Universities Need to Award Research on Stability,
Economic Efficiency and Constitutional Fairness

October 28, 2013

Sankarshan Acharya
Pro-Prosperity.Com and Citizens for Development

To:       Honorable President Barack Obama

Cc:       Department of Justice, US Government; Others receiving through circulation
Sub:     Universities need to reward research on stability, economic efficiency and
constitutional fairness, following the DOJ Action on Financial Market Fraud.

Date:   October 28, 2013

Dear President Obama,

After the financial market meltdown of 2008, many elite universities like Oxford, Cambridge, NYU, U Penn, Princeton and financial associations as well as central banks held conferences on papers explaining systemic financial crashes.  My papers - showing that financial crashes are inevitable because the established system is inefficient, unstable and constitutionally unfair – were not accepted.  One can infer rationally that the elite experts were seeking models explaining periodic financial crashes while justifying the established system. 

The following details confirm that they failed to construct a model which could rationally justify the established system and explain occurrence of periodic financial crashes:

  1. Raj Chetty of Harvard has publicly conceded in a column published recently in the New York Times that the academy does not yet know why financial crises occur.[1] 
  2. Chetty has, however, contradicted the prior testimonies of elite experts as well as of their disciples manning the industry and government regulatory institutions before the Financial Crisis Inquiry Commission: that they knew the 2008 financial crisis was a slap of the invisible hand (god).  They vouchsafed their testimony through a book authored by Gary Gorton of Yale and published by Oxford.  This book revives Adam Smith’s assertion about the existence of an invisible force causing periodic financial crises.  This book has been profusely praised and recommended by elite experts and government regulators.[2] The Federal Reserve Bank of Minneapolis has reproduced an earlier (1983) paper by Doug Diamond (Chicago) and Phil Dybvig (St Louis) which presumes the existence of an invisible force causing banking panics and necessitating federal guarantee of bank deposits held under the custody of private banks.[3] 
  3. The FCIC rejected the myth spread by the elite experts that some invisible force caused the financial crisis of 2008 (See the FCIC Report released in January 2011). 
  4. The FICIC has found, instead, that the 2008 crisis was manmade due to a failure of the elite experts.  This is echoed by Raj Chhetty and by the failure of the elite conferences.
  5. My model shows (without invoking any invisible force) that the established system promoted by the elite experts is unstable, inefficient and constitutionally unfair, causing deep inequality and periodic financial depressions.  This must be why the elite experts do not endorse my model. 
  6. Even now, a top-rated journal (Review of Economic Studies) has returned without review my paper which models both coalitions of creditors and borrowers to determine the price of credit (interest rate) in equilibrium between suppliers and users of credit, as in a truly free capitalistic real-world economy.[4]  RES has already published two papers modeling only coalition of creditors, not of borrowers.  By excluding coalition of borrowers, the RFS-published papers do not permit a truly free market economy, as mandated by the constitution.  The elite experts have rather prescribed that government sponsored lenders like Fannie and Freddie should be disbanded without presenting if their prescription constitutes economic equilibrium between suppliers and users of credit.[5]
  7. My research obtains an alternative to the established system: first-best efficient rules which are efficient, constitutionally fair and stable in the long-run. The inequality induced by the established system can be obviated by such constitutionally fair first-best efficient rules.  My model thus counters the assertion of elite experts about government policies being incapable of alleviating the deepening inequality, which has now surpassed the pre-Great Depression level as per IRS and Fed data released recently.[6] 

I. Why elite experts don’t like first-best efficient governance?

The above narratives show unambiguously that my research on first-best efficient governance is peerless, seminal and antithetic to the research that has founded the established system and supported by the elite experts:

  1. Research on first-best efficient governance allows for the possibility of moral hazard risk to taxpayers due to private mega banks’ gambles with government-guaranteed deposits. 
  2. Moral hazard is an academic euphemism for blackmailing of lawmakers:
  3. To print money only for large private banks (the clearing house members), due to the Federal Reserve Act of 1913, whenever they become bankrupt due to their gambles with the government-guaranteed cheap deposits.  As long as the gambles pay off, mega banks keep usurping the profits in form of hefty bonuses, pays and perquisites.  Mega banks by and large remain as shells for the mega games.
  4. To exploit the FDIC and FIRREA for usurpation of private wealth invested in stocks and bonds of smaller private banks, pulled down by the mega bank gambles. 
  5. The mega banks’ gambles are facilitated by the established system which permits multi-tier leverage via bank holding company structure with cheap government-guaranteed deposits to rob the hard-earned wealth of the crucial vast majority of producers of globally competitive goods and services that prop national currency, prosperity, stability and security. 
  6. When the surreptitious, legalized robbing deteriorates private wealth sufficiently, it causes systemic panic. 
  7. Systemic panic cannot always be douched by printing new money or by supplying cheaper credit to the deprived, when unemployment and underemployment have deepened.[7] 
  8. The mythical invisible force narrated by the elite academy is, thus, made transparent through research on first-best efficient governance: it is nothing but the moral hazard risk foisted on taxpayers via the established system to facilitate legalized robbing without risk the hard-earned private wealth of the crucial vast majority of citizens. 
  9. The manmade invisible force bestows a privileged/prosperous status on a few including the elite experts by subjecting the crucial vast majority to second-best sustenance.  This is second-best governance driven by a self-serving philosophy to be prosperous while enslaving others financially. 
  10. My research shows robustly, in a more general math-econ model of equilibrium than ever scripted in the literature, that the second-best philosophy propped by a concocted invisible force is economically inefficient, unstable and constitutionally unfair.  My model shows that the concocted invisible force can be thwarted only by enactment of first-best efficient rules which primarily repeal the privileges of mega financial holding companies, for example:
  • Do not allow private banks to have the custody of government-guaranteed deposits of households and businesses.
  • Provide, instead, safe central banking accounts for safe custody of deposits of businesses and households as an option.  Only banks now have cash reserve accounts at the Federal Reserve.  Extend such central banking facility to businesses and households to preclude the possibility of panic and to avoid gambling by private banks based on government-guaranteed deposits under their custody.
  • Make the market clearing house independent to not let anyone in government or industry access the records of financial asset holdings of individual households, investors, traders and businesses, unless it is required for criminal investigation.
  • Make the market making subsidiaries of bank holding companies independent with severe penalty for revealing real time data on trade order flows. 
  • Dismantle the mutual fund holding company structure, i.e., revert to plain vanilla mutual funds to avert parent holding company BODs enticing fund managers with bonuses for trading in favor of hedge funds controlled by the BODs.  Have the SEC monitor trading by the mutual fund managers with their allies for surreptitious transfer of wealth.

II. Devastation of Wealth Due to Second-best Philosophy

The DOJ has recently levied $13 billion fine on JP Morgan.  It looks large.  But it is puny compared to the massive destruction of hard-earned home equities, jobs and private holdings in financial securities of smaller banks (e.g., Washington Mutual and Bear Stearns) perpetrated deliberately to cherry pick valuable assets, virtually freely, without assuming any liabilities owing to FDIC and FIRREA crafted by mega banks. 

The constitution protects private properties.  JP Morgan’s shenanigans that destroyed private properties massively and the facilitating laws and institutions it lobbied to create are obviously unconstitutional.  They are also inefficient due to the diffidence they inflict on productive citizens.  Such diffidence decimates productivity, competitiveness, prosperity and security of the nation. 

Repaying the bailout funds is not a yardstick to measure JP Morgan’s contribution to the public exchequer, because the destruction of private wealth and employment it unleashed caused a very large decline in tax revenues and destabilization of the economy.      

In any case, the DOJ should focus on the epicenter of the second-best system (Goldman Sachs).  Only after GS is thoroughly cleansed, if not vanquished, would the first-best system reign supreme and first-best status for citizens be attained.  The US economy started prospering after the then largest investment bank (Drexel Burnham Lambert) vanished.  Investment banking (except the pure service activity) has been for the robbers, by the robbers and of the robbers.  The robbed wealth is shared with the elite academy (as research grants and chaired professorships) and lawmakers (in form of political contributions and lucrative employment for kith and kin) to concoct research papers on the second-best philosophy in top-rated journals and to use these papers for passing laws that perpetuate the system of robbery.  

The robbing strategy has worked for centuries because the robbed wealth could also be deployed to lure any emerging first-best efficient policy researcher to discontinue his research and, if he does not respond to the lure, use the blind referee procedure to block such research, stop pay raises and block career advancements until he is completely subdued and systemically purged. 

The second-best philosophers, however, failed to foresee the emergence of some researcher who would remain inured to harassments–with real pay cuts, stifled career, infliction of infamy via rejection of his research at elite journals and conferences, possible purge from the academy, threats of unemployment, ultimate penury and mendicancy–and would pursue persistently for passage of first-best efficient rules of governance. The mega banks did not expect that they and their anointed elite experts would, instead, fail due to their fight to block research on first-best efficient governance.[8]     

The epitome of investment banking has been Goldman Sachs.  But Goldman along with most mega banks became bankrupt along in 2008. It had engaged in trading strategies designed to pull down the broader mortgage market and to undo the American household wealth tied to homes.  It had funded elite experts who underhandedly harassed a first-best policy researcher.  GS finally fell in the financial grave it had dug for others.  The public knows that Goldman survived due to the massive transfer of public funds funneled via AIG and Fed, at the behest of the then Chairman of the Federal Reserve Bank of New York and the US Treasury Secretary (both GS alumni). 

The current spate of legitimate DOJ actions on mortgage fraud should–and I believe it would–extend to the epicenter of second-best governance, Goldman Sachs, which designed robbing shenanigans, funded research to support the same, and lobbied for laws establishing robbery-driven governance which crashed the mortgage market and precipitated an economic decline of USA: 

1. For example, Goldman wrote a special agreement in 2007 with AIG to buy credit default swaps (put options), written on mortgage backed securities, from AIG.   The agreement would transfer cash to GS from AIG whenever CDS values increased and to AIG from GS otherwise. The value of a CDS goes up as the price of the underlying mortgage security falls.  Goldman artificially created mortgage-backed securities to sell them short to raise the value of its CDS holdings to transfer cash from AIG equal to the rise in the value of its CDS holdings.  GS thus drained AIG cash reserves, fully.  All other banks did not have such exclusive agreements with AIG.  But they had to also sell mortgage-backed securities to stay competitive.  This caused a catastrophic decline in the market prices of all mortgage backed securities.  With the help of their buddies in the government, the mega short-sellers then usurped the private wealth of security holders of banks like Washington Mutual, Wachovia, Bear Stearns and Lehman Brothers without bearing any liabilities.  Their ultimate usurpation target was and continues to be the valuable assets of Fannie and Freddie.  They, their embedded media and academic gurus have been spreading a myth that mega private banks have rescued the irresponsible mortgage lenders (like those that fell and were acquired through FDIC and FIRREA) without any loss to taxpayers.  They are deliberately silent about the massive destruction of private investments made in the fallen banks, loss of investor confidence as a result, and loss of tax revenues and employment due to the businesses wound down by the decimated investors.         

2. The mega short-sellers–with privileged information due to clearing house data and order flows at their market making subsidiaries and with access to cheap government-guaranteed money–distort the constitutionally mandated free market economy by dumping artificially created financial securities.  The distortion is designed to rob hard earned wealth of the crucial vast majority of persevering citizens.  The robbed wealth is shared with elite experts who control top-rated journals publishing only papers supportive of the second-best system and rejecting antithetic research on first-best efficient system.  The papers published in elite journals are then used as the basis to promote rules to rob. The contribution of such second-best activities (financial shenanigans, second-best academic research and lawmaking) to the real economy is vastly negative. Such activities will never beget first-best status for the crucial vast majority of persevering citizens or ensure stability, prosperity and security of the nation in long-run.  The second-best activities will only lead to a decay in national competitiveness.  Systemic robbing of hard-earned wealth of persevering citizens has historically crippled every empire.

3. Even trading between hedge fund executives of mutual fund companies like Fidelity with their fund managers need to be probed because of moral hazard due to fund managers lured by bonus for trades to transfer wealth from mutual funds to private hedge funds:

I have circulated memos about how mutual funds almost invariably underperform the markets due to nibbling away by private hedge funds of mutual fund company executives.  The elite experts have supported law to convert pure vanilla mutual funds to tiered mutual fund holding companies governed by boards of directors. I recently received an email from Dimensional Funds headed by David Booth who has donated profusely to the Booth School of Business at the U of Chicago.  The email bragged about Dimensional Funds using intellectual guidance on beating the market from Eugene Fama.  Fama received Nobel Memorial Prize in Economics this year for precisely the opposite reason cited by the Nobel Committee:  Fama’s published research awarded by the Nobel Committee found it impossible to beat the market!  Dimensional Funds’ advisors include the same Nobel Prize winners (Myron Scholes and Robert Merton) who were also partners of Long Term Capital Management that collapsed in 1998. 

The Nobel Committee and the Bank of Sweden appear to be thoroughly confused or ill-informed: it awards someone for published research which shows that investors cannot earn higher returns than that on the standard market indexes (the Nobel Funds are indeed invested in market indexed funds), while the Dimensional Funds’ managers claim superior returns due to guidance from the same Nobel awardees. 

The Dimensional Fund Company Executives, as well as other mutual fund company executives, have definitely ‘earned’ abnormally high wealth thanks to their mutual fund holding company structure permitted by law with the help of elite experts.  They need to share their unseemly wealth with the elite academy willing to sell its integrity to trumpet that potential trading between financial company executives and mutual fund managers is free market capitalism that the lawmakers (sharing the robbed wealth as political contribution) should protect through law. 

The elite gurus propagate one theory that even wins Nobel Prize for indoctrination of common investors (including the Nobel Committee Fund Managers) while their disciples in the industry lobby for laws driven by a very different philosophy, for example, to facilitate robbing of mutual funds by hedge funds controlled by executives of the fund company through controlling bonus and salary of the fund managers. 

The mutual fund company structure should be disbanded forthwith.  Only plain vanilla mutual funds should be permitted to diversify risks of investors without systemic underhand robbing by fund company executives.         

4. Some elite experts have written a tome to prescribe disbanding of the government sponsored lenders (Fannie and Freddie).[9]  They present no economic model of a truly free market economy to determine the price of credit (interest rate) in equilibrium between suppliers (creditors) and users (borrowers) of capital to justify their prescription.   

III. Stress in the Academy of Business/Economics

The elite experts perpetuating the (second-best) system of robbery have been doing a disservice to the economy and to the universities that prop them.  The universities will ultimately be hurt as the loot to share vanishes with the collapse of the second-best system and the regulators and elected officials proscribe the associated philosophy of robbery. 

After struggling very hard since 1991, the elite experts have failed to find errors in my model or to challenge robustness of my axioms or first-best efficient policies obtained in equilibrium.[10] They have harbored a mistaken belief that political and regulatory sponsors and university administrators will allow then to perpetuate a system of robbery based of lobbying with lavish political contributions.  This belief now seems to be crumbling.

The profound truth that the system of robbery could not be sustained forever must have already dawned on the top political, university and regulatory leaders around the world.  Recent news reports tell that the second-best philosophy is being trashed around the world while first-best efficient policies are embraced by major economies like USA, Europe, China, India and Russia:

  1. US Congress and Federal Reserve de facto adopted my safe central banking policies to stem the domino of crashing markets in 2008.[11]  
  2. The DOJ has recently acted against mortgage market fraud by mega US and EU banks.[12]
  3. The intellectual architect of winding down of Fannie Mae and Freddie Mac (Larry Summers) withdrew his nomination for the Federal Reserve Chairmanship.[13]
  4. The US Federal Reserve has increasingly distanced itself from the Clearing House LLC, the club of mega banks.  [See footnote to point 1 above.]  The Fed has also become more like the People’s Bank of China.
  5. Continuance of Fannie and Freddie is back on the table.[14]
  6. EU has imported the US Financing Model.[15]
  7. The Chinese premier has stayed off inauguration of the Shanghai Free Trade Zone, which he had conceptualized as a top global center for free market capitalism.  He reportedly had a serious fight with the Chinese bank regulators. Chinese regulators could not even think of fighting with the second-most powerful leader without the blessing of the President.  There have been a lot of downloads of my papers on Constitutional Capitalism and Coalition of Borrowers in China before these reported fights.[16] 
  8. China dismisses a Beijing University economics professor advocating free market capitalism.[17]
  9. Ex-Treasury Secretary Hank Paulson seems to be preparing the investors for protectionism of national institutions and clearing houses.[18]
  10. India has banned creation of new management schools and not issued permission to foreign business schools to open campuses in India.[19]
  11. Russia has stopped subsidizing education in foreign university campuses.[20]

IV. Why should universities reward research on first-best efficient governance?

  1. The philosophy of robbery, underlying second-best governance and indoctrinated through finance and economics curricula, must have generated a negative perception for even the fundamentally important higher education programs in science, technology, engineering and medicine offered by top universities around the world. 
  2. The second-best philosophy has also led to unsustainable rise in the cost of higher education, due to false expectations for sharing wealth usurped by the financial holding companies.  Such expectations are unlikely to materialize in future because of new rules and regulations.   Ex-Treasury Secretary Hank Paulson has mentioned recently the possibility of nationalization of clearing houses and government financial institutions.  This will drastically cut the profits of bank holding companies.    
  3. The second-best philosophy, driven by self-interest (greed), is the principal source of most universal problems facing the humanity: environmental pollution, global warming causing extreme weather like drought and cyclone, depletion of nonrenewable resources and wars.  The second-best philosophy is thus very destructive.  No amount of propaganda through specious expertise or charity can prove otherwise. 
  4. As I have described in my May 4 memo, establishment of the first-best efficient system of governance can be a decisive hallmark of success of your presidency.  It will also be a hallmark of success of other political leaders around the world. 
  5. As the leaders worldwide see success through first-best efficient governance, the university administrators too would/should be induced to reward research on rational economic models (which do not invoke some invisible force) to obtain policies for stability (equilibrium), efficiency and constitutional fairness. 

With profound regards,
Sankarshan Acharya
Founder, Citizens for Development & Pro-Prosperity.Com

[2] Acharya, S. (April 30, 2011), “Cause of the 2008 Financial Catastrophe: The Experts Deceived the Academy and the Nation by Surreptitiously Rejecting Research on Economically Efficient and Constitutional System of Money and Finance, and on Optimal Holding Company Organization and Capital Structure under Constitutional Governance & The Academy Needs A Center of Constitutional Capitalism Founded on Rigorous Research.” .” This paper is available on request.
[3] For all the references, see Acharya, S. (2013), “Arbitrage Pricing of Total Risk of Assets and First-Best Efficient Governance of Financial Markets,” http://pro-prosperity.com/Research/moralhazardliberty.pdf
[4] Acharya, S. (2013), “Coalition of Borrowers, Government-Regulated Lender, Interest Rate and Safe Central Bank in Equilibrium,” http://pro-prosperity.com/Research/Coalition%20of%20Borrowers.pdf
[5] Viral V. Acharya, Matthew Richardson, Stijn Van Nieuwerburgh, Lawrence J. White (2011), “Guaranteed to Fail: Fannie Mae, Freddie Mac, and the Debacle of Mortgage Finance,” Princeton University Press.
[6] See Thomas B. Edsall (September 10, 2013), “Can the Government Actually Do Anything About Inequality?” New York Times.  Nobel Laureate Joe Stiglitz of Columbia concedes that inequality is holding back recovery and even blames financialization of wealth as a problem, but does not elaborate what is about financialization that is causing the slide. See http://opinionator.blogs.nytimes.com/2013/01/19/inequality-is-holding-back-the-recovery/ and http://opinionator.blogs.nytimes.com/2013/10/13/inequality-is-a-choice/?ref=opinion
[7] Acharya, S. (2008), “Fallacy of Keynesian Philosophy,” http://pro-prosperity.com/Fallacy-of-Keyensian-Economic-Philosophy.html
[8] Acharya, S. (April 30, 2011), “Cause of the 2008 Financial Catastrophe: The Experts Deceived the Academy and the Nation by Surreptitiously Rejecting Research on Economically Efficient and Constitutional System of Money and Finance, and on Optimal Holding Company Organization and Capital Structure under Constitutional Governance & The Academy Needs A Center of Constitutional Capitalism Founded on Rigorous Research.” .” This paper is available on request.
9] Viral V. Acharya, Matthew Richardson, Stijn Van Nieuwerburgh, Lawrence J. White (2011), “Guaranteed to Fail: Fannie Mae, Freddie Mac, and the Debacle of Mortgage Finance,” Princeton University Press.
[10] See Acharya, S. (2013), “Constitutional Capitalism for First-best Efficient Governance, Obtained in general equilibrium based on rational microeconomic analysis, devoid of parochial dogmas, politics or prejudice,” http://pro-prosperity.com/Constitutional%20Capitalism.html
[11 Acharya, S. (April 30, 2011), “Cause of the 2008 Financial Catastrophe: The Experts Deceived the Academy and the Nation by Surreptitiously Rejecting Research on Economically Efficient and Constitutional System of Money and Finance, and on Optimal Holding Company Organization and Capital Structure under Constitutional Governance & The Academy Needs A Center of Constitutional Capitalism Founded on Rigorous Research.” .” This paper is available on request.
[12] Washington Post Editorial Board, “Making a bad example of JPMorgan Chase,” October 23, 6:14 PM, http://www.washingtonpost.com/opinions/making-a-bad-example-of-jpmorgan-chase/2013/10/23/98bdb61a-3bf9-11e3-b7ba-503fb5822c3e_story.html
[13] ANNIE LOWREY and BINYAMIN APPELBAUM, “Summers pulls name from consideration for Fed chief,” New York Times, September 15, 2013, http://www.nytimes.com/2013/09/16/business/economy/summers-pulls-name-from-consideration-for-fed-chief.html?pagewanted=3&_r=0
[14] Clea Benson & Cheyenne Hopkins, “Fannie Mae Survival is Back on the Table in Washington,” Bloomberg News, Oct 15, 2013 3:30 PM CT, http://www.bloomberg.com/news/2013-10-15/fannie-mae-survival-is-back-on-the-table-in-washington.html
[15] “Europeans Import US Mortgage Models,” Wall Street Journal, October 7, 2013.
[16] George Chen (October 18, 2013), “Li at crossroads in the fight for economic changes,” http://www.scmp.com/business/banking-finance/article/1341500/li-crossroads-fight-economic-changes The Shanghai Financial Center was designed as “testing ground for free-market policies” by The area is a testing ground for free-market policies that Premier Li Keqiang.  See http://www.bloomberg.com/news/2013-09-29/china-inaugurates-shanghai-trade-zone-in-financial-reform-drive.html . Chinese Premier Li’s surprising absence from the inauguration of the Shanghai Finance Trade is reported widely: http://www.uktradeinvestcanada.org/uktihome/premiumcontent/627160.html

[17] New York Times Editorial Board (October 21, 2013), “Beijing’s Assault on Academic Freedom,” http://www.nytimes.com/2013/10/22/opinion/beijings-assault-on-academic-freedom.html?_r=0

[18] See By Tom Braithwaite (September 19, 2013), “Hank Paulson Warns Regulatory Conflict,” Financial Times (New York): The former US Treasury secretary said reforms put in place after the 2008 crisis could lead to … supporting “regulators, exchange, clearing houses or national financial institutions.”  http://www.ft.com/cms/s/0/7259f6d0-213e-11e3-a92a-00144feab7de.html#axzz2j3EXXERz

[19] Hemali Chhapia, “More B-schools closing than new ones opening,” TNN Jul 1, 2013, 03.23AM IST

[20] Oliver Staley (October 3, 2013), “Duke to NYU Missteps Abroad Lead Colleges to Reassess Expansion,”
Bloomberg News, http://www.bloomberg.com/news/2013-10-04/duke-to-nyu-missteps-abroad-lead-colleges-to-reassess-expansion.html