Wednesday, September 17, 2008
'the greatest regulatory failure in modern history'
This will come to be seen as the greatest regulatory failure in modern history. The degree of leverage that these institutions took on is indefensible. The average large securities firm was leveraged 27 to one in mid-2007. They were not regulated by any prudential supervisor. In effect, they regulated themselves. The lack of transparency was stunning. Many big lenders did not disclose off-balance-sheet risks. In some cases, they did not understand these risks themselves. More fundamentally, we allowed a second, huge financial system to develop outside the normal banking network. It consisted of investment banks, mortgage finance companies and the like. It was unregulated, not transparent and way too leveraged. But with nine separate and mostly ineffective financial regulators, these risks were ignored. That is, until this second system crashed.
increasingly, criticism of the ridiculousness of the free market fundamentalism -- more clearly now than ever in light of the advent of bailout nation, a sham cover for predation upon the many by the few -- and the role it played in creating this, the most severe financial crisis since 1929, is finding voice. there is a sea change afoot. it is time to insist on a return to lawfulness and limitation in finance, in government, in the american zeitgeist.
What do you mean, "indefensible"? It was as planned and intended. According to a plausible argument in 1997 regulators effectively abolished the fractional reserve system (at least for mostly-domestic banks):
«The key event that happened around 1995 is that the fractional reserve ratio was not only lowered it was effectively eliminated entirely. You read that right. The net result of changes during that period is that banks are not required to back assets which largely correspond to M3 or "broad money'' with cash reserves. As a consequence, banks can effectively create money without limitation. I know that sounds hard to believe, but let's look at the facts.»
and look at these graphs that show clearly the consequences:
Percentage of stocks traded on margin
Fannie Mae and Merrill Lynch stock price
and this about the enabler of the gigantic leverage "business model", based on having AAA ratings despite that colossal leverage:
All of these graphs show a sharp change in trend starting in 1995, as the Great Republican Credit Explosion took place.
As shown in the MZM/M3 numbers that curiously stopped being reported (the Republican "blind the beast" strategy) coincidentally:
which also have a definite inflection in 1995 (the year of the Gingrich Revolution).
«They were not regulated by any prudential supervisor. In effect, they regulated themselves»
No, they regulated the regulators, because the major corporate businesses own the Republican party who is their representative in government, and the party enforces strict discipline in ensuring the government does what they party sponsors direct.
It has gotten to the point where currently the fed has in effect a requirement to deposit reserves with major banks instead of viceversa (to allow the major banks to increase leverage instead of limiting it) and deposit taking institutions are required to use insured deposits to fund investment banking operations instead of being forbidden to do so.
«The lack of transparency was stunning. Many big lenders did not disclose off-balance-sheet risks. [ ... ] It was unregulated, not transparent and way too leveraged.»
And this is exactly the "solution" to the crisis that has been chosen by the Republican party: only to move that whole off-balance-sheet system into public ownership. The GSEs and the Fed "facilities" are in effect off-balance-sheet SIVs.
The idea is to transfer leverage from the banks to the government, so the banks can increase their leverage again and continue providing credit.
«But with nine separate and mostly ineffective financial regulators, these risks were ignored.»
But all these separate regulators are run by Republican operatives that are implement a well coordinated overall strategy. The ineffectiveness is clearly a policy, because when effectiveness is required, they all jump together and act rapidly.
And the policy is damn clear, and not just for financial supervision: consider the lack of enforcement of immigration employment checks, the elimination of USA prosecutors that were enforcing anti corruption laws, the constant downsizing of the SEC enforcement division, the shrinking of the FDA food checks, the proposals to make FDA drug approval more automatic and funded by pharma companies.
Why capture regulators one by one when the best strategy is to have the regulators run by the appointees of the party that big business own?
«increasingly, criticism of the ridiculousness of the free market fundamentalism -- more clearly now than ever in light of the advent of bailout nation, a sham cover for predation upon the many by the few»
But again that is just the implementation of Republican policy (and the Democrats have not been exactly eager to undo that policy, they take a lot of money from Wall Street too).
Overall it is not a "greatest regulatory failure", has been is a great success: the top 1% of the country MADE A LOT OF MONEY and gave generously to Republican campaigns (and to Democratic ones too). Just consider the $10B/y of Lehman bonuses as an indication of how great the success has been.
For traditional "Yankee" republicans this is all extremely sad (and even for some "Western" ones, like Bartlett).
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