Thursday, September 24, 2009

I feel better now.

It looks like there is one sane individual left in government. Via Calculated Risk I see that Paul Volcker has NOT lost it:

However well justified in terms of dealing with the extreme threats to the financial system in the midst of crisis, the emergency actions of the Federal Reserve, the Treasury, and ultimately the Congress to protect the viability of particular institutions – their bond holders and to some extent even their stockholders – have inevitably left an indelible mark on attitudes and behavior patterns of market participants.

• Will not the pattern of protection for the largest banks and their holding companies tend to encourage greater risk-taking, including active participation in volatile capital markets, especially when compensation practices so greatly reward short-term success?

• Are community or regional banks to be deemed “too small to save”, raising questions of competitive viability?

• Does not the extension of support to non-banks, and even to affiliates of commercial firms, undercut the banking/commerce divide, ultimately weakening the commercial banking system?

• Will not investors in money market mutual funds find reassurance in the fact that when push came to shove, the Treasury with an extreme interpretation of its authority, took action to preserve those funds ability to meet their declared commitment to pay their investors at par upon demand?

What all this amounts to is an unintended and unanticipated extension of the official “safety net”, an arrangement designed decades ago to protect the stability of the commercial banking system. The obvious danger is that with the passage of time, risk-taking will be encouraged and efforts at prudential restraint will be resisted. Ultimately, the possibility of further crises – even greater crises – will increase.

There is no easy answer, no one-size fits all contingencies. Experience, not only here but in every country with highly developed, inter-connected financial systems and institutions bears out one point. Governments are not willing to withhold financial and other support for failing institutions when there is a clear threat to the intertwined fabric of the financial system. What can be done is to put in place arrangements to minimize the extent of emergency intervention and to damp expectations of government “bailouts”.

Three cheers for St. Paul, the Dragon Slayer! Hip-hip, HOORAY! Hip-hip, HOORAY! Hip-hip, HOORAY!

Not that I think anyone is going to listen to him. For example, I have read that Chris Dodd wants to take the four main banking regulatory agencies and role them into one super agency. He doesn’t offer a rationale, or explain how this new institution would have forestalled the current crisis, but you know: Bigger is always better! The new agency will be TOO BIG TO FAIL. But the presence of one trustworthy individual is far more than I expected.

No comments: