Sunday, July 22, 2012

Lessons from the Great Depression that continue to be ignored

In his Telegraph column, Liam Halligan looks at two significant lessons from the Great Depression that continue to be ignored:  the need for banks to disclose their balance sheets and the need for a Pecora Commission to truly understand what went wrong.
it strikes me there are at least two stark lessons from the 1929 Wall Street crash, and the Great Depression which followed, that we all seem determined to ignore. 
In the early and mid-1930s, Franklin D. Roosevelt got hold of the “Wall Street titans” and showed them who was boss. Banks were forced, under threat of criminal prosecution, to disclose their full balance sheets. Those beyond repair were broken up. Famously, retail and investment banking were separated, root-and-branch, by the Glass-Steagall Act. 
FDR put in place a framework for the financial system built on the philosophy of transparency and principle of caveat emptor.

Under the philosophy of transparency, governments are responsible for ensuring that market participants have access to all the useful, relevant information in an appropriate, timely manner.

Under the principle of caveat emptor, investors have an incentive to use this information as they are responsible for all gains and losses on their investment exposures.
Compare that with today. In the US, Britain and elsewhere, the policy response ... has been infantile. Our “political leaders” are cowed by the money-men, caught between awe and financial dependence.
The result of this dependence has been legislation like the Dodd-Frank Act that would not have prevented the current financial crisis or the many scandals like Libor that have emerged since the beginning of the crisis.

The reason Dodd-Frank fails is it was passed before any analysis of the causes of the crisis was completed.

Had any analysis been done, it would have shown that the common characteristic of all the places in the financial system that experienced difficulty was opacity.  This includes structured finance securities and the banks [and now Libor].

Dodd-Frank does not address the issue of transparency from the perspective of the FDR Framework and ensuring that market participants have access to all the useful, relevant information.  As a result, it does not include something as basic as requiring the banks to disclose on an ongoing basis their current global asset, liability and off-balance sheet exposure details.

Instead, Dodd-Frank addresses transparency from Wall Street's opacity protection perspective.  It ignores valuation transparency, which is what is important for the proper functioning of the financial system, and focuses on price transparency.

If you cannot value a security, who cares what the last price paid or the current price offered for the security is?  If you cannot value a security, you are not investing, but rather blindly betting.
Many Western banks remain beyond full-audit. Those guilty of serious “white collar crime” have sailed away, their riches intact, leaving nothing in their wake but financial and human destruction. 
This is a direct result of the policies pursued since the beginning of the financial crisis.

In the desperation to 'save' the banks, financial regulators and policymakers failed to ask such basic questions as 'what is the source of trust in the financial system' or 'are bank bailouts necessary given the existence of deposit guarantees and access to central bank funding'.
Where is our modern-day Pecora Commission – the Congressional hearings held in the 1930s that unearthed and demystified the frauds, scams and abuses that culminated in the Wall Street crash? Where is our “truth and reconciliation commission” to get to the bottom of what happened, punish the guilty and stop “sub-prime” happening again? 
A former assistant district attorney from New York, Ferdinand Pecora had intellect and stamina in abundance. His relentless and expert grilling of bankers and regulators, fully open to the public, electrified Depression-era America. Pecora was the immigrant son of a Sicilian cobbler, outside the establishment, which is why his investigation was fearless and, ultimately, effective. 
The famous financiers and banking scions, they didn’t faze Pecora. His probings exposed the murkiest corners of Wall Street, catalysing genuine reforms and restoring public trust in bankers and banking, so laying the foundations for America’s post-war prosperity and financial stability. 
Back in the present, the UK’s Treasury Select Committee, under-resourced and appointed by party whips, has tried and failed to lay a hand on the bankers. Now, a parliamentary committee is to more fully investigate “Liborgate”, but only after having been stripped of several members of the Treasury committee who have displayed a detailed knowledge of banking. With the best will in the world, it just isn’t going to work. But perhaps that’s the point.
Our political leaders refuse to take the basic step of funding an independent inquiry with strong investigative skills to fully investigate the causes of the Great Recession.


Money?  It cannot be for want of saving a few taxpayer dollars as no expense has been spared to bailout the banks and preserve banker bonuses.

Fear?  Are the political leaders and financial regulators worried about what will be exposed?  The Nyberg Report on the Irish financial crisis has already showed that the political leaders, financial regulators and banks were in it together.

Personal greed?  As shown by former UK prime minister Tony Blair, where else but the banks is a politician going to go to earn 2.5 million pounds per year as a part-time senior advisor?

No comments: