A thing you might want is for investors to be able to understand the financial situation of the companies they invest in. Traditionally, that is a thing that many people want, anyway.* Much of our system of corporate finance is dedicated to that and it mostly works okay.
A place where it breaks down a bit is in financial institutions. Because big financial institutions more or less take shareholder money, leverage it 10 or 30 times, and invest it all in a large and ever-changing mix of mark-to-market assets, some of which they mark themselves. Then they tell you things like “our assets have a current expected value of around X, with a daily variance of around Y” and since they’re sporting they also give you some sort of rough breakdown of what classes those assets fall into and stuff. This does not give you precise confidence about what those assets are worth today or what they’ll be worth in a week. And you can’t really find out much granular detail about the assets, because disclosing them all would be a competitive problem and/or just take too long / make your eyes glaze over. If you’re lucky maybe the banks disclose in some useful form actionable information about whatever you’re currently worried about, but you’re probably worried about the wrong things anyway.
So you do the best you can, and rely on external sources, like ratings agencies, who might know more than you, maybe, sometimes, or like Warren Buffett. Or you rely on government oversight to keep your financial institutions more or less solvent. But regulators, too, need some sort of heuristic for figuring out what assets are risky and how risky they are. After all, a big part of their job is regulating those risks, by doing things like setting capital requirements. It turns out that this is hard. So they sometimes outsource that job to ratings agencies. That doesn’t always work. Then they get all “we’re going to stop outsourcing risk regulation to ratings agencies.” That doesn’t always work either.
Vikram Pandit has his own idea and it’s pretty neat: Continue reading »
A thing about credit ratings is that issuers pay for ratings, and the issuers who pay more get better ratings. This is a problem that many people want to solve either by the obvious approach of having someone else pay for ratings or by the fancier approach of having issuers pay for ratings but not letting agencies compete directly for that money.
Today a paper by three accounting professors reminds us that the first approach has been tried, and not just by Egan-Jones. In the early 1970s, while Moody’s was charging issuers for ratings, S&P was still charging investors, so there was a period where you could directly compare the ratings of two big established agencies, one of whom had incentives to give actionable advice to investors, the other of whom had incentives to give good ratings to issuers. You will not be surprised at what happened: Continue reading »
Got to give it up for Volcker, who, despite growing uproar against his proposed eponymous rule, is soldiering on, saying it’s the best thing that ever happened since well, ever. Volcker is however getting increasingly frustrated and said he is “very disturbed” by the level of dysfunction in Capitol Hill and the Senate, and basically, WTF is going on with these people who can’t get things done?
In a CNN interview yesterday, Volcker said that regulators screw up big time in the years leading to the crisis, as a) they weren’t “on top” of anything and b) they didn’t understand what was going on anyway, relying on “somebody down in the bowels had it under control.” Also financial innovation sucks. The only innovation that has added value recently, is the ATM machine.
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SheBair is oddly pulling a Geithner, flip flopping around the prop trading ban proposal. Just like her nemesis, she’s adopting a “yeah, it’s a great idea but I don’t know” attitude toward Obama’s proposal.
At Wednesday’s AIG hearing, Congressman McHenry asked Timmy G. how he could back the Volcker Rule while having said that he was opposing a Glass-Steagall return, screaming at him: “How do you reconcile those two beliefs? They are direct opposites”
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Sources tell us that Timmy is “not enthused” with the proposals, and getting “increasingly frustrated and overwhelmed.” But let’s actually put some words in the Treasury Secretary’s mouth. Paul Krugman will start:
Various news reports that Tim Geithner is privately opposed to the new Obama bank plan — which isn’t that much of a surprise, but he should not be talking about it (if he is). What we do have is this PBS interview, in which he certainly isn’t doing much to back the concept. The correct answer to “In essence are you saying that big banks need to be broken up” is “Yes”; add some qualifiers if necessary — “we’re not talking about a sudden disruption, but about new rules of the game, but the eventual goal is smaller banks that aren’t engaged in inappropriate activities” or something like that.
As it was, Geithner might as well have had a chyron underneath as he spoke, with the words DON’T WORRY, WE’RE NOT GOING TO TAKE ANY REAL ACTION.
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Now, you can think what you want about the Obama proposals, but there is something I find more than strange. What is happening about what caused the crisis in the first place and why is there no mention of it anywhere anymore in none on of the proposals?
Maybe I missed something here, and maybe someone can help me understand, but as far as I can remember, what was at the root of the problem, were OTC derivatives and securitized products based on bad loans. Oh wait, we did have a program to solve that and relieve banks from those “toxic assets” off their balance sheets: the Troubled Asset Relief Program, our beloved TARP. We kinda strayed away from its original intent, no?
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