Pages

Tuesday, June 4, 2013

WSJ's Jason Zweig looks at how trust in the financial markets is easy lose, hard to restore

In his Wall Street Journal column, Jason Zweig touches on one of the key unaddressed problems created by the financial crisis:  a lost of trust.

Mr. Zweig discusses how important trust is not just to the normal functioning of the financial markets, but to the broader economy at large.

You can summarize the outcome of the financial crisis in one sentence: Good things happened to bad people, and bad things happened to good people. Some people who contributed to the crisis kept hundreds of millions of dollars apiece in compensation and will spend the rest of their lives in luxury. The victims of the crisis—borrowers, taxpayers and investors—have spent the ensuing years trying to regain some of what they lost. 
As I wrote in early 2010, this kind of outcome violates a basic psychological need. 
Humans can’t live normal lives without believing in what psychologists have christened “positive illusions.” Among them are overconfidence, the belief that we know more than we do; the illusion of control, the sense that we have more power over what happens around us than we do; and unrealistic optimism, the tendency to think positive things are more likely to happen to us than to other people. 
If we honestly accepted how little we know, how little we can control and how little advantage we have over other people, we wouldn’t be able to get out of bed in the morning. 
As the Nobel Prize-winning psychologist Daniel Kahneman has said, “The combination of optimism and overconfidence is one of the main forces that keep capitalism alive.” 
Another positive illusion is known as “belief in a just world.” Although we all know full well that it isn’t true, humans need to believe that we generally get what we deserve, with good things happening to good people and bad things happening to bad ones. The fact that it’s an illusion is beside the point. ... 
A study published in 2009 concluded that when people don’t believe the world is just, they become significantly less willing to wait for a financial gain. After all, if you can’t be sure that you usually will get what you deserve, why would you ever trust a counterparty to honor its contracts or promises?
Please re-read the last paragraph and consider that the global policymakers and financial regulators adopted the Japanese Model for handling a bank solvency led financial crisis.  Under this model, bank book capital levels and banker bonuses are protected at all costs.  

By protecting the banks and bankers from the losses they should have experienced, global policymakers and financial regulators effectively undermined the both the financial system and the global economy.

That this was known and documented in 2009 and global policymakers and financial regulators continue to pursue the Japanese Model is truly amazing.  In the name of saving the financial system and the global economy, policymakers and financial regulators have aggressively pursued policies known to destroy both the financial system and the global economy.
If ever there was an ideal example of an “unjust world” in the eyes of some people, Wall Street of the past few years is it. 
What, then, would it take to restore trust and to revive belief in a just world?
Restoring trust and reviving belief in a just world require two related steps.

First, the global policymakers and financial regulators must adopt the Swedish Model and require that banks recognize upfront their losses on the excess public and private debt in the financial system. While it is belated, adopting the Swedish Model means that the losses in the financial system are absorbed by the firms and individuals who created the losses.

In addition, having the banks absorb the losses protects the real economy as capital that is needed for reinvestment, growth and the social contract is no longer diverted to debt service.


Second, banks must be require to provide ultra transparency and disclose on an ongoing basis their current global asset, liability and off-balance sheet exposure details.  It is only with this information that market participants can exert restraint on both risk taking by banks and banker behavior (sunlight is the best disinfectant).

No comments:

Post a Comment