The SEC Chairman wrote in the Wall Street Journal today about the force of free markets and regulation.
I hope that he continues to sing this song… (see his opinion piece after my comments…) I say similar things a little less diplomatically …
I think history will look back at the actions of the Federal Reserve and US Treasury and condemn their favoritism and deference to Wall Street at the expense of the American people. But history will also tell us that Wall Street has survived every banking and financial crisis… a little roughed up around the edges but still tenaciously entwined with our central bank and Treasury… too entwined… transparency would expose these deep connections between Wall Street and the keepers of our nations currency and patrimony.
The recent actions of the US Treasury and Federal Reserve have frozen the natural balancing forces in our economic system… the Treasury and Federal Reserve saved Bear Stearns, Goldman Sachs, Morgan Stanley, and AIG and let Lehman fail.
I think Lehman should have failed… and I think it was wrong for Goldman and Morgan Stanley to have been extended the federal largess in the form of midnight written commercial bank charters (they have stopped prop trading, reduced leverage ratios but are still investment banks… right?).
I think that the FDIC insuring the corporate debt of these entities is ill-conceived … these are investment banks catering to the wealthiest people in our nation and the world. Was Sheila Bair forced to do this against her better judgment? Is that what is behind the media reports of Tim Geithner trying to push her out? Another taxpayer guarantee to help these firms roll over enormous piles of soon to mature debt.
I can understand how the Federal Reserve and Treasury Secretary Paulson believe that we need firms to intermediate credit… but they have chosen to prop up specific firms with corrupt, illiquid assets and balance sheets that are so weak that they need capital infusions and endlessly stretched repo… part of the approach has been to artificially create higher valuations for structured products through onboarding assets like the Bear-Maiden Lane and AIG synthetic CDO purchases…
Firms like Citi continue to lobby for changes in accounting rules and disclosure… one can only imagine what kind of lobbying Goldman Sachs is doing with all the former GS officials serving at the Treasury. And lest us not forget the composition of the Board of Directors of the New York Federal Reserve… the unelected doges of the global financial system… who are these people that want to now issue “Federal Reserve” bonds? Are they focused on the well-being of the nation? Or are they focused on creating a currency to repo more corrupt assets off the balance sheets of the primary dealers?
If officials at the Fed and Treasury had any vision they would nationalize institutions like Citi… they would force out the management that created this crisis and unwind these toxic laden balance sheets… but instead they have picked winners and losers and tried to fortify capital at the winners… as the full force of the CDS unwind becomes manifest the need to delever will accelerate… I don’t believe that freezing the chosen firms in place is a strategy that will avert the calamity facing our nation…
The solution is to create less concentration in our financial system… to unwind systemically fragile institutions… to give decision making authority back to the regional Reserve banks…
The Federal Reserve is swimming in very deep waters as they concentrate authority and create and deploy increasingly arcane and extra legal tools… I’m sure that they are driven by the belief that their approach is the only one capable of “saving” the system… but they save the system of the past… the system of extensive, continued reliance on the primary dealers and the largest commercial banks to intermediate credit and manage monetary global policy… the system of concentrated, over-leveraged, opaque, poorly run global money center banks… this is the path to endless instability…
The infrastructure of the world has changed and the corrupt practices of Wall Street and market forces have destroyed the old ways… turn your eyes from Wall Street and cast a glance at Main Street… there lies the American future… no CDS… no CDOs… smaller, safer, sounder… financial stability… it can be done…
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We Need a Bailout Exit Strategy
Let’s not forget that free markets made America strong.
When the Securities and Exchange Commission was created in 1934, its purpose was to serve as an independent regulator of the unbridled profit-seeking activity of self-interested individuals and firms in the securities markets. It was not intended to supplant the market or directly participate in it. Instead, it marked a deliberate effort to clearly define and separate the role of the national government, on the one hand, and the capital markets, on the other.
Henceforth, fraud and unfair dealing in the stock and bond markets would be subjected to external discipline by the federal government. Minimum standards would be enforced, such as requiring that investors be told the essential details about securities in which they were investing. Registration of securities and licensing of broker-dealers would be required. It was, in short, arms-length regulation of an unabashedly private market.
Over the years, the agency has acquired three explicit goals: protecting investors; maintaining fair and orderly markets; and promoting capital formation. These three complementary missions are logically consistent with the original premise of the securities laws, which was that government is an auxiliary to the market, not a substitute for it or a participant in it. Virtually every aspect of the 1933 and 1934 Acts, and the regulations implementing them, follows from the notion that markets should be efficient, competitive, transparent and free of fraud.
The normative judgment implicit in this legislative and regulatory scheme is that markets are good. So long as they are in fact operating efficiently, competitively, openly and honestly, they are good for consumers, investors, producers and our entire economy. We have not spent enough time reminding ourselves of this essential premise during the past several months, when events have called it into question. But because the idea of the market is so fundamental to everything that the SEC does, we must focus again on why we value markets so highly.
Our emphasis on private ownership is directly tied to America’s dedication to individual freedom. It’s in our DNA. It is, in large part, why the United States came to be at all. Our Declaration of Independence is a recitation of the abuses of excessive government power. Our Constitution is a brilliantly crafted system of checks and balances to prevent that abuse by limiting government’s authority over individuals — including in the economic realm, where we’re guaranteed our constitutional rights to liberty and property, to freedom from expropriation, and to freedom of contract.
But beyond that, beyond ideals of freedom, the national preference for private ownership is also based on the most basic practicality: It works. America’s rise from New World outpost to global superpower was fueled by the dramatic growth of our free enterprise economy into the world’s largest. Free enterprise has produced spectacular results. Compared to other national economies with substantial government ownership and central planning, America’s economy has been more creative, resilient and dynamic.
We’ve found that decentralized decision-making, in which millions of independent economic actors make judgments using their own money, results in the wisest allocation of scarce resources across our complex society. And we’ve found the market to be more reliable in heeding price signals and meting out discipline to failing enterprises than government could ever be.
Financial markets, of course, are not perfect. In particular, they are susceptible to boom-and-bust cycles. Cycles of this sort have been a hardy perennial over the past 400 years of experience with organized markets. Addressing the results of these cycles is why we have protective mechanisms such as the Federal Reserve System and federal deposit insurance.
But clearly these mechanisms proved inadequate to prevent the current crisis. As the Congress and the new administration consider what improvements are necessary, they should take exceptional care to preserve the premise of well-ordered markets that underlies our enforcement and regulatory regime. Maintaining the arm’s length relationship between government, as the regulator, and business, as the regulated, is essential. Otherwise, when the government becomes both referee and player, the game changes dramatically for every other participant.
Rules that might be rigorously applied to private-sector competitors will not necessarily be applied in the same way to the sovereign who makes the rules. On several occasions during the past year the Treasury and the Fed took on the unusual role of negotiators and principals in merger and acquisition transactions that normally would have been arranged by private parties. Even in these extraordinary cases, however, it remained the role of the SEC to regulate these transactions for the protection of investors. We took pains to stay at arms length in these cases, but our close collaboration with these same government agencies has made this truly terra incognita.
The U.S. government is now a major shareholder in banking and financial institutions and other private firms across the United States. Recipients of federal funding and guarantees are naturally coming under scrutiny by Congress, which rightfully believes it should control the purse strings in our government. As a result, there will be demands for compliance with congressional investment preferences and corporate governance policies, which will grow in direct proportion to the length of time that the federal investments and guarantees remain outstanding.
For all of these reasons, it is incumbent upon federal policy makers to ensure that the extraordinary actions of the past months are understood to be temporary, and constructed so that they are self-liquidating. Since government programs do not on their own go away, there has to be a deliberate design to eliminate them, and a relentless adherence to execution of that plan. Anything short of this will almost certainly guarantee eternal life for these vast new federal roles.
Focusing on exit strategies now is of vital importance to ensure that we do not stumble along a dangerous path of confusion that may end in far greater financial exposure for the American people, and a far worse situation for America’s taxpayers and investors. If we answer the tough questions now, and make sturdy plans for the future, we can position our mortgage market, our financial services industry, and the broader economy for renewed growth and prosperity.
Mr. Cox is chairman of the Securities and Exchange Commission and a member of the oversight boards for the Federal Housing Finance Agency (FHFA) and the Troubled Assets Relief Program (TARP).