By David Einhorn (Wiley & Sons Publishing, 2008)

Fooling Some of the People All of the Time 

In 2002, David Einhorn, the fresh 32 year old President of Greenlight Capital – a New York based hedge fund and research company – gave a speech at a charity investment conference to benefit a children’s cancer hospital. He was asked to share his best investment idea. Subsequently, he described his reasons why his firm had sold short the shares of Allied Capital, a publicly traded leader in the private finance business. Greenlight bet that the stock would decline because the company’s business was in trouble and its accounting was corrupt despite duplicitous efforts of the firm’s management “spin” a positive story to investors.  Einhorn’s speech was so compelling that the next day, when the New York Stock Exchange opened for trading, Allied’s shares remained closed. So many investors wanted to sell or short the stock that the NYSE could not balance all the sell orders to open Allied’s trading in an orderly fashion.

What followed was a firestorm of controversy. Allied responded with a Washington-style spin job – attacking Einhorn, and disseminating half-truths and outright lies. Rather than protect investors by reviewing Einhorn’s well-documented case against Allied, the SEC — at the behest of the politically connected Allied — instead investigated Einhorn for stock manipulation. Over the ensuing six years, the SEC allowed Allied to make the problem bigger by approving more than a dozen additional stock offerings that raised over $1 billion from new investors.

Fooling Some of the People All of the Time is the gripping chronicle of that revealing saga. Page by page, it delves deep inside Wall Street, showing how the $6 billion hedge fund Greenlight Capital conducts its investment research and detailing the maneuvers of an unscrupulous company. Along the way, you’ll witness feckless regulators, compromised politicians, and the barricades our financial markets have erected against exposing misconduct on Wall Street. This is an important read because the book gives you an excellent “insider’s” perspective of where the Markets were in the years immediately preceding the collapse of Bear Stearns – the event in March 2008 that precipitated the financial crisis. You will also discover the immense difficulties that prevent the government from sanctioning politically connected companies — making future Enrons inevitable.  Further still, this book is important because Einhorn and the research methods that his firm uses to uncover accounting scams and other balance sheet tricks publicly traded companies employ to hide financial weakness was among the first to start shorting Lehman Brothers stock in April 2008 after their overly confident quarterly report.

This revealing book shows the failings of Wall Street: its investment banks, analysts, journalists, and especially our industry regulators.  At its most basic level, Fooling Some of the People All of the Time is an important call for stronger regulatory enforcement, more effective regulatory reforms, and fair play in the financial markets.

China leading global economy in recovery

China’s industrial production and trade surplus posted robust double-digit gains in October, indicating a strengthening recovery in the world’s third-largest economy. China, unlike the U.S. and other western industrial nations, has managed well in the advance of the global economic crisis. Such economic strength is also likely to increase pressure on policy makers to let the yuan appreciate as a hedge against inflation risks.

The announcement came days before leaders from the Asia-Pacific region gather in Singapore this week, and a visit by President Obama to Beijing next week, where he plans to raise the issue of China’s currency policy and a more “helpful” role that China can play in the global economy.  China’s Premier, Wen Jiabao, and Zhou Xiaochuan, China’s Central Bank Chairman, have so far resisted pressures to loosen reins on the renminbi (yuan), awaiting a bigger rebound in exports in an effort to secure social stability and job gains.

“For China, it is necessary and appropriate to allow the currency to be more flexible,” Asian Development Bank President Haruhiko Kuroda said in an interview with Bloomberg Television in Singapore yesterday. “Crisis response by the Chinese authorities has been excellent,” and “they’ve brought about a very strong economic recovery,” he added.  As a result, production rose 16.1% year-over-year, the most since March 2008, according to China’s state statistics bureau in Beijing.  Meanwhile, retail sales gained an annual 16.2% in October.  In addition, the trade surplus almost doubled from September, to $24 Bn, as the slide in exports eased to the slowest pace this year.  The rise in retail sales is promising. If Chinese households can spend and consume more, and more capital investments by corporations, it can go a long way to leading a global economic revovery. Like most Asian nations, Chinese households and corporation are notoriously tight-fisted when it comes to spending, consumption and capital investment. 

Hours after the economic indicators were released, the central bank said foreign-exchange policy will take into account global capital flows and changes in major currencies, prompting speculation it will allow the currency to strengthen. The yuan’s peg to the dollar since July 2008 has left it dropping along with the greenback against the Euro and the Japanese yen.  Successively, China’s central bank holds more than $2Trn in U.S. Treasury reserves — enough to wipe-out the entire current U.S. federal budget deficit. 

Chinese central bank policymakers have indicated they will improve the setting of the yuan’s foreign exchange rate in a “proactive, controlled and gradual manner and based on international capital flows and movements in major currencies,” the People’s Bank of China’s said in a quarterly report yesterday. Officials have previously aimed to keep the yuan “stable.”

“The change in description of the yuan policy may signal an early warning to the market,” said Shi Lei, a Beijing-based analyst at Bank of China Ltd.  Read more here.

Source:  Bloomberg; Globe & Mail         Photo: LIU JIN/AFP/Getty Images

Asian corporate savings glut..??

As the major Asian powers lead the path to global economic recovery, it is going to have to tackle two issues which have direct impact on U.S. economic foreign policy, and which are also constraining Asia’s long-term growth potential.  Namely, (1) Asian firms that have strong net income (profitability) yet still do not make investments to expand or build their franchise; and (2) increasingly wealthy households have strong accumulated savings, but are reluctant to spend and consume. Failing to accomplish either of the two can stifle a global recovery, amplify stagflation, devalue the greenback, and can drive even larger trade imbalances in the U.S.  The IMF has examined this dilemma and their findings are compelling.

At first glance, such behavior seems inexplicable and counter-intuitive.  Let’s imagine for a moment you are an investor—you may well be— you put quite a bit of money into a company to back its expansion plans. Initially, these plans prove successful, and the company makes quite a bit of money. But then the firm ran out of investment ideas. What would you expect them to do?  Surely, you would expect them to return the money you provided, for example by paying it out as dividends. But in the past, prosperous decade before the current downturn this hasn’t been happening in emerging Asia. Firms have been sitting on their profits, not investing them, but not paying them out in dividends, either. That is a puzzle, and a problem.

It’s a puzzle because it’s not obvious why firms should sit on money when they don’t have any need for it. When firms initially started doing this after the Asian crisis of the late-1990s, they had a ready rationale. They wanted to pay down their excessive levels of debt, which during the crisis had brought some of Asia’s largest companies low. But as the years went on, and debts fell, first to safe and then to low levels, it was clear that something else must be going on.  There’s a further puzzling aspect. Economic theory states that households can “pierce the corporate veil” and extract value from a company even if it doesn’t actually pay out profits as dividends. That’s because the retained earnings would increase the firm’s net worth, which would be reflected in its share price. Households could then sell the shares, or borrow against them.

Either way, they could spend more. This theory has been tested in empirical research and found to hold in advanced countries, and some emerging markets. But it doesn’t hold true in China or the rest of emerging Asia. Households simply do not consume more, despite holding valuable financial assets. Why does this matter?

Also see Danny Quah’s comments on RGE’s Asia Monitor

It matters because Asia’s corporate savings puzzle lies at the heart of its economic imbalances. It is precisely the substantial and growing excess of savings over investment in the corporate sector, coupled with subdued household consumption, that over the past decade has produced the region’s large external current account surpluses.

We tried to analyze this mystery in Chapter III of the Asia-Pacific Regional Economic Outlook. We discovered two vital clues:

• Corporate governance. The higher the level governance, the more shareholders are able to exercise their rights and prevent firms from hoarding cash.
• Financial sector development. The more liberalized the financial market, the less firms hoard cash, because they have easier access to funding and are less worried about being shut out of financial markets. Financial liberalization also allows households to consume against their corporate wealth, because they can borrow using their financial assets as collateral.

These finding have profound implications for policy. For example, the econometric estimates imply that if Asia were to reach the average level of corporate governance in advanced economies, it would be able to lessen corporate savings by as much as 2½ percent of GDP. Similar advances in financial sector liberalization could reduce savings by 5 percentage points.  Resolving the conundrum of firms that save but do not invest, and households that hold this wealth but cannot consume may enable Asia to finally catalyze domestic demand.  It could help to  restore rapid growth, even in a “new world” of softer advanced country demand. Improved corporate governance and further financial sector development may be two remedies worth exploring.

Source: IMFdirect posted by Anoop Singh.   Image:  fotosearch.com

'Too Big to Fail' is simply TOO BIG to exist!

As I have been advocating for months now on my blog and in phones calls and letters to Congressional contacts, some of the Obama administration’s most resistant regulators and economists – such as Tim Geithner and Larry Summers – in recent weeks have finally conceded that the administration’s financial and regulatory reforms do not go far enough to prevent future financial catastrophe, and have been needlessly “industry-friendly.”  Consequently, in Congressional testimony this week, Geithener, following the lead of courageous reformers on ‘too big to fail’ (TBTF) policy such as former Fed Chair, Paul Volcker – an advisor to President Obama and a vocal proponent of de-coupling banks from investment firms; along with others whom I have also written about like Sheila Bair, Elizabeth Warren and the resurgent former New York Governor, Eliot Spitzer – the Obama administration economic policymakers now say that the government should consider breaking up the biggest banks and investment firms long before they fail, or at least impose stricter limits on their risky trading activities — steps that Mr. Obama himself continues to resist.

US Rep (I-VT) Bernard Sanders, Sept 2008 

By comparison, our friends across the pond seem to have their priorities in order.  The City of London’s top financial regulator, Adair Turner, Chair of the UK’s Financial Services Authority is adamant that banks and investment houses in Britain must bolster their capital ratio standards and put employee needs before addressing executive bonuses and compensation.  More on this topic here.

However, comparisons aside, Congress is leading on this issue and the Obama administration has finally endorsed aggressive ‘too big to fail’ reforms.  The House Financial Servies committee is about to take up one of the most fundamental issues that precipitated the near collapse of the global financial system last year, and seriously put at risk the financial health of our economy — namely, how to deal with ‘too big to fail’  companies such as AIG, Goldman Sachs and Bank of America.  These are banks and financial corporations that are so big, and so central to the operation of the nation’s economy and financial system that the government has no choice but to rescue them when they fail operationally or get into balance sheet trouble due to poor management or highly risky practices driven by greed and profits.  Congressman Barney Frank (D- MA),  Chair of the powerful House Financial Services Committee, has said his committee would take up more aggressive legislation on the topic, even as lawmakers and regulators continue working on other problems highlighted by the financial crisis, including overseeing executive pay, protecting consumers, pushing for stronger shareholder rights, and regulating the trading of risky derivatives.  Channeling the public mood and outrage over the huge taxpayer bailout of the financial industry, Rep. Frank’s recent observation that critics of the administration’s health care proposal had misdirected their concerns — and that Congress would now be adopting “death panels” not for infirmed people, but rather for gravely infirmed “zombie banks” and struggling major corporations.

The administration and its Congressional allies are trying, in essence, to graft the process used to resolve the troubles of smaller commercial banks onto both large banking holding companies and non-bank investment firms and financial services companies whose troubles could again threaten to undermine the markets, as well as the overall national economy.  By using this strategy, the administration has signaled its willingness to sign on to any such legislation that reaches the presidents desk.

I think someone was listening, after all. . .

Read more here. . .

 Web Resources:

Too Big to Fail, by Andrew Ross Sorkin

Too Big to Fail, in plain English Video

‘Too Big to Fail’?  Politico.com

Robert Reich on ‘Too Big To Fail’

Ian Bremmer, Eurasia Group

See Video Here. 

Ian Bremmer, President of the Eurasia Group - a political risk advisory firm, is the creator of Wall Street’s first-ever global political risk index. Bremmer is also a sought-after adviser on international risk management. He provides a ‘bird’s eye’ overview of the Obama foreign policy doctrine and its impact on the world, on U.S. corporate competitiveness and on global markets. The comments were made recently during an appearance with TV personality Alexis Glick on the FOX business channel – not to be confused with the ‘FOX News’ arm of the GOP.  Bremmer, along with Nouriel Roubini are perhaps two of my favorite experts on the global economy. And like Roubini, Bremmer is a source of original thinking and provides highly independent analysis and insight.  Mr. Bremmer is also the author of two compelling books: ‘The ‘J’ Curve - A New Way to Understand Why Nations Rise and Fall‘; and ‘The Fat Tail - The Power of Political Knowledge for Strategic Investing‘.  I highly recommend both, but if you have to choose one, go with the ‘J’ Curve. In his FOX Business interview, Bremmer provides compelling analysis and some prescient thoughts and insights that many in the MSM often miss, among which include:

US Role in the World – Gives credit to President Obama for ‘re-engaging’ with the world thus leaving a better impression of America around the world; and believes U.S. corporation will increasingly face tough competition from foreign competitors in Markets around the world;

U.S. Foreign Policy - He noted that the ‘enormous’ focus by the president on domestic and economic issues is a distraction to fully engaging on many pressing international issues. That fact is not lost on global partners and Bremmer suggests that the president needs to be even more engaged on international issues and not let domestic issues become myopic in nature; Believes we should be more closely engaged with China and other Emerging Markets, as well as taking the lead on the climate change issue;

Global Markets & Economy – Outlines a compelling case why recovery in the most developed economies (e.g., U.S., UK, Europe, Japan) will be “anemic” – except Canada & Australia; while Emerging Markets such as China, Brazil, et al, will lead the global economic recovery; Bremmer remains very bullish on commodities;

Afghanistan – Bremmer believes Obama’s rigorous re-thinking of our Afghan war strategy is smart foreign policy. He believes the Generals are wrong on Afghanistan war strategy; that it’s a mistake to continue fighting the ultra-nationalist Taliban with a nation-building (i.e., “counter-insurgency”)  strategy when our true enemy, the Al-Qaeda terrorists, are now based in Pakistan – a nuclear armed, poorly managed nation with a weak central government;

Middle East – Establishing dialogue with the Islamic world based on mutual respect was a smart move; however says the administration needs to do more – especially when it comes to Iranian nukes, Israeli-Palestinian peace and withdrawal from Iraq.

Source: Fox Business Channel videos      Photo:   Life.com

Obama resisting Volcker counsel for stronger financial reform

Listen to a top economist in the Obama administration describe Paul A. Volcker, the former Federal Reserve chairman who endorsed Mr. Obama early in his election campaign and who stood by his side during the financial crisis: “The guy’s a giant, he’s a genius, he is a great human being,” said Austan D. Goolsbee, counselor to President Obama since their Chicago days. “Whenever he has advice, the administration is very interested.”

Well, not lately. The aging Mr. Volcker, 82, has some advice, deeply felt.  He has been offering it in speeches and Congressional testimony, and repeating it to those around the president, most of them young enough to be his children.  He wants the nation’s banks to be prohibited from owning and trading risky securities, the very practice that got the biggest ones into deep trouble in 2008. And the administration is saying ‘no, it will not separate commercial banking from investment operations.’

“I am not pounding the desk all the time, but I am making my point,” Mr. Volcker said in one of his infrequent on-the-record interviews. “I have talked to some senators who asked me to talk to them, and if people want to talk to me, I talk to them. But I am not going around knocking on doors.”

Economic Guru

Still, he heads the president’s Economic Recovery Advisory Board, which makes him the administration’s most prominent outside economic adviser. As Fed chairman from 1979 to 1987, he helped the country weather more than one crisis. And in the campaign last year, he appeared occasionally with Mr. Obama, including a town hall meeting in Florida last fall. His towering presence (he is 6-foot-8) offered reassurance that the candidate’s economic policies, in the midst of a crisis, were trustworthy.  More subtly, the Obama administration has in Mr. Volcker an adviser perceived as standing apart from Wall Street, and critical of its ways, some administration officials say, while Timothy F. Geithner, the Treasury secretary, and Lawrence H. Summers, chief of the National Economic Council, are seen, rightly or wrongly, as more sympathetic to the concerns of investment bankers.

‘The Obama administration has in Paul Volcker an adviser perceived as standing apart from, and independent of Wall Street, and critical of its ways, while Timothy F. Geithner, the Treasury secretary, and Lawrence H. Summers, chief of the National Economic Council, are beholden to Wall Street interests and more sympathetic to the concerns of the financial industry.’

The Obama economic team, in contrast, would let the ‘Too Big to Fail’ giants survive, but would regulate them better so they don’t get themselves and the nation into trouble again. While the administration’s proposal languishes, giants likeBank of America, Morgan Stanley and Goldman Sachs have re-engaged in old, highly risky and over leveraged trading practices, once again earning big profits, planning big bonuses while placing the nation’s fragile economic recovery in peril. 

Read more here.  

Source: ‘Volcker Fails to Sell Reform Strategy’ (L. UCHITELLE

NYT, 21 Oct)

Too Big To Fail: Insider the financial crisis

Andrew Ross Sorkin is the New York Times’ chief M&A reporter and business columnist.  Sorkin is also the editor of DealBook, the NYT’s online daily financial report he started in 2001. In addition, Sorkin is an assistant editor of business and finance news, helping guide and shape the paper’s coverage. Sorkin also frequently appears on NBC’s “Today” show, on “Charlie Rose” on PBS, and is a frequent guest on the business channel, CNBC.

Too Big to Fail: How Wall Street and Washington Fought to Save the Financial System — and Themselves is Sorkin’s first book.  

The book was just released, and frankly, I haven’t finished reading it just yet, but what I have read is gripping! If you’ve ever wanted to be a ‘fly-on-the-wall’ in the clubby, heavily wood-paneled board rooms or the glass-encased corner offices of chief executives when the deal is being negotiated, this is it.

The book is interesting, detailed and crammed with an ‘insider’s’ perspective as the drama that precipitated the ‘Great Recession’ unfolded. Sorkin provides a lot of inside information about what was going on inside the Federal Reserve, the U.S. Treasury, the big Wall Street firms and in the Bush White House as the dominoes started falling. You’ll enjoy learning why the original TARP document was only eleven pages long; what made John Mack at Mogan Stanley angry, what Lehman Brothers’ Richard Fuld was doing to try to keep the ship from sinking and what was going on in mind of Hank Paulson and his secret meeting with the Board of Goldman prior to the crash. This is truly a ‘must read’!

Emerging China: US tries taming the dragon

Americans’ fear of China right now is palpable. We see danger in its products, in its vast reserves of our currency, in its growing military might, in its ravenous hunger for raw materials, and in its single-party state. With “Made in China” seemingly stamped on the bottom of everything we bring into our already overstuffed houses, we worry that China will soon buy and sell us, just like Japan seemed poised to do two decades ago.  In short, we Americans no longer feel on top of the global economy. It’s finally somebody else’s ["pax" – or age of rising, and inevitable dominance].

Roughly a century ago, that’s exactly how the British felt about America. The United States was the “rising China” of that age, catching up to and, in many categories, surpassing its model, Great Britain. And just as today’s Americans feel that they use Chinese products to the exclusion of all else now, the same sentiment was prevalent among the British regarding American goods at the beginning of the 20th century. Consider this account from Edmund Morris’s prize-winning biography of Theodore Roosevelt, “Theodore Rex”:

Current advertisements in British magazines gave the impression that the typical Englishman woke to the ring of an Ingersoll alarm, shaved with a Gillette razor, combed his hair with Vaseline tonic, buttoned his Arrow shirt, hurried downstairs for Quaker Oats, California figs, and Maxwell House coffee, commuted in a Westinghouse tram (body by Fisher), rose to his office in an Otis elevator, and worked all day with his Waterman pen under the efficient glare of Edison light bulbs.

Just like China today markets tequila to Mexico, back then America was managing the equally inconceivable, “coal-to-Newcastle” feat of exporting beer to Germany! At the time, America could consume only a fraction of what it produced, meaning the rest had to be exported. The result was a trade surplus and an inflow of foreign direct investment that left Wall Street awash in capital — much the way Shanghai’s stock market finds itself so popular among international investors today.

Americans today fear that China, with its $2 trillion US currency reserve, could buy our economy outright. Back then, steel magnate Andrew Carnegie calculated that America could buy the entire United Kingdom and pay off its national debt in the process! What the world’s economies feared most back then was the all-powerful “American price,” much as so many U.S. manufacturers today fear the seemingly bottomless “China price.”  How did we achieve that price? We polluted our country at will, abused our labor in every manner possible, and shortchanged our public health at every turn. Consider these hidden costs:

- The average baby born in turn-of-the-century industrial Chicago had a 1:2 chance of reaching age five.
- After the infamous 1911 Triangle Shirtwaist Company Fire, in which 146 sweat shop workers perished, New York State passed one of the pivotal bills in America’s urban reform movement, limiting working hours to 54 hours per week — for children!
- In the latter decades of the 19th century, American household income inequality was at its highest point in our nation’s history.

Minxin Pei, a fellow political scientist, likes to say, “Dictatorships are good at concealing the problems they create, while democracy is good at advertising its defects.”  Thus the populism that raged across rising America in the 1870s and 1880s birthed the progressive era that defined the following several decades. Our nation was blessed to have reformers like Teddy Roosevelt, Upton Sinclair, Jacob Riis, Margaret Sanger, Robert La Follette and Jane Addams rise up across our political landscape and successfully tame our exceedingly rapacious style of capitalism. Without their efforts and the resulting new rules, our union would have once again come apart at the seams. That difficult and tumultuous journey is worth remembering as we contemplate China’s stunningly similar trajectory today …

Read more here.

Source: World Politics Review, Thomas P.M. Barnett;  Photo: Jakarta Post

Visit msnbc.com for Breaking News, World News, and News about the Economy

Spitzer noted, among other salient points, that divergent former Fed Chairs such as Alan Greenspan and Paul Volcker – also an economic advisor to President Obama – have converged on their agreement that stronger reform of the financial industry is necessary. The White House, Spitzer added, is “the only institution that doesn’t get” the continuing danger of having massive banks that are ‘too big to fail.‘ Among other points of interest, the show’s guests are all venerable Wall Street veterans who noted that American’s need to be engaged in this issue, and asking the tough questions in order to hold the the White House — under both administrations, the Treasury and the Federal Reserve accountable.The reform effort is being led by Treasury Secretary Tim Geithner – the former failed head of the New York Federal Reserve Bank, a position traditionally held by Wall Street-friendly scions; and under whose leadership failure to regulate banks and financial institutions contributed to the financial crisis – and by the President’s chief economic advisor, Larry Summers a multi-million dollar benefactor of the financial industry through speaker fees and other endorsements. 

Spitzer was joined on the panel by Rob Johnson, a former Soros fund manager as well as the former chief economist for the Senate Banking Committee during the Savings & Loan crisis. The discussion ranged from financial industry reforms such as the Consumer Financial Protection Agency, to public outrage over firms like Goldman Sachs that are making enormous profits on the backs of taxpayers made possible by the trillion dollar infusions of federal funds that prevented a larger financial disaster.

Such growing sentiment about the odious nature of Wall Street was also echoed by administration officials on the Sunday morning talk circuit. “The bonuses are offensive,” said the President’s senior adviser David Axelrod on ABC’s “This Week,” adding that banks must do more to support lending across the country and should stop their lobbying efforts aimed at blocking the passage of new consumer financial protections and needed industry regulations currently being considered in Congress.

“They ought to think through what they are doing, and they ought to understand that a year ago a lot of these institutions were teetering on the brink, and the United States government and taxpayers came to their rescue” Axelrod said. “They have responsibilities, and they ought to meet those responsibilities” by displaying good corporate citizenship and playing fair. They have a public duty to their country as well as to the American taxpayers. Amen!

Washington: support the public welfare over Big Business lobby

Really interesting editorial in today’s New York Times that hits the mark with the threat that an un-check and powerful bank lobby poses to achieving much needed bank and financial industry reform to protect consumers against industry collusion, predatory and price-gauging practices, as well as disproportionate risk-taking that threatens a sustained economic recovery.  These practices have reached crisis proportions and is pervasive in Washington.  The tactics of the bank lobby also subverts the U.S. Congress’s Constitutionally-ordained obligation to protect the ‘public welfare’ against all enemies, foreign AND domestic.  The “Big Business” lobby constitutes a clear and present threat to our citizens Republic. And “Big Government” represents the only realistic check against “Big Business.”  It is time to demand that “Big Business” be good “corporate citizens” to act in the public’s interest, and to show ‘corporate patriotism’ to their country and government for coming to their rescue.  It is also time for Washington lawmakers to take heed to public needs, as well as the public mood: something must be done.

(NYT) New York - Pretty much everyone agrees on the causes for the country’s desperate financial mess: predatory lenders, weak regulations, even weaker regulators, and risky nigh unto incomprehensible financial instruments.

Congress’s willingness to address those problems will have its first real test on Wednesday when the House Financial Services Committee puts finishing touches on what could be essential reform legislation — or a major disappointment, depending on what they do.

At the top of the committee’s agenda is regulation of the largely unregulated and dangerously opaque multitrillion-dollar derivatives’ market. Next on the agenda is the creation of a new Consumer Financial Protection Agency to oversee the consumer-credit offerings of banks and other financial firms — including mortgages, credit cards, overdraft “protection” and payday loans. Both reforms are crucial, and we fear both are in danger of being irreparably weakened. Derivatives are supposed to help investors and businesses manage risk, but their unchecked and unregulated use led — directly and indirectly — to the financial crash and subsequent trillions of dollars in taxpayer interventions.

Traitors to the public will

 Congress should require that all derivatives’ dealers and users — including banks, hedge funds and corporations — conduct their trades on exchanges where they would be subject to considerable regulation and public scrutiny. Regulators could create exceptions for customized contracts that are negotiated one on one for truly complex and unique circumstances. But most derivatives contracts are highly standardized and can be, and should be, exchange-traded.

The threats to the consumer protection agency are even more blatant. To curry favor with the banks, several lawmakers are intent on amending the proposed legislation so that no state could impose its own — tougher — consumer protection laws on banks. That would be a mistake because in the past, many states have demonstrated the will and the expertise to protect consumers. But federal rules were issued in 2004 that basically barred states from enforcing their laws over national banks and their subsidiaries. That short-circuited state efforts to control, among other things, the subprime lending that sparked the financial crisis. Some lawmakers are also intent on weakening the proposed power of the new agency to examine the books of the banks and firms that it would regulate. Current bank regulators have that power, but they have not used it with a sole focus on protecting the best interests of consumers.  Read more here.

Unfortunately, the proposed legislation has too many loopholes and exemptions. For example, many corporations and hedge funds would still be able to trade standardized derivatives privately. That may protect bank profits — without transparency, there is no chance for comparison shopping — but it would put taxpayers at risk of a repeat calamity. Like the banks, some corporate investors in derivatives resist exchange trading. They argue that more regulation would raise their transaction costs to hedge any given risk. That’s debatable because greater transparency is likely to reduce costs. But even if true, somewhat higher costs would be a small price to pay for systemwide stability. Still, there is reason for hope and the Obama administration seems to be taking the lead on this.

Such growing sentiment about the odious nature of Wall Street was also echoed by administration officials on the Sunday morning talk circuit. “The bonuses are offensive,” said the President’s senior adviser David Axelrod on ABC’s “This Week,” adding that banks must do more to support lending across the country and should stop their lobbying efforts aimed at blocking the passage of new consumer financial protections and needed industry regulations currently being considered in Congress.

“They ought to think through what they are doing, and they ought to understand that a year ago a lot of these institutions were teetering on the brink, and the United States government and taxpayers came to their rescue” Axelrod said. “They have responsibilities, and they ought to meet those responsibilities” by displaying good corporate citizenship, playing fair, and by supporting American business and responsible citizens by making loans. They also have a public duty as corporate citizens to their government as well as to the American taxpayers for coming to their rescue. Read more here.