti-majoritarian filibuster, it is hardly surprising that minority rule in the Senate consistently undermines majoritarian policy. Besides healthcare, senators representing a small segment of the nation have thwarted renewable energy policy, sensible automobile mileage standards, cuts in subsidies for oil companies, tougher campaign finance reform, Congressional oversight of national security and war, and more.

Minority rule in the Senate has been with the nation for a long time; in fact, it is widely blamed for perpetuating slavery for decades (between 1800 and 1860, eight anti-slavery measures passed through the House only to be killed in the Senate). For all these reasons, two of America’s most revered founders, James Madison and Alexander Hamilton, opposed the creation of the Senate, with Hamilton warning in Federalist Paper number 22 that equal representation in the Senate “contradicts the fundamental maxim of republican government, which requires that the sense of the majority should prevail”.

Even though Democrats have a solid majority in the Senate, a majority is not enough. While Republicans warn against the Democrats attempting to bypass the filibuster by using “reconciliation”, a fast-track, 51-vote tactic the GOP frames as a “nuclear option”, Democrats should remind the public that there is nothing wrong with invoking simple majority rule in a body that is, in some ways, deeply unrepresentative and undemocratic by design.

So it is not just the senators’ credibility that is on the line if they fail to provide healthcare benefits to all Americans similar to those they receive themselves as senators. It is the very democratic legitimacy of the body in which they serve. How long are Americans going to ignore this constitutional defect?

The writer is director of the political reform programme for the New America Foundation and author of ‘Europe’s Promise: Why the European Way is the Best Hope in an Insecure Age’

Copyright The Financial Times Limited 2009.