It’s a teachable moment, but what’s the right lesson? Already, the $2 billion-plus trading debacle at JPMorgan Chase has inspired a powerful storyline. Nothing has changed since the financial crisis, it’s said. Big banks remain out of control, gambling recklessly. If Jamie Dimon’s bank, reputed to be one of the best-managed, can get into trouble, what can we expect of the others? Government regulations and regulators need to be tougher to counteract bankers’ greed and incompetence.
The storyline is marred only by this: Everything in it is exaggerated, misleading or wrong....Is everything in the storyline exaggerated, misleading or wrong?
Is it true that nothing has changed since the financial crisis?
No. There have been lots of changes as a result of the Dodd-Frank Act, the issue is are any of the changes worth a warm bucket of spit.
Regular readers know your humble blogger thinks there are only two elements of Dodd-Frank that pass this test: the Consumer Financial Protection Bureau and the Volcker Rule. Everything else fails.
Is it true that big banks remain out of control, gambling recklessly?
Yes. As discussed in my regulators snooze while banks gamble post, bank supervision is not designed to prevent reckless gambling. It is designed to try to ensure that each bank holds enough capital to absorb its losses from reckless gambling.
Is it true that if JP Morgan can get into trouble, we can expect other banks to get into trouble too?
Is it true that government regulations and regulators need to be tougher to counteract banker's greed and incompetence?
According to Mr. Samuelson,
Government regulation can’t prevent banking or financial crises. Of course, regulation does some good. Deposit insurance has averted bank runs by individuals. Some safeguards can be imposed.
But regulators’ practical power is limited, because they are no smarter than the bankers they regulate. Sharing similar assumptions, regulators and bankers may recognize a true crisis only when it’s become unavoidable.....I disagree with Mr. Samuelson that government regulation can't prevent banking or financial crises. I think it can.
In fact, I think in his description of why regulation can't prevent banking or financial crises is the answer to what regulatory change is needed.
He asserts that regulators are no smarter than the bankers they regulate. So long as they are the only market participants with access to all the useful, relevant information, this is true. However, this is not true when banks are required to provide ultra transparency and disclose on an on-going basis their current asset, liability and off balance sheet exposure details.
When all market participants have access to this data, the regulator has the opportunity to piggy-back off the market's analytical abilities. Suddenly, the regulators can be a lot smarter and they no longer have to share assumptions with firms they are regulating.
But we ought to avoid simple morality tales of avaricious bankers versus virtuous regulators.
The real world is more complicated. The global financial system’s complexities and interconnections have grown. Some of these can be restrained; few can be repealed. Bankers and regulators are hostage to a rapidly changing, poorly understood system.
One lesson is obvious....
The dangers lie not in what we know — but in what we don't.Which of course is the storyline that this blog has been featuring.