Wednesday, December 7, 2011

Senator Sherrod Brown calls for greater transparency in oversight of Wall Street

Re-iterating many of the themes of this blog, Ohio Senator Sherrod Brown called for greater transparency in the financial system.

“For too long, Wall Street has been permitted to operate in the dark, putting our economy at risk and leaving taxpayers on the hook,” Brown said. “Transparency makes markets work and helps improve oversight.  We need a financial system that benefits all Americans – not just the companies that want to enjoy private profits and bonuses, and make taxpayers cover their losses.” 
Senator Brown then cited several examples of the Wall Street Opacity Protection Team's handiwork.
Brown’s call follows repeated stonewalling by federal regulators after Brown raised a red flag over a risky new practice employed by Bank of America and five of the six of our nation’s largest bank holding companies. In October, Brown was joined by U.S. Rep. Brad Miller (NC-13) in questioning the decision by the Federal Reserve and other regulators to allow these institutions to transfer their risky derivatives operations into bank affiliates insured by the federal safety net.  Section 23A of the Federal Reserve Act restricts transactions between banks and their nonbank affiliates, placing limits on the amount of each transaction relative to a bank’s capital and prohibiting purchases of certain “low-quality” assets. 
Last week, Bloomberg Markets magazine reported that 190 institutions made $13 billion in profits on $1.2 trillion in secret, below-market rate loans.  Previously, Bloomberg reported that the Federal Reserve also relaxed its standards for acceptable collateral, accepting “junk” bonds and stocks against its loans. 
In August, Brown wrote a letter to the Federal Reserve questioning a $5 billion purchase by Berkshire Hathaway of 50,000 shares of preferred stock in Bank of America, with annual dividend payments of $300 million.  
Last week, the Fed responded, refusing to answer whether Bank of America will be required to submit new plans to raise equity as a result of this arrangement, which the Fed would then approve, stating that the answer constitutes “confidential supervisory information.”
This blog has called for making the Fed ultra transparent in all its dealings with the banks.  Ultra transparency would bring an end to the idea of 'confidential supervisory information'.  Anything that is happening at a financial institution that the regulators should know about, all market participants should be informed about at the same time.

Otherwise, we end up with the situation we are in today where market participants do not have access to all the useful, relevant information in an appropriate, timely manner for assessing the risk of or investing in a financial institution.

Instead market participants are reliant on the regulator to accurately assess and communicate the risk.  Clearly, the current financial crisis showed that there was a problem either with the regulator's assessment or communication of risk.

Equally clearly, because market participants are dependent on the regulator there is a moral obligation for the government to bailout any investor in the banks.  After all, the investor relied on the government's declaration that the bank was solvent in assessing the risk of investing in the bank.

It is only with ultra transparency (a bank is required to disclose on an on-going basis its current asset, liability and off-balance sheet exposure details) that investors become responsible for both gains and losses on their investments in banks.  It is the potential for loss that gives an investor the incentive to use the disclosed information to independently assess the risk of the bank.

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