On September 14, David Bogoslaw published an article in BusinessWeek
entitled "How Banks Should Manage Risk." Rick Bookstaber and I are
quoted in this article because we first had an interview with David
following the XBRL Risk Taxonomy Meeting I hosted at the Levin
Institute in New York on May 13, and we had follow-up interviews two
weeks ago. As is the case in any press interviews, some of what you
say gets printed and a lot doesn't. In this case, I think much of the
substance of what I told David was out of scope for the BusinessWeek
audience and the goals of his article.
terms of a banking audience, David gets it all right, and I agree with
Rick Bookstaber's comments too. But what the article omits is the fact
that from 1999 to July of 2008 the US Congress, the White House, FHA,
the SEC, and the US Federal Reserve all participated in an
industry-backed weakening of the financial regulatory framework that
was built in the 1930's. In 1999, The Financial Services Modernization
Act (named Gramm-Leach-Bliley, or GLBA for short, after its authors)
removed 70 year restrictions on bank, investment bank, and insurance
cross-ownership. At the same time, derivative market oversight was
specifically excluded from GLBA and financial markets were allowed to
create and trade complex derivative instruments without regulatory
reporting or control.
In 2001, President Bush exhorted
Americans to "go shopping" to support the US economy following 9/11 and
the Federal Reserve obliged by cutting interest rates down to 1% to
pump liquidity into the US market. In 2004, Congress lobbied Fannie
Mae and Freddie Mac to relax underwriting guidelines on home loans to
allow sub-prime borrowers to participate in "The American Dream," and
own a home, and FHA provided loans subsidies to make it easier. In
2006, Congress pressured the same GSE's to relax underwriting on Alt-A
mortgages, allowing self-employed individuals to declare their income
with a signed affadavit instead of documenting their income through tax
filings. As I've written in past blogs, that change gave license to
mortgage fraud across the country as Alt-A borrowers could make wild
income declarations without validation and that pumped tens of
thousands of fraudulent mortgages into the global financial system.
This change wasn't reversed until July 2008, when the Federal Reserve
finaly changed Alt-A underwriting guidelines. The long tail of the bad
mortgages underwritten from 2006 to 2008 mean we will suffer
significant foreclosure rates welll into 2011, extending the depth and
breadth of this recession.
2006 proved to be the top of the
Housing Market in terms of house valuations and bank fees generated
from loan securitization and derivative markup. The pile-on
legislation and market encouragement from Congress, the White House,
and the Federal Reserve came from industry pressure to keep the party
going as long as possible.
Yes, Banks took on too much risk
from 2001 to 2007. But the US Government encouraged and enabled
excessive risk taking during that period, and both need to be monitored
to prevent future crises. There is an inherent conflict of interest in expecting the government that enabled the current credit crises to participate in the forecasting and prevention of the next one.
There is a history of financial
de-regulation followed by marked innovation and crash that goes back
100 years in the US. The innovation generates enormous wealth on Wall
Street and new tax revenues for Federal, State, and Local Governments.
The relationship between government enablement and financial innovation
was omitted in David's account and needs closer scrutiny because
policy-makers, and the public, will need new information management tools to realize the
impact of incremental policy decisions on financial market performance
over the longer term to be able to regulate wisely in the future.
the article, I recommended that the government create a new Regulatory
Information Architecture, modeled on the Information Sharing Councils
created by the Bush Administration for terrorism intelligence gathering
following the 9/11 Commission Report and the Intelligence Reform and
Prevention of Terrorism Act (IRTPA) of 2004. But more is needed.
year ago, I believed that new information technology and data
collection would enable the US Government to better analyze the
performance of financial markets and forecast potential bubbles and
crisis. I'm sure that enhanced information sharing in the US
Government will enable better regulatory enforcement, but it's not
enough to prevent future crises. The public needs to play a role in
the oversight process because the Government has its own interests
which are not always perfectly aligned with those of the public.
Administrations change, and with those changes come new philosophies of
governing and regulation, and in a Democracy like ours you always want
to enable others to regard and report information that others disregard
Therefore, what's needed is more information
transparency about market holdings and the actions of market
participants so that anyone in any firm, university, or industry
watchdog can analyze nearly the same macro and micro economic data that
federal regulators observe and make their own forecasts and
Without public access to better market data, we are just enabling government to encourage risk taking more efficiently in the future.
You can read the businessweek article here: http://www.businessweek.com/print/investor/content/sep2009/pi20090914_336015.htm