Adler on Data Governance

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.

In 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.

In 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. 

A 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 or deny.

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 predictions. 

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