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It would probably be best to talk about what we
know. Getting those headlines out of the way will, without a doubt, give us
some insight into where we are headed. At least in theory.
Bear Stearns avoided bankruptcy when JP Morgan, who
seized a unique opportunity <a
href=http://bluecollardollar.com/Bear_bailout.html> “to pick apart the
firm for its brokerage business and clearinghouse operations at a
price” </a> that, despite being revised upwards from $2 to $10,
left most folks inside Wall Street speechless.
But that wasn’t quite bad enough. The camps of
McCain, Obama, and Clinton reminded us that there are no real economic
leaders in this election cycle. Instead we heard President Bush suggest that
his tax rebate would do the trick. I believe he referred to it as a shot in
the arm when in fact he should have called a shot across the bow.
At no time has the president shown a greater
disconnect than in the past months. I’m going to miss him when
he’s gone largely because his flawed economics and shortsightedness
will be difficult to replace.
But politics aside, the consumer has scattered for
the shadows like so many cockroaches in the light. Confidence numbers fell,
spending hit new lows and housing prices continued to fall. Words like
recession were morphing into the possibility of a depression as skittish
investors looked for the next shoe to drop.
Boston Fed President Eric Rosengren chose his words
carefully when he suggested that he was uneasy with the current situation,
“Regardless of what you call it, it's a period of growth that's much
too slow relative to what we'd like to see.'' Greenspan we all know now has
added to the discussion pointing out that no market is perfect and
corrections, well, they happen.
Whether you feel it directly or not, which, if you
are listening to every news anchor depends solely on the condition of your
mortgage. Even if you have some equity in your home, this does not mean a
bank to loan you money. But that equity, even if you are unable to use it
offers some solace. You can rest assured that today, the recession
hasn’t touched you. But what about tomorrow?
Now that the recession has been formally announced
by economists and politicians alike as officially here, the only questions
left to be answered seems to be how long will it last and what will become of
the current system. To suggest some
answers for the first question: at least through to the end of the year and
in all likelihood, we will not, in all likelihood have turned an economic
corner until the first quarter of 2010.
The second
question is a little harder. Even though we would like to play the blame
game, asking who knew what when, we know now that no one knew anything who
was supposed to know everything.
The Fed has
offered us a glimpse into their economic acumen and we should all be very
worried. Some have suggested that the average person manning a trading desk
knew more about what was happening over the last six months than most of the
oversight committees that should have been doing what we thought they were
designed to do.
A spokesman for
the SEC offered the following observation, which appeared in a <a
href=http://www.financialnews-us.com/?page=ushome&contentid=2450197851>Wall
Street Journal</a> article penned by Kara Scannell: “As the SEC
is addressing whether there were gaps in its information, it is debating
whether it would have been useful to have data about short-term, or
"repo," financing from the banks that clear trades and hold
collateral for the securities firms under the agency's review.”
The two
agencies offered no real reason why they failed to see the Bear Stearns
meltdown before it happened. The SEC claims that the investment bank assured
them that everything was okay days before it was not. SEC officials we
actually scrutinizing the books as the company was falling down around them.
Now the SEC,
for all it is, is not able to do much more than regulate markets, keeping
order where apparently there seems to be none. The Fed, as we all know can
throw money at the problem and as we have seen is often a reaction that seems
to be too much too late. Instead of ahead of the action, they are chasing a
moving train of events.
This has given
Henry Paulson, the Treasury Secretary the opening he has been looking for.
His closed-door
effort to deregulate the system that is currently in place has troubled me to
such an extent that I even went to the effort of including an essay about the
subject as an appendix to Investing for the Utterly Confused (McGraw-Hill
2007). His advocacy for lower regulatory hurdles is well known and his
current position should be scrutinized for the same beliefs. With agencies
blaming one another and Congress wondering who can take control and offer the
country some sound economic leadership, Mr. Paulson has begun to push for
consolidation.
With all of
their Depression era regulations in place banks are for lack of a better
word, handcuffed by the Fed. That sort of stringent regulation has created a
safely functioning system that protects depositors from the kind of disasters
that have recently occurred with investment banks.
Mr. Paulson
would like to add investment banks, which, once they began borrowing from the
Fed, would need to disclose information that should have been available to
the SEC. Then, firing up the mixmaster, Mr. Paulson would churn the SEC and
the Commodities Futures Trade Commission, along with federal bank and thrift
regulators into one entity. Practically salivating at the recipe is the
influential lobby group Securities Industry and Financial markets
Association.
Tempering their
joy at the thought of what, at least on the surface, seems to be less
regulation, Wall Street is still worried. Even if the current system seems
antiquated, less regulation in the form of consolidated offices, many of
which have seen funding cuts and lack of staffing because of those financial restrictions,
is not the answer. The entities work as long as everyone is playing the same
game. Trouble is, everyone bent the rules.
It is time for
the simplest and least expensive solution to take hold: the margin call. With
Wall Street able to borrow $25 for every dollar it holds in assets, the focus
became how much risk is too much risk. By simply lowering that ratio by $10,
much of the creative and often opaque risk would evaporate. The result would
be less over-the-top profits and considerably less gambling with
investor’s money but with it, more disclosure and financial and
economic stability.
Many have said
that Bear Stearns demise was due to a lack of confidence that exposed a lack
of liquidity and the inability to value what they held as assets. Critics of
tighter margin requirements believe that the profits they could no longer
generate from their trading desks would come instead from increased fees for
their customers. If the marketplace can set the price, then this will not be
an obstacle.
There is no
easy solution but adjusting the margin requirements held in reserve will
protect all of us at a far lesser cost to taxpayers. Reorganizing the whole
financial oversight and regulation of financial markets smacks of the
consolidation fiasco that is Homeland Security.
To begin
changing the system Mr. Paulson, all you need to do is ask Wall Street what
they fear the most.
Paul Petillo
www.BlueCollarDollar.com
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