Felix Salmon

How to get financial reform

Felix Salmon
Dec 4, 2009 22:33 UTC

TED’s Reformist Manifesto is, for all his bluster, a pretty standard wishlist in terms of what kind of regulatory structure you’d set up if you were starting from scratch. It can really be boiled down to one principle: minimize the amount of unregulated financial activity, while also minimizing the amount of regulatory bureaucracy.

The problem, of course, is how we get there from here. Last night I moderated a panel on the future of Wall Street, and there was definitely a consensus that we’ve wasted our crisis and that both Wall Street and Washington have started drifting into complacency. I don’t believe that Barney Frank and Chris Dodd have given up on implementing regulatory reform, but I do believe that the longer it takes, the weaker it’ll be. And I also see almost nothing in the way of constructive help on such matters from the Republicans, when this is an issue which should really unite the parties, rather than divide them.

The bigger problem is that regulatory reform is fundamentally boring: anybody who was sentenced to covering Basel II would occasionally drift into a revery about quitting their job and doing something much more interesting instead, like covering clearing and settlement.

There are lots of areas where small details make a very big difference, and groups like FASB and the ABA can spend years debating single paragraphs in long regulatory documents. The big-picture stuff is important, but the granular stuff is important too, and that’s where the bank lobby can slow things down to the point at which nothing ever happens. Meanwhile, the population as a whole will have moved on from being angry at banksters: the window of opportunity where politicians can actually get votes by announcing that they’ve merged the Office of Thrift Supervision with the Office of the Comptroller of the Currency has already closed.

Maybe we really should go around paying bankers $20 million a year: it’s the only way to keep the outrage at the minimum necessary level to get any substantive changes done. Or maybe we should set up a system whereby if a regulatory-reform bill hasn’t been signed into law by say March, Ben Bernanke’s renomination will automatically be pulled and he’ll be replaced by Matt Taibbi. That might help concentrate minds a little.


No one questions anything when things are going well and everyone’s making money, it’s on;y when people start getting financially hurt that the outrage starts.

It’s certainly worth looking at health reforms, but they need to be in proportion and well considered. Fundamental changes to the health system will have dramatic impacts on other areas of the economy – most notably the insurance sector.

If regulatory changes unbalance the insurance market, by either driving down premiums or reducing the need for private medical insurance, there will be redundancies and job losses in this area.

It’s a delicate balance that needs to be tread softly.

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Neel Kashkari, mountain man

Felix Salmon
Dec 4, 2009 20:32 UTC


Today’s must-read is Laura Blumenfeld’s tale of Neel Kashkari, mountain man, building a wooden shed in the wilds of Northern California:

Kashkari is recalling his testimony before Congress, while splitting logs to feed the stove for the winter. He is down to his last two chain-sawed trees.

“Members of Congress will tell you they agree with you, and then in public they blast you. I understand their anger, but the playing at politics when so much was at stake –”

Whack. The ax blade flies off its wooden handle.

I’m not sure why exactly Kashkari invited Blumenfeld to hang out with him in the mountains, watching “sweat dot the skin between the hairs on his forearms [as] he does 20 reps of lower-back extensions”, but it’s quite the portrait — especially with the accompanying photo gallery by Linda Davidson — of the Washington technocrat on detox.

Kashkari, like Bernanke, has regrets, but his are small and pretty technical:

He also made mistakes — a punitive interest rate on the American International Group intervention, he says, and a clause allowing unilateral changes to the Capital Purchase Program contracts — decisions executed quickly in the crisis and recognized belatedly by him on the road to Lake Tahoe, while biking up a 9 percent grade, his thoughts grinding round.

What’s more, he’s not out of the rat race, by any means: he’s still wedded to his BlackBerry, complete with Bloomberg alerts; he covets home delivery of the Wall Street Journal; he’s talking about going back to Washington some day; and he’s even talking to Hank Paulson about taking another job in financial services before the year is out. All the log-splitting is essentially an extended vacation, not a true change of lifestyle. After all, he is a Goldman man. Given his extremely valuable experience at Treasury, it would be foolish for him not to monetize that somehow.


Is this supposed to be both an homage to the famous chainsaw deregulation group photo, *and* give us a hint as to his position on the climate arguments?

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Emerging markets aren’t a bubble

Felix Salmon
Dec 4, 2009 15:31 UTC

Yesterday was the EMTA annual meeting, complete with its venerable and always interesting panel of buy-siders. My favorite is always Hari Hariharan of NWI managment: when asked what his favorite trade is, he never says something simple like “long Brazil”. Instead, it’s invariably a complex relative-value trade: this year he said that “a one year forward 2s-5s steepener in Korea could be an offsetting trade to receiving front-end Mexico”. You’re welcome.

Hari’s a smart and insightful guy, though, he’s not (just) a nerdy quant. When asked whether we were in an emerging-markets bubble, he pointed out that although property prices in Hong Kong are hitting insane levels in the region of $9,000 a square foot, those prices are being paid in cash, and banks aren’t lending against those values. And without leverage, of course, there’s a limit to how much harm a bubble can cause.

Similarly, I get the feeling that for all that Brazilian equities have been skyrocketing in dollar terms of late, that doesn’t mean that Brazilian companies have anything like the same access to the equity capital markets that they did before the crash: the primary markets haven’t recovered as well as the secondary markets, and people spending new money are still displaying signs of caution.

What’s more, in spread terms, emerging markets aren’t looking particularly bubbly, at least by 2007 standards when the EMBI+ index got as tight as 153bp over Treasuries. Right now, it’s 317bp over. In yield terms, however, things are much closer: 6.51% now (or yesterday, anyway, when the panel was going on and before the jobs report came out) compared to 6.37% at the low in in June 2007.

Mark Dow, of Pharo management, added that right now it’s easy to see bubbles everywhere, since we’re still so burned from the bursting of the last one. It’s a good point: while emerging-market assets may or may not be overpriced right now, it’s probably not particularly helpful to worry about bubbles. That said, everybody was a bit worried about the tens of billions of dollars flowing into Brazil from Japanese toushin funds: they’re not good for Brazil, and they’re unlikely to work out very well for Mrs Watanabe, either.

So although there’s bound to be some sort of correction in Brazil and other emerging markets sooner or later, that doesn’t mean they’re currently in a bubble. It just means that traders are making lots of money on the momentum trade right now, which isn’t the same thing at all.


Sorry I mean only after the fiat currency bubbles bust

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Reappointing Bernanke

Felix Salmon
Dec 4, 2009 14:19 UTC

Ben Bernanke was contrite yesterday, as well he should have been:

“There were mistakes made all around,” Mr. Bernanke said. “I did not anticipate a crisis of this magnitude and this severity.”

We should have required [banks to hold] more capital, more liquidity,” Mr. Bernanke added. “We should have required more risk-management controls.” He also said the Fed was “slow on some aspects of consumer protection.”

All the same, he says, he should continue to have the job he failed at:

“In the area where we had responsibility, the bank holding companies, we should have done more,” he told lawmakers. “That is a mistake we won’t make again.”

I tend to agree with him. It’s true that the litany of accusations against Bernanke is a long one: a loyal Greenspanite during the Maestro era, Bernanke not only failed to see the financial crisis coming, but reacted to it in an ad hoc manner, losing his independence from Treasury in the process. But that just goes to underline how hard it is to construct a strong, proactive regulator. The way to maximize your chances of success when constructing such an entity is to start with the strongest, smartest regulator you have, and then improve it. Clearly, that’s the Fed, with its control of the money supply, its intimate knowledge of national and international capital flows, and its outposts scattered all around the country.

Is Ben Bernanke the right person to lead the Fed of the future? I’m less sure about that, but for the time being it makes sense to keep him where he is. With any luck, by the time his second term has ended, the government will have passed a comprehensive regulatory reform bill of some description, and it will be much clearer what the Fed’s role in general, and the chairman’s role in particular, is going to be. At that point, the president will know exactly what skillset is required. For the time being, it’s hard to see that replacing Bernanke with anybody else would constitute an improvement — especially not when the leading other contender for the job is Larry Summers.


Felix, I think your analysis is flawed if you are assuming Larry Summers would be the next nominee. If Bernanke fails to be reappointed, it will be becasue of voter disgust with “wall street bailouts” and incompetence. In this regard, Bernanke, Geithner and Summers are all lumped togetherr in the public’s mind. Obama woul,d not risk having another confrontaion over this, and would nominate someone he thought would be an easy nomination. If he listens to the public, it would be Volcker, although I think it is unlikely. Anyways, it is not going to be Summers.

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Finally, an encouraging jobs report

Felix Salmon
Dec 4, 2009 13:48 UTC

Today’s jobs report is genuinely encouraging, I think. Unemployment is down a little to 10%; employment is “essentially unchanged”, in the words of the release; payrolls in prior months were revised upwards; total hours worked went up; wages went up; what’s not to like?

Still, it’s early days yet, and it’s still more likely than not that unemployment is going to top out well above the 10.2% rate from which it fell this month. It’s great to have a little bit of holiday cheer in the last payrolls report of 2009. But winter still hasn’t started yet.


Riddle me this: the Labor Dept claims that unemployment has fallen from 10.2% to 10%, BUT there was still a job loss (presumably net) of 11,000 jobs in the reference month (Nov). This therefore has to mean that the workforce is larger, since jobs were still lost and yet the percentage shrank. How did it suddenly get larger? And if it did, and yet the percentage of unemployed fell, then jobs must have been added to make up the increment in size of the workforce. Let’s say we have a workforce in Oct of 1,000,000 people. 102,000 of these are unemployed. So 898,000 have jobs. By end Nov, 113,000 (102,000 + 11,000) are unemployed, but unemployment has now sunk to 10%, meaning that the workforce now numbers 1,130,000 and that 1,017,000 (90% of 1,130,00) are now working, so that somewhere along the way a mysterious 119,000 (1,017,00 – 898,000) souls were added to the ranks of the employed. How? I think we should be told.

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Felix Salmon
Dec 4, 2009 06:29 UTC

Palin: Obama birth certificate ‘a fair question’ — Politico

Gawker, of all outlets, is the first to put the White House pool reports online. ABC, Politico, where were you? — Gawker

Eliot Spitzer and Terry Richardson: what the … ? — Interview

And the winner of the “most egregious listicleization” award is Slate’s “write like Sarah Palin” contest — Slate

Simon Cowell, painted in Marmite on toast. Obvs. — YouTube

SEC pushes to reform mutual fund fees — Reuters

Dubai : Dubai World :: USA : Frannie? — Breakingviews

Behavioral economics works great. Behavioral finance? Not so much — Kedrosky

Gerhard Richter at the Serpentine. Gorgeous — YouTube

Legislation could cut JPM’s derivatives revenues by $3 billion, or 50% — Crain’s

How WaMu failed

Felix Salmon
Dec 3, 2009 18:36 UTC

Amidst the orgy of one-year-on reminiscing in September, I missed Kirsten Grind’s 4,000-word story on the failure of WaMu, which is well worth reading.

She gives a great impression, for instance, of what a bank runs look like, circa 2008:

A longtime customer in Orange County brought a cake to her branch that spelled out in frosting, “We love you WaMu,” and then closed her account. Another customer at a branch in Southern California withdrew all her money and then, feeling guilty, returned the next day with a freshly baked peach cobbler for the branch’s staff, according to a former WaMu manager. Her money, however, stayed away.

Each day, Brinks Security trucks pulled up to replenish WaMu ATMs across the country. Before the crisis, the trucks delivered about $30 million in cash a day nationwide, Freilinger said. During the September bank run, they delivered as much as $250 million a day.

The general impression from Grind’s article is that WaMu was certainly going bust: it had been downgraded to junk by Moody’s, and was about to appear on the FDIC’s problem-banks list, where its size would mean it had no anonymity. It was in the midst of a second bank run when it got taken over; further runs were all but certain.

The big question, though, is whether the FDIC gave a nod and a wink to potential acquirers that they would be able to buy WaMu in a distressed sale from the FDIC, rather than having to take on all its liabilities by buying it from shareholders.

Grind doesn’t go into the details of capital structure, though, and I wonder: absent FDIC intervention, is there any way for a bank’s bondholders to take control of the company, wiping out the shareholders? My guess is there probably isn’t, and that such an outcome won’t even be possible in the brave new world of living wills and ex ante resolution regimes. But I’m sure all those bondholders — who got all but wiped out themselves — wish that there had been.


The underlying cause may very well be that the entire real estate loan portfolio of QaMU (as well as Wachovia and Downey) is comprosed of Option ARM’s… in a normal market a decent loan produvt… however, due to the REFUSAL of the lenders, Fed, Treasury and Congress to really understand and deal with the cause of this crisis (1-4 unit residentail real estate)the free fall in real estate values make these loan virtually impossible to refinance… a huge proportion of the loans were made to self-employed borrowers… who due to underwriting guidelines, are now virtually excluded from obtaining any form of financing…

The fact that there is no real loan modification program in place the several million Option ARM’s will in place wil now guaranty a new wave of foreclosures… 3-5 year more of this to follow!!!

At present the modification procedure takes upwards of 9 months to cokplete; and demands that the homeowner first become delinquesnt; thereby making a mess of their credit… try buying that new GM car with a 520 credit score!! The programs now in place, HAMP included, are akin to going to the hospital with a heart attack, and being treated for an ingrown toenail!! Curently, there are upwards of 7 million problem loans… and Mr. Geithner is boasting about aiding some 400,000 homeowners
Onlt government can fail and call it a win!

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Opaque bankers

Felix Salmon
Dec 3, 2009 17:40 UTC

Banks’ public disclosures have always been on the opaque side. But now things are worse than ever, according to Nomi Prins, who should know:

In the cases of Bank of America, Citigroup and Wells Fargo, the preferred tactic is re-classification and opaqueness. These moves make it virtually impossible to get an accurate, or consistent picture of banks ‘real money’ (from commercial or customer services) vs. their ‘play money’ (used for trading purposes, and most risky to the overall financial system, particularly since much of the required trading capital was federally subsidized).

At Bank of America, says Prins, “the firm doesn’t truly know what’s going on inside its new problem child, or doesn’t want to tell”. Citigroup regularly changes how it reports earnings, splitting the company up in different ways in different years so as to make like-for-like comparisons impossible. And at Wells Fargo, trading revenues are buried as an unknown percentage of each of the four different reporting groups.

The reasonable conclusion to draw from all this is that trading revenues at all three banks are much higher than they’d necessarily want us to know or think. After all, the stock market values trading revenues on a much lower multiple than old-fashioned commercial banking revenues, which are much less likely to disappear or even turn negative for no obvious reason, and which are also much less reliant on trying to keep traders happy with ever-increasing bonuses.

Is there any way to get the SEC to force these banks to report their trading revenues in a consistent manner, allowing for sensible comparisons both between banks and over time? Or will they always find a find a way to bury them somewhere invisible? I think we all know the answer to that one.


Phil, you miss the point I’m afriad.

I’ve worked in financial reporting all my career and I agree big US bank reporting is incredibly opaque.

Yes, Citi has been through many incarnations of late, but non-financial companies regularly restructure or go through M&A without as much opacity.

And let’s not get started on SIVs, a most blatant way of gaming the accounting and regulatory framework.

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Why the plutocrats will return

Felix Salmon
Dec 3, 2009 15:54 UTC

Is the US government powerless to prevent the return of the plutocrats? Or does it actually, secretly, need the plutocrats to return? Here’s Tim Geithner, today:

“You cannot address those long-term deficits, you cannot put the government of the United States in a position that we can go back to living within our means, unless you repair the damage done to this economy and to its revenue base.”

Translation: we need to return to our bubble-era levels of income.

It’s worth remembering that income for America is the same thing as income for Americans: 81% of federal revenues come from income and payroll taxes.

Remember too that when you have a progressive tax system, especially when there are surcharges on people making seven-figure incomes, you also have a system where for any given level of national income, the greater the inequality, the greater the government’s tax revenues. And indeed federal revenues have been rising faster than median wages for decades now, thanks to the rich getting ever richer.

Given the government’s insatiable appetite for cash, it’s only natural that it would prefer to tax plutocrats, spending some of that money on poorer Americans, rather than move to a world where poorer Americans earn more (but still don’t pay that much in taxes), and the plutocrats earn less, depriving the national fisc of untold billions in revenue.

The government’s interests, then, are naturally aligned with those of the plutocrats — and when that happens, the chances of change naturally drop to zero.

Update: Kevin Drum does the math, and concludes that “the federal government doesn’t have much of an incentive to maintain lots of income inequality”.