Tuesday, December 6, 2011

Former Fed Governor Kevin Warsh adds his support to requiring ultra transparency

In a Wall Street Journal column, Former Fed Governor Kevin Warsh discusses how global policy makers are preventing informed judgments.

His solution is providing market participants with transparency.

Financial markets are in a precarious place, with European banks and sovereign balance sheets in the cross-hairs. Bank regulators are becoming increasingly aggressive, and euro-zone borrowing costs are rising as the debts of years past are coming due. 
In this environment, policy makers are finding their authority, credibility and firepower being tested. In turn, they are finding it tempting to pursue "financial repression"—suppressing market prices that they don't like. But this is bad policy, not least because it signals diminished faith in the market economy itself. 
Markets are not always efficient, but the market-clearing prices for stocks, bonds, currencies and other assets (like housing) are critical to informing judgments, in good times and bad. 
Market-determined asset prices often reveal inconvenient truths. But the sooner the truth is revealed, the sooner judgments can be rendered and action taken. 
By contrast, government-induced prices send false signals to users and providers of capital. This upsets economic activity and harms market functioning. 
Markets that rely on governmental participation will turn out to be less enduring indicators of value. 
In environments of financial repression, businesses are keener to retrench than recommit their time, energy and capital to new projects. Trillions of dollars of private capital remains on the sidelines. And the private-sector engine that drives prosperity sputters. 
Consider a few recent examples of this policy in practice: 
In Europe, share prices are falling among the largest banks, but these prices are little more than a symptom. European banks suffer from a lack of capital to offset future losses, and a lack of transparency that makes it futile to try to judge their financial wherewithal. 
This also applies to banks globally.

Until banks are required to disclose on an on-going basis their current asset, liability and off-balance sheet exposure details, market participants will not be able to judge their solvency.
The bank problem is not some unfounded attack by greedy speculators, so a leading proffered solution—extending the ban on short-selling shares in big banks—obfuscates rather than informs. It also delays the necessary private-sector recapitalization....
Financial repression is sometimes the effect of policy even if it is not the intent. It manifests itself, for example, when policy makers react more forcefully to declines in asset prices than to increases. Price increases tend to be treated with benign indifference. But declines often lead policy makers to respond with force, deploying fiscal stimulus and monetary accommodation.... 
Efforts to manage and manipulate asset prices are not new. But history provides little comfort that these practices work. Interfering with market prices occasionally buys time, but rarely do policy makers seize the window of opportunity to enact structural reform. 
Financial repression embeds the wrong incentives—obfuscation begets delay, and a robust recovery becomes unattainable. 
The path to prosperity requires taking the long road. It requires policy reforms that make the economy less reliant on the preferences of government and more responsive to the market. 
That means prioritizing long-term growth over fleeting market stability, and giving precedence to structural reforms over temporary stimulus and market manipulation.
Nothing would be a bigger structural reform than requiring ultra transparency.

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