If you didn’t see this testimony from Bill Black at the Lehman earlier this week, it’s a must watch. Out of the normal ho-hum congressional testimony of nobody is ever to blame for anything, Black calls out Lehman for committing fraud (with Fuld sitting near to him), and explains that Federal regulators weren’t half as serious as they were during the S&L crisis:
A lot of this talk is about “regulators failing.” It’s true, regulators had the power to do a lot of what they needed to do, and they also face huge influence and incentives to do the opposite during a cycle. I think it is important to not forget that, and keep it in mind when thinking through a regulatory regime.
But it is also important to remember that they “failed” also in part to a specific ideology which said that they were superfluous at best, destructive at worst. Look at why Bill Clinton said he was wrong to accept the derivatives deregulation late in his term: he said he was wrong because everyone was sophisticated and there would be no spillover effects. He was influenced by the efficient markets hypothesis which told him that market competition could destroy any problems with market structure, fraud and incentives, and the Modigliani-Miller hypothesis, which told them that leverage just wasn’t that important because an efficient market will always balance it out in costs, ignoring that MM requires a lot of assumptions of what happens in a market and that a financial firm isn’t like any other firm.
It’s good we are getting a resolution authority. I like that we are getting a derivatives bill that will help undo the deregulation Larry Summers and Phil Gramm did around 1998-2000 (and that’s the strong language!). I think the CFPA can make a difference.
But stepping back, how do we get out of the current culture of Wall Street? The fraud, the conflicts of interests, the ripping the face off the client, the idea that hiding leverage would only upset yappers who don’t get how it really works?
I think a return to fiduciary responsibility, private rights of action, and a occupational concern for a job well done, over a narrow concern to maximize shareholder value at every turn (even blurring the lines of fraud) is one avenue. Senator Menendez will offer an amendment that gets stronger off-balance sheet and fiduciary requirements into the bill. I think a serious effort at investigating what kind of frauds happened, especially with a special prosecutor with a real budget and powers, is necessary for cleaning out the mess. But is there enough time left to get a good debate on it in the Senate?