…It doesn’t’ seem to be the case, despite all the legislative efforts to the contrary. In fact, there are growing signs that our once reputedly ‘greatest financial system in the world’ is rapidly moving from dynamic and agile to one crawling at a turtle’s pace.
NOTE BENE (note well)
It is clear that there are always some top management officials in all lines of business across the board that are willing to play on the edge of legality and even cross the line if the reward seems worth it. This should not be construed as a defense of them nor is it a condemnation of efforts to counter them by legislation. Rather it is a commentary on both the inherent problems in establishing regulatory guidelines as well as a sad commentary on some of the regulatory officials for their ineptitude and on occasion their habit of eye blinking.
The seemingly endless failure of existing regulations and regulatory agencies will not be made more effective by doubling down on even more regulations and regulatory agencies. Among some recently [legislatively] established agencies is the increasingly feared Consumer Financial Protection Bureau, referred to by the regulatees as the CFPB, with still-being-defined sweeping powers. It seems the greatest achievement of the many years of such legislative efforts is the introduction of four letter agencies apparently having run out of the three letter variety.
This is NOT an argument for the elimination of regulations and regulatory agencies as you will see when reading the rest of this article. I am of the belief that the more intelligent use of existing regulations and a much improved and more knowledgeable cast of regulatory employees is what are needed, not more and more regulations and regulatory agencies. Narcissism and a naïve acceptance of ideology are inferior to knowledge and understanding of the economic and financial principles involved.
…the ongoing Failure of Monetary Policy with many Regulatory Agencies ineptly playing their Roles
A relatively recent example is the action of the Federal Reserve System (FED), which while noting the rise of the real estate bubble, failed to stop the inflation of this asset bubble and when they did belatedly act by ‘pricking the bubble’ after it achieved great size, the resulting collapse contributed to fostering the ongoing real estate crisis and its accompanying financial crisis.
At a symposium sponsored by the Federal Reserve Bank of Kansas City, Jackson Hole, Wyoming on August 26, 2005, Chairman Greenspan noted:
“Our forecasts and hence policy are becoming increasingly driven by asset price changes. The steep rise in the ratio of household net worth to disposable income in the mid-1990s, after a half-century of stability, is a case in point. Although the ratio fell with the collapse of equity prices in 2000, it has rebounded noticeably over the past couple of years, reflecting the rise in the prices of equities and houses.”
The same can be said of past stock market bubbles. The FED seemingly has the power to prevent these bubbles from occurring. Employing such rules as increasing margin requirements on stock purchases (Regulation T) – a down payment so to speak, have rarely been used in recent stock market bubbles in spite of the fact that the Federal Reserve has the power to do just that.
While Greenspan was concerned about ‘asset bubbles’, he was loathe to do such things as raise margin requirements on stocks, citing the FED’s inability to accurately see a bubble until after the fact and the ineffectiveness of those requirements…
At a symposium sponsored by the Federal Reserve Bank of Kansas City, Jackson Hole, Wyoming on August 30, 2002, Chairman Greenspan remarked:
“We at the Federal Reserve considered a number of issues related to asset bubbles–that is, surges in prices of assets to unsustainable levels. As events evolved, we recognized that, despite our suspicions, it was very difficult to definitively identify a bubble until after the fact–that is, when its bursting confirmed its existence. Moreover, it was far from obvious that bubbles, even if identified early, could be preempted short of the central bank inducing a substantial contraction in economic activity–the very outcome we would be seeking to avoid.”
In 2000, Greenspan raised interest rates several times; these actions were believed by many to have caused the bursting of the dot-com bubble. However, according to Nobel laureate Paul Krugman “he didn’t raise interest rates to curb the market’s enthusiasm; he didn’t even seek to impose margin requirements on stock market investors. Instead, he waited until the bubble burst, as it did in 2000, then tried to clean up the mess afterward.”
The current margin requirement is 50% and has remained unchanged since 1974, nearly 40 years ago even though we have since experienced many stock market bubbles since that time. (Regulation T – CFR Code of Federal Regulations)
Our central bank (FED) has often been its own undoing. The current inability to resurrect the American economy with the Quantitative Easings I, II, and III are partly a result of their own and sister regulatory agencies such as the FDIC and the CFPB. The supervisory and regulatory (Sup and Reg) departments of the FED as well as other agencies have raised the fear level among regulatees to such a high level in the financial service sector, (especially the depositories who in the their credit creation efforts, create nearly all of the checkable deposit form of M-1 they ‘lend out’ or invest), they have become virtually paralyzed in many sectors of lending such as mortgage credit and lending to small business.
Recall also that this checkable deposit form of M-1 or medium of exchange money facilitates the transactions of most of the legitimate or so called above-ground economy. The depositories consist of the commercial banks, credit unions, savings banks, and savings and loan associations. As a result of this heavy handiness of the Sup and Reg Cadre that is perhaps triggered by past failure to prevent the ongoing crisis, credit creation is virtually ‘dead in the water’.
At best, expansive monetary policy is beleaguered by an inherent weakness: ‘pushing on a string’, and a very limp string at that, is often the phrase used to describe this intrinsic weakness.
The FED can only supply an increase in the capacity of depositories’ ability to create new money and credit in the form of an increase in the monetary base, much of which becomes additional legal reserves to the depositories, enabling them to create money and credit. The actual creation of money and credit by depositories will not occur until such credit creation is profitable, as we have pointed out in earlier newsletters on this web site. The result is the rapid growth of excess legal reserves or unused capacity. This phenomenon was referred to by the Quantity Theorists as ‘reflux’ and is a chief cause of the ‘pushing on a string’ frustration of the FED’s failure in its expansive monetary policy.
In the Keynesian tradition, monetary policy was always a weak afterthought to fiscal policy in the effort to stimulate economic activity. Such things as a ‘liquidity trap’ prevented the further reduction in interest rates below the level of the ‘trap’. This would leave savings in excess of investment or in more modern Keynesian analysis, withdrawals in excess of leakages, forestalling recovery.
The regulatory agencies failed to stop the development of the real estate bubble and the disastrous flood of related derivatives such as collateralized debt obligations (CDOs), mortgage backed securities (MBSs), and collateralized debt swaps (CDSs).
These two factors combined with the rating scandals and lack of appropriate due-diligence of the buyers (with a generous portion of old fashioned greed and in some cases desperation mixed in), led to the massive bailouts. The pain of the crisis was shifted from those guilty of causing or contributing to the crisis, to the taxpayers of all income classes.
Dr. Greenspan received his desired bubble collapse and a return of households to his version of a more normal ratio of household net worth to their disposable income. (Refer to the citations above on Greenspan’s comments) Regulatory agencies both older and a few newer ones, have resorted to what appears be a repeating pattern when financial crises occur, an after-the-fact clamping down on the institutions under their jurisdiction.
It reminds me of a phrase I heard at a lecture,
“The Lord God Government giveth and the Lord God Government taketh away.”
Likewise, the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) had the power but failed to exercise it when derivatives grew like wild fire and were a major cause of our ongoing economic and financial malaise. When speculation becomes destabilizing, enough is enough. You don’t need a myriad of overpaid agency employees to determine that. Less politicization, less ideologically driven policies, and less concern for the ‘old boy network’ (a variant of the ‘too big to fail’ doctrine) is what is needed.
The federal government was quick to indict, prosecute and imprison Martha Stewart for some dubious actions. Where are the indictments and trials for those responsible for the financial collapse in which we are still wallowing? Surely the harm done by the financial collapse was far greater to society than the actions of Martha Stewart.
Attorney General Eric Holder said this year he understood “the public desire to…see the handcuffs come to Wall Street.” Much of the conduct that led to the crisis was “unethical and irresponsible,” he said in a speech in New York. “But some of this behavior—while morally reprehensible—may not necessarily have been criminal.”
Huhhh? Where did the money go? Who took it?
Where is Eric [Holder] when we really need him?
Read the full article at EconNewsLetter