Investing Curiouscatblog

Tag: regulation

  • Failure to Regulate Financial Markets Leads to Predictable Consequences

    It seems to me the situation that lead to the current economic problems are due to the overthrown of the Glass-Steagal and other long time sensible regulation put in place to restrict economy wide destruction caused by a few large financial firms (well, that plus incredibly poor management by people that paid themselves many times more than anyone else and other factors – huge consumer debt…). But the most significant systemic problem was failure to regulate even close to sensibly. I have several posts on this topic on previously: Congress Eases Bank Laws, 1999 – Treasury Now (1987) Favors Creation of Huge Banks – Canadian Banks Avoid Failures Common Elsewhere and Greenspan Says He Was Wrong On Regulation.

    Capitalism requires sensible regulation. Regulation is not a friction on capitalism it is a necessary component. Poor regulation is a friction that is waste that should be excised. Unfortunately that is a very challenging task and when you allow those with the most gold to set the rules it is no surprise you have them saying they should not be regulated but should be protected. The failure of financial regulations do show the very obvious problem we have currently of those that donate huge amounts to politicians are granted favors that are paid for by the economy overall.

    The widespread failure to regulate financial markets recently is almost certain to lead to this exact type of situation every time. Companies will over-leverage, take huge risks, take huge pay while times are good and just go bankrupt when times are bad. Think about how a bank makes money. They charge fees for things like: writing a loan, overdraft charges on your account, arranging financing (loan or stock sale)… They charge more for in interest than they pay. Some money there but really they are doing nothing special so they should not be able to charge too much. Even the ridicules fees companies pay (often those in the companies have arrangements to get personal special deals – allocations of IPO’s, jobs later…) for arranging stock sales do not have a systemic risk. Those risks should be very easy to manage sensible.

    They speculate in currency markets, commodities markets, futures, derivatives… If you want a stable economy if you allow huge speculative investments to be assumed to such an extent they risk the economy you are in trouble. If you refused those risks to limited liability companies perhaps your limited regulation model might work. Where those profiting on products with negative economic externalities would personally go bankrupt prior to the losses becoming economically crippling. But I doubt even that would work. And we don’t have that now. We allow people to setup limited liability corporations, drain them of capital on speculation of potential value and then walk about with hundreds of millions of dollars if the company fails. And the negative externalities (due to huge leverage) are huge.

    Regulation seems the obvious solution. And it works when applied. It wasn’t until the USA decided to abandon the financial system regulation and enforcement that the problems became systemic. And see the current Canadian banking system for what happens, even while the world economy is collapsing if you required banks to remain banks instead of massively leveraged speculators paying huge bonus to the executives based on their claims of profitability.

    I agree trying to control risk is dangerous. There are however, very sensible measures to take. Do not allow huge financial companies to exist (we have laws on anti-trust, anti-competitive behavior…). Do not allow banks to speculate (more than a careful controlled regulated amount). Do not allow massive leverage of massive amounts of money. Do require audited financial records. Do require companies that want to speculate to be much smaller than regulated bank, and bank-like companies. Do elect politicians that will appose allowing companies to undertake systemic risks to the economy for short term financial gains.

    We continue to elect politicians that provide large favors to those giving them money at the expense and risk to the rest of us. Therefore we are bringing this upon ourselves. When we chose to stop supporting politicians that behave in that way then we will get different behavior. Until that point it will continue. We don’t seems to be in any mood to change what we have been doing.

    Comments on Note to Regulators: Beware the Montana Paradox

    Related: More on Failed Banking Executives – more posts on regulation in capitalist economies – Credit Crisis the Result of Planned Looting of the World Economy – Bad Behavior

  • The Best Way to Rob a Bank is as An Executive at One

    William Black wrote The Best Way to Rob a Bank Is to Own One: How Corporate Executives and Politicians Looted the S&L. I think he a bit off on the “owning one,” being the best way to loot. The looters are not owners, they are executives that loot from owners, taxpayers, customers… And those looters pay politicians a great deal of money to help them. He appeared on Bill Moneys Journal discussing the huge mess we know are in and how little is being done to hold those responsible for the enormous crisis created by them.

    Fraud is deceit. And the essence of fraud is, “I create trust in you, and then I betray that trust, and get you to give me something of value.” And as a result, there’s no more effective acid against trust than fraud, especially fraud by top elites, and that’s what we have.
    …
    The FBI publicly warned, in September 2004 that there was an epidemic of mortgage fraud, that if it was allowed to continue it would produce a crisis at least as large as the Savings and Loan debacle. And that they were going to make sure that they didn’t let that happen. So what goes wrong? After 9/11, the attacks, the Justice Department transfers 500 white-collar specialists in the FBI to national terrorism. Well, we can all understand that. But then, the Bush administration refused to replace the missing 500 agents. So even today, again, as you say, this crisis is 1000 times worse, perhaps, certainly 100 times worse, than the Savings and Loan crisis. There are one-fifth as many FBI agents as worked the Savings and Loan crisis.
    …
    Well, certainly in the financial sphere, I am. I think, first, the policies are substantively bad. Second, I think they completely lack integrity. Third, they violate the rule of law. This is being done just like Secretary Paulson did it. In violation of the law. We adopted a law after the Savings and Loan crisis, called the Prompt Corrective Action Law. And it requires them to close these institutions. And they’re refusing to obey the law.
    …
    In the Savings and Loan debacle, we developed excellent ways for dealing with the frauds, and for dealing with the failed institutions. And for 15 years after the Savings and Loan crisis, didn’t matter which party was in power, the U.S. Treasury Secretary would fly over to Tokyo and tell the Japanese, “You ought to do things the way we did in the Savings and Loan crisis, because it worked really well. Instead you’re covering up the bank losses, because you know, you say you need confidence. And so, we have to lie to the people to create confidence. And it doesn’t work. You will cause your recession to continue and continue.”
    …
    And their ideologies, which swept away regulation. So, in the example, regulation means that cheaters don’t prosper. So, instead of being bad for capitalism, it’s what saves capitalism. “Honest purveyors prosper” is what we want. And you need regulation and law enforcement to be able to do this. The tragedy of this crisis is it didn’t need to happen at all.

    Related: Fed Continues Wall Street Welfare – Credit Crisis the Result of Planned Looting of the World Economy – Lobbyists Keep Tax Off Billion Dollar Private Equities Deals – Poll: 60% say Depression Likely – Canadian Banks Avoid Failures Common Elsewhere – Too Big to Fail – Why Pay Taxes or be Honest

  • Congress Eases Bank Laws – 1999

    As I mentioned a few months ago, the New York Times archive is a great tool to see the history that led to the economic crisis we now face. Here is an article from 1999: Congress Passes Wide Ranging Bill Easing Bank Laws

    The measure, considered by many the most important banking legislation in 66 years, was approved in the Senate by a vote of 90 to 8 and in the House tonight by 362 to 57. The bill will now be sent to the president, who is expected to sign it, aides said. It would become one of the most significant achievements this year by the White House and the Republicans leading the 106th Congress.

    ”Today Congress voted to update the rules that have governed financial services since the Great Depression and replace them with a system for the 21st century,” Treasury Secretary Lawrence H. Summers said. ”This historic legislation will better enable American companies to compete in the new economy.”

    The decision to repeal the Glass-Steagall Act of 1933 provoked dire warnings from a handful of dissenters that the deregulation of Wall Street would someday wreak havoc on the nation’s financial system. The original idea behind Glass-Steagall was that separation between bankers and brokers would reduce the potential conflicts of interest that were thought to have contributed to the speculative stock frenzy before the Depression.
    …
    ‘The world changes, and we have to change with it,” said Senator Phil Gramm of Texas, who wrote the law that will bear his name along with the two other main Republican sponsors, Representative Jim Leach of Iowa and Representative Thomas J. Bliley Jr. of Virginia. ”We have a new century coming, and we have an opportunity to dominate that century the same way we dominated this century. Glass-Steagall, in the midst of the Great Depression, came at a time when the thinking was that the government was the answer. In this era of economic prosperity, we have decided that freedom is the answer.” In the House debate, Mr. Leach said, ”This is a historic day. The landscape for delivery of financial services will now surely shift.”

    But consumer groups and civil rights advocates criticized the legislation for being a sop to the nation’s biggest financial institutions. They say that it fails to protect the privacy interests of consumers and community lending standards for the disadvantaged and that it will create more problems than it solves.

    The opponents of the measure gloomily predicted that by unshackling banks and enabling them to move more freely into new kinds of financial activities, the new law could lead to an economic crisis down the road when the marketplace is no longer growing briskly.

    ”I think we will look back in 10 years’ time and say we should not have done this but we did because we forgot the lessons of the past, and that that which is true in the 1930’s is true in 2010,” said Senator Byron L. Dorgan, Democrat of North Dakota. ”I wasn’t around during the 1930’s or the debate over Glass-Steagall. But I was here in the early 1980’s when it was decided to allow the expansion of savings and loans. We have now decided in the name of modernization to forget the lessons of the past, of safety and of soundness.”

    Senator Paul Wellstone, Democrat of Minnesota, said that Congress had ”seemed determined to unlearn the lessons from our past mistakes.”

    This is a great view into how both parties foolishly risked the economy to provide favors to their big donors and golfing buddies. It is sad that we chose to elect such people that play such an important role in our economy. But it is not as though we make these choice without easy access to the information on how they govern. And today listening to the people that took the money and voted for these, and similar changes to favor financial friends, they try and make it sound like they are not responsible. And sadly my guess is most people will accept their excuses. Until we do a better job of electing people we are going to continue to suffer the results of bad policy and to pay for the favors politicians give to those giving them money.

    Related: Lobbyists Keep Tax Off Billion Dollar Private Equities Deals and On For Our Grandchildren – Copywrong – Pork Sugar – Monopolies and Oligopolies do not a Free Market Make – Ignorance of Capitalism – Ethanol: Science Based Solution or Special Interest Welfare – Legislation to Address the Worst Credit Card Fee Abuse – Maybe

  • Credit Crisis the Result of Planned Looting of the World Economy

    Fluke? Credit crisis was a heist by James Jubak

    What we’re now living through, though, is the result of a conscious, planned looting of the world economy. Its roots stretch back decades. And it wouldn’t have been possible without the contrivances of the bought-and-paid-for folks who sit in Congress.

    Of course, just because the plan blew up on the looters, taking off a financial finger here and a portfolio hand there, you shouldn’t have any illusion that they’ve retired. In fact, in the “solutions” now being proposed — by Congress — to fix the global and U.S. financial systems, you can see the looters at work as hard as ever.

    He is exactly right.

    Question: Why weren’t state insurance regulators more aggressive in regulating AIG?

    Answer: Because the federal government had forced them to back off. An aggressive interpretation of the definition of insurance could have let state insurance agencies regulate the derivatives contracts that AIG’s financial-products group was writing out of London. These were, in fact, insurance policies that guaranteed the companies taking them out (banks, other insurance companies, investment banks and the like) against losses on securities in their portfolios.

    But Congress had made it very clear in the Commodity Futures Modernization Act — supported by then-Federal Reserve Chairman Alan Greenspan, steered through Congress by then-Sen. Phil Gramm, R-Texas, and signed into law by President Bill Clinton in December 2000 — that most over-the-counter derivatives contracts were outside the regulatory purview of all federal agencies, even the Commodity Futures Trading Commission.

    With the new law on the books, the market for credit default swaps exploded from $632 billion outstanding in the first half of 2001, according to the International Swaps and Derivatives Association, to $62 trillion in the second half of 2007.

    Question: Wasn’t anybody worried about the risk to the financial system posed by a market that dwarfed the assets of the sellers of this insurance?

    Answer: Worry about leverage? You’ve got to be kidding.

    In 2004, the Securities and Exchange Commission, after hard lobbying by Wall Street, reversed its 1975 rule limiting investment banks to leverage of 15-to-1. The new limit could be as high as 40-to-1 if the investment banks’ own computer models said it was safe.

    Understanding the people paid lots of money to politicians and then (after they got lots of money) those politicians enacted laws that endangered the economy to favor those giving them lots of money. Now maybe these politicians just like letting exceptionally wealthy people endanger the economy for personal gain. Maybe they think that is a good idea. I tend to think instead they do what those they give them lots of money want. But maybe I am wrong on that.
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  • What the Bailout and Stimulus Are and Are Not

    The huge banking bailouts and stimulus bill are meant to counter-balance the huge problems the economy is suffering through. The damage caused to the economy, is largely from unwise risks that were allowed by regulators and politicians that have not panned out and are now greatly damaging the economy. It is always easy for politicians to pay out money in an attempt to buy our way out of problems. That is what the stimulus and bailout bills are doing. They are yet again heaping huge debts on our children and grandchildren.

    The bailout and stimulus packages are not about preventing foolish risks to the economy by huge banks that would make the economy safer in the future. Those types of bills are very hard to pass as the politicians get great sums of money to allow people to risk the economy for their own benefit. The concept of the stimulus is not to fix the cause of the problem but do cope with the problem we are left with due to people that paid themselves huge amounts of money. Now the taxpayers get to fund the huge payouts wall street has given themselves.

    This is because they never actually provided the value they claimed. They merely created false returns to claim they provided a benefit to justify obscene pay (many of them truly didn’t understand this is what they were doing so beyond failing they were so incompetent [while accepting well over a million dollars a year] they didn’t even understand that the financial games they were playing were failing. It is hard to know what is worse, being so incompetent while claiming you deserve millions or knowing you are just paying yourself money based on false claims of value.

    Either way, the banks are left bankrupt – having worthless securities created by those paying themselves huge amounts of money. If the huge banks fail the financial system collapse creates huge problems – businesses that have operated for decades by borrowing some funds (responsibly) go bankrupt because no funds are available to lend them, etc..

    The stimulus is not about fixing the problems of the past it is about countering the huge decline from the bubble economy. That bubble economy was funded largely by claiming value where none existed thereby allowing people to spend huge amounts of money based on those faulty claims. How people are shocked that playing financial games doesn’t actually make hundreds of billions of dollars appear out of thin air is beyond me.
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  • Sound Canadian Banking System

    Worthwhile Canadian Initiative by Fareed Zakaria

    Guess which country, alone in the industrialized world, has not faced a single bank failure, calls for bailouts or government intervention in the financial or mortgage sectors. Yup, it’s Canada. In 2008, the World Economic Forum ranked Canada’s banking system the healthiest in the world. America’s ranked 40th, Britain’s 44th.
    …
    Canadian banks are typically leveraged at 18 to 1—compared with U.S. banks at 26 to 1 and European banks at a frightening 61 to 1.
    …
    Canada has been remarkably responsible over the past decade or so. It has had 12 years of budget surpluses, and can now spend money to fuel a recovery from a strong position. The government has restructured the national pension system, placing it on a firm fiscal footing, unlike our own insolvent Social Security. Its health-care system is cheaper than America’s by far (accounting for 9.7 percent of GDP, versus 15.2 percent here), and yet does better on all major indexes. Life expectancy in Canada is 81 years, versus 78 in the United States; “healthy life expectancy” is 72 years, versus 69. American car companies have moved so many jobs to Canada to take advantage of lower health-care costs that since 2004, Ontario and not Michigan has been North America’s largest car-producing region.

    Related: Canadian Banks Avoid Failures Common Elsewhere – International Health Care System Performance – Greenspan Says He Was Wrong On Regulation

  • Bail us Out, say Madoff Victims

    As I suspected those (who are not earning minimum wage you can be sure) that have lost money on the Madoff case would expect others to bail them out: well paid lawyers (I am sure) are making their case for just such a bailout of their wealthy clients.

    Lawyers representing the victims of Bernard Madoff’s alleged $50bn fraud are calling on the US government to bail them out with billions of taxpayers’ dollars.
    …
    The SIPC has little more than $1.6bn of funds and has promised $500,000 to each Madoff victim who had an account with his firm in the past 12 months.

    The debate needs to be about what is the proper role for government. Not about this instance. What type of losses do we want secured? How large of payments do we want to insure? That amount has been $500,000 if we are changing the rules after the fact for a few is that really the best course of action)? How should these payments be funded? Do we really want to raise taxes on our grand children (many of which who will earn less than the equivalent of $50,000 today)? I don’t think so. This SIPC fund should be paid for by fees on investments just like the FDIC is paid for based on fees on covered deposits (as the SIPC is now – but no taxpayer funding should occur).

    If we decide we want to pay back people several million each then the fees just need to be raised to fund such a system. Just as with the FDIC if we want the government to backstop the fund by guaranteeing they will loan the fund money if it runs short of cash is fine with me. Then the SIPC fund just pays back the taxpayers with interest.
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  • Improving Credit Card Regulations

    Fed Could Remake Credit Card Regulations

    The Federal Reserve on Thursday will vote on sweeping reform of the credit card industry that would ban practices such as retroactively increasing interest rates at will and charging late fees when consumers are not given a reasonable amount of time to make payments.
    …
    The proposal would also dictate how credit card companies should apply customers’ payments that exceed the minimum required each month. When different annual percentage rates apply to different balances on the same card, banks would be prohibited from applying the entire amount to the balance with the lowest rate. Many card issuers do that so that debts with the highest interest rates linger the longest, thereby costing the consumer more.

    Industry officials have lobbied against the provisions, particularly the one restricting their ability to raise interest rates. They have warned that the changes would force them to withhold credit or raise interest rates because they won’t be able to manage their risk.

    “If the industry cannot change the pricing for people whose credit deteriorates then they have to treat most credit-worthy customers the same as someone whose credit has deteriorated,” Yingling said. “What that means for most people is they’ll pay a higher interest rate.”

    The government has been far to slow in prohibiting the abusive practices of credit card companies.

    Related: How to Use Your Credit Card Responsibly – Avoid Getting Squeezed by Credit Card Companies – Legislation to Address the Worst Credit Card Fee Abuse – Maybe (Dec 2007) – Sneaky Credit Card Fees – Poor Customer Service: Discover Card

  • Greenspan Says He Was Wrong On Regulation

    Greenspan Says He Was Wrong On Regulation

    Greenspan alternately defended his legacy and acknowledged mistakes. Waxman asked whether the former chairman was wrong to consistently oppose regulating the multitrillion dollar derivative market that has contributed to the financial crisis. “Well, partially,” said Greenspan, before stressing the difference between credit-default swaps and other types of derivatives.
    …
    Even Greenspan seemed genuinely perplexed yesterday by all that had happened, hard-pressed to explain how formerly fundamental truths about how markets work could have proved so wrong.
    …
    “When bubbles cause huge problems is when they cause the financial sector to seize up,” said Frederic S. Mishkin, a Columbia University economist and, until recently, Fed governor. “The right way to deal with that kind of bubble is not with monetary policy,” but with bank supervision and other regulatory powers.
    …
    While endorsing some expanded regulation yesterday, such as requiring the companies that combine large numbers of loans into securities to hold on to significant numbers of those securities, he also repeatedly retreated to his libertarian-leaning roots, and warned of the dangers of overreacting.
    …
    “I made a mistake,” Greenspan said, “in presuming that the self-interests of organizations, specifically banks and others, were such as that they were best capable of protecting their own shareholders and their equity in the firms.”

    The key is to strive for properly functioning markets. Unfortunately that does not mean allowing those that give large payments to politicians to foist huge risks on the economy by exempting themselves from sensible regulation. I guess some people get confused that the benefits of “free markets” are not the same as standing back and allowing powerful interests to manipulate markets and risk economies. The benefits of a free market are provided to the economy when the market is free not when large, powerful organizations are allowed to exert undue influence on markets.

    I don’t really understand how people could think “free markets” are about letting special interests be free to manipulate markets. It is not really something that should be confusing to people that have thought enough to have an opinion on the benefits of free markets. The dangers of monopolies and business people conspiring to extract benefit (for those in the cartel, trust, conspiracy…) by manipulating the market was well know from the initial minds putting together capitalist theory. And the obvious method to allow the benefits of the free market to be maintained was regulation to prevent those that sought to manipulate the market for their benefit.

    And the dangers of overly leveraged financial institutions should be obvious to anyone with a modicum of understanding of financial history. Then make those overly leveraged financial institutions large (too be to fail) types and you really are asking for disaster. Add in a extremely large use of debt by the public and private sectors (living beyond your means). Then throw in encouraging reckless short term thinking by providing enormous cash bonuses for paper potential profits and you really have to wonder how anyone could think this was not a perfect design to assure a financial meltdown.

    Related: Too Big to Fail, Too Big to Exist – Fed to Loan AIG $85 Billion in Rescue – 2nd Largest Bank Failure in USA History

  • Treasury Now (1987) Favors Creation of Huge Banks

    Treasury Now Favors Creation of Huge Banks, New York Times, 1987:

    Top officials at the Treasury Department have concluded that the Government should encourage creation of very large banks that could better compete with financial institutions in Japan and Europe.

    The Treasury plan, which would permit the acquisition of banks by large industrial companies, was also endorsed by Alan Greenspan, in an interview before President Reagan nominated him this week to be chairman of the Federal Reserve Board.
    …
    Mr. Gould acknowledged that any policy promoting the creation of very large financial institutions encounters deep-seated sentiments that date from the founding of the Republic. But he thinks the nomination of Mr. Greenspan could provide an important stimulus for change. Mr. Greenspan contends that many of the laws restricting commercial banks severely limit their ability to adapt to a changing marketplace.

    The Reagan Administration has met frustration in its efforts to lessen regulation of banking, largely because Paul A. Volcker, the current Federal Reserve chairman, has firmly opposed any move that would begin to break down the barriers that prohibit large nonbanking companies from owning banks. Mr. Volcker has also been rather grudging in his support of changes that would allow interstate banking and the underwriting of securities by banks.
    …
    ”We have been the beneficiaries of living in a relatively insulated big economy, and only recently have we found out that the Japanese can make automobiles better than we do,” said Hans Angermueller, vice chairman of Citicorp. ”We are discovering that the same thing may apply in the financial services area, and to meet that challenge, we need to get leaner, meaner and stronger. We don’t do this by preserving the heartwarming idea that 14,000 banks are wonderful for our country.”

    The New York Times web archive is a great resource for viewing the historical trends to turn away form the capitalist ideas of free market competition and instead move toward large market dominating banks. You get the impression from people talking about “free markets” that they have never actually read Adam Smith, Ricardo, Mills…

    Related: Ignorance of What Capitalism Is – Not Understanding Capitalism – Canadian Banks Avoid Failures Common Elsewhere – Monopolies and Oligopolies do not a Free Market Make – Estate Tax Repeal
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