By Simon Johnson
Will the Vickers Commission report on UK banking – with a preliminary report released today – have a major positive impact? Not likely in our assessment – see today’s Daily Telegraph.
The fight to reform the banking system in the US and more broadly is largely over – and the bankers won. A number of sensible ideas were put forward – including on creating a resolution authority, reducing the scale and scope of big banks, and significantly increasing capital requirements. As reviewed by Peter Boone and me in this morning’s Financial Times, all of these initiatives have essentially failed.
The Baseline Scenario 
Ah yes, the Vickers family. That’s a high caliber family.
The key issue to me is not the risk per se but who has to bear it. Under the present setup, all of the risk is borne by the taxpayers while the bankers enjoy all of the upside. If we the taxpayers are going to bear all of the risk, then isn’t it reasonable that we the tax payers, through our government, place sufficient controls and regulations (god forbid!) on these banks’ operations so we won’t have to be on the hook for them? Or should we just trust them? Furthermore even if we the public were not directly on the hook, we would be indirectly, because a massive bank failure(s) would shut down the economy, just like a failure of the electric grid would. So either way, we need much more robust controls and smaller banks than we have now. Sound reasonable?
Great articles, and choice of media. Speaking as a brit, thanks both.
Any thoughts on why we dont have similar blogs in the UK?
(PS, anyone who cant open the FT link could try googling “The future of banking: is more regulation needed” and clicking on the first FT link that appears.)
PPS: i suppose this would go against etiquette, but I’d LOVE to see the SJ-JK riposte to the “no” argument in the FT article, which has this: “if you raise capital requirements too much, to the levels which have been advocated by authoritative voices, then you damage bank profitability so much that they raise their prices and thus lose business to non-bank sources of finance. These then multiply, attracting funds to lend out, and soon you have a growing unregulated and potentially dangerous parallel banking system.”
If I’m right in thinking this is a slightly confused version of the “regulate banks they’ll just go shadow!” argument, which to me sounds a bit like e.g. Toyota saying “sure we can improve our brake systems, but it’s pointless as our shareholders will then pressure us to reduce costs on our steering columns, meaning drivers will be at risk of steering failure!” – and I dont think Toyota would make such an argument…
Alright so the banksters control EVERYTHING, and Simon is correct: reform, such as it is, failed.
It goes to the Joe Stiglitz Maxim: a government of the 1%, by the 1%, and for the 1%.
I saw today, also, where the descendants of the Vikings in Iceland told the big banks to basically cram it, in a referendum vote there. Imagine the gall of Gordon Brown to suggest Iceland would be classified as a terrorist rogue state, if it did not pony up….sickening.
Anyway, someone in the crowd in ICELAND carried this placard: OFF WITH THEIR HEADS. With each new and continued outrage, that sentiment is growing across the entire globe.
“all of these initiatives have essentially failed”
Spot on, excellent article! Back here in the United States (Ireland, England, etc,.etc,) home prices have lost nearly $10 Trillion Dollars since the housing peak, June/2006! The average home price is down 27% since the peak, but this doesn’t wash well with my acid-fast soap? It’s more like 33% +/- a percent or two at most, which puts the actual estimate [?] more like $12.4 Trillion Dollars minimum.
Note: We have yet reached bottom in the U.S.Housing debacle! We certainly averted that nasty depression haven’t we?
Ref: “U.S. Home Values Lost $798 Billion Last Quarter, Nearly $10 Trillion Destroyed Since Peak”
http://www.businessinsider.com/zillow-fourth-quarter-798-billion-2011-2
PS. When will the public wake up, or will we gently stroll into the next failure with only a faint relapse of what just happened yesterday? So long ago from tommorrow?
Thankyou Simon, James, and Peter
And pray tell what now is the solution in the meantime regarding the BIG Banks?
The 8 percent of capital that Basel II required for what was deemed officially as risky proved to be more than sufficient… so it was not the basic capital requirements that were wrong but the minimal risk-weights applied to what is officially perceived as not risky.
The problem arose because the information contained in the credit ratings is accounted for twice. First when the market establishes the interest rates and risk premiums, and then when the regulators use them for the capital requirements. The most perfect information can be made imperfect by accounting for it the wrong way.
The above described regulatory failure created the huge incentives for the banks to grow too-big-to-fail and to go and drown themselves in the shallow waters of sovereign and triple-A rated waters.
Before all regulatory discrimination on perceived risk is eliminated, the burden of any increase in capital requirements will fall primarily on the shoulders of the small businesses and entrepreneurs, those who had nothing to do with causing this crisis. Is this what you want? I don’t think so!
Basel III, Vickers, Dodd-Frank, Lord Turner… whatever whoever, since none of them has yet understood what went wrong they are all trying to correct for the mistake instead of correcting the mistake. And so before they start working on that, we are not even close to the end of this regulatory round…
Count de Money’s First Law:
Reform occurs in inverse proportion to the need for reform.
I describe the Vickers proposal as “firewalls without walls”:
http://forensicstatistician.wordpress.com/2011/04/11/its-the-credit-creation-stupid/
The ICB report has not addressed three core problems:
1) The link between Retail & Investment banking still exists, through Securitisation
2) The prime cause of instability in the banking system is not deposits, but the means of credit creation (hence fundamental role played by Securitisation)
3) There is a mountain of evidence that Securitisation “mis-prices” the risk, i.e. Triple A ratings for Subprime! (as in Per Kurowski’s point above)
The big bad boogey man is therefore Securitisation. It’s a slam dunk!
@ forensicstatistician and Per Kurowski.
While I agree with much of what you have to say, I believe that you have to address effectiveness issues (randomness segmentation) before tackling efficiency issues (cost of regulatory capital)
@ Kurowski: “the minimal risk-weights applied to what is officially perceived as not risky.” Unforeseen and unmeasurable is “uncertainty” not risk, by definition
@ forensicstatistician
“Securitisation “mis-prices” the risk” The question is WHY has risk been mispriced? If there is complexity, there is uncertainty. If uncertainty has been priced as risk with deterministic metrics is not error to be the likely result?
If Citigroup’s one-size-fits-all financial supermarket couldn’t cross-sell, policy makers cannot cross-regulate due to non-correlative information that produced a discontinuous function resulting in larger and more frequent economic dislocations. What I have railed against from the governance perspective when I say “protection is a racket” is the investment equivalent of Taleb’s complaint that “correlation is charlatanism.”
As to Dr. Johnson’s lament as to why the so-called banksters prevailed? It is the reluctance to change the one-size-fits-all deterministic regulatory regime to which you mistakenly support. There is a persistent attempt to micromanage the effects without properly addressing the causes. And if you want change, be prepared for real change. Gotcha governance equates to changing commas into semicolons. (See Einstein)
@forensicstatistician “There is a mountain of evidence that Securitisation “mis-prices” the risk, i.e. Triple A ratings for Subprime! (as in Per Kurowski’s point above)”
@ Stephen A. Boyko “the minimal risk-weights applied to what is officially perceived as not risky.” Unforeseen and unmeasurable is “uncertainty” not risk, by definition
Sorry I have a feeling you have still not understood my main objection to Basel II.
Even if the foreseen and measurable risk is correctly gauged, no mispricing, it is still wrong to account for it twice. The market’s first use that information to set their risk premiums and interest rates, something natural, but then came the regulators along and also used precisely the same information to set their capital requirements for the banks, something quite artificial.
@Kurowski: “Even if the foreseen and measurable risk is correctly gauged, no mispricing, it is still wrong to account for it twice”
Yes – that is why I say that I agree with much of what you have to say.
Where we disagree is the timing and sequence (Stiglitz). Randomness segmentation should come first as it is material as to whether you double counting “1” or “100” etc.
@ Per Kurowski
Follow-up to previous post: Your valid concern re: double counting is a key reason why ONFA regulatory regime is so troublesome as it magnifies errors due to a lack of dynamic feedback analysis (doing multiplication with out cross-checking by doing division).
@Stephen
Q: “Why is the risk mis-riced?”
A: To create benign conditions for achieving the appearance of financial stability. From my link:
Reigning in inflation through a deliberate disregard for credit creation; the expansion of which was completely under-priced:
“The virtual elimination of the credit quality spread, in all its dimensions, ought to be regarded as a source of fear and trembling, not a celebration of capital market efficiency.” (p.174)
@Per
Apologies if I mis-understood your point. If I understand it right, you claim that financial crises always tend to stem from areas where we don’t believe that there are risks but that later turn out to be highly risky. I made the extra leap of citing AAA ratings for subprime.
My ICB submission shows how Securitisation always leads to risk mis-pricing:
Click to access Russell-Bradshaw-Issues-Paper-Response1.pdf
@ forensicstatistician
Once agian, much agreement but key question is
Mispriced or Mischaracterized (risk vs.uncertaqinty)?
No-money down, NINJA, securitized CDOs are uncertain (lack of cash flow instrument that is marked-to-model). Managing risk and managing uncertainty are conceptually different and require different approaches. With risk, one can insure (i.e. buying put options for portfolio insurance) and one can hedge (i.e., Ford and Exxon stocks in a portfolio). With uncertainty, one can insure against natural disasters, but cannot hedge (Ford and commodities). Uncertainty is unbounded (goodwill in S&L crash).
The “Big Six” are now just domiciled in the United States! That’s it folks. There’s no magic involved, or ambiguity about their [banks] future intentions, endeavors, period! All the fish have been gutted, and fried stateside.
Globalization has given them [banks] the “Keys to the Kingdom” (Universe)*, to subvert any, and all “International Laws”? A rolling stone gathers no moss, and these guys our boulders too say the least.
Singapore is now the “Yuan Hub” for the Chinese, and the “Communist Country’s (lest we forget)” foster children’s “Emerging Market”, these so called “Paper Tiger’s” as Mao once famously coined them. Guess what…children grow fast, and they’re now almost teenagers with massive hormone growth pains (need money, especially ,Yuan converted from U.S. fiat paper).
The “Big Six” can go freely wherever, whenever, and leave wherever, and whenever if the trade winds aren’t favorable. Shocking!
The United States is spent, used up, a loosing cause as we all can testify every night we turn on the news! It’s like a “Civil War” between the Dem’s and GOP, with absolutely no shred of altruistic patriotism between the two, pathetic!
Here is the shocker for some of the naivete` out there…the, “Federal Reserve Banking System” is now the sole “Piggy Bank” of the “Big Six”! At one time it was actually bifurcated, but sadly those days are now in the past, as that of the stale, and withering “Wine & Rose’s” reality of yesteryear. A long winded fleeting moment, that’s now walking, talking, and mesh-masking the sails…a prelude too, “Gone with the Wind”!
Yes, indeed the “Big Six & FED” are joined at the hip, and america’s wealth is now totally in it’s coffers to do whatever, whenever it pleases with our lives.
How’s that for an answer? There is no answer…it’s now a paradox that we as a collective democratic allowed to happen because of sheer complacency as a selfish nobody that always got their’s! The public has been neutered, their ear’s boxed, and transformed into a herd of serfdom sheep…sooner rather than later, to be ravaged by a “Six-Pack[?]” of rabid dogs on the other side of the leveled[?] playing field?
@ earle, “The public has been neutered, their ear’s boxed, and transformed into a herd of serfdom sheep”
While there is plenty to argue to criticize the Big Six, who has advocated for “change” of the OSFA deterministic governance that is the very enabler of the Big Six?
Indeed…
Ref: “The FDIC backing 8,000 banks with $13 trillion in assets and a negative deposit insurance fund?”
http://www.mybudget360.com/fdic-trillions-banking-negative-deposit-wall-street-too-big-to-fail-get-even-bigger/
Please note that this is where the homeowners equity went from the housing debacle…created by whom? Coincidence? You tell me,…
Earle:
WOW. So now the FDIC is holding what?
Ref: “A Year on Bank Supervision: 2008 and a Few of its Lessons”
PS. FDIC / dated…so even with increased premiums, the figures have (deficit) certainly expanded.
http://www.fdic.gov/regulations/examinations/supervisory/insights/sisum09/bank_supervision.html
http://www.freedocumentaries.org/int.php?filmID=243
The Money Masters
The Bankers Won. Thank You. I Simply love winning.
The world needs strong banks and strong, good regulation to allow them to succeed to make the world a better place.
Bad, unnecessary regulation is being discarded for the betterment of the world.
@ Desi Girl: “The Bankers Won.”
Did the banks win or did the reformers lose because what Dr. Johnson and his colleagues proposed was worse than the disease? While progressive red meat and politically successful, the proposals were generally lacking in contextual commercial realities. TBTF was a vapor target that enabled a policy default in favor of the oligarchs.
@ Desi Girl: “Bad, unnecessary regulation is being discarded for the betterment of the world.”
Total agreement. I am the author of “We’re All Screwed! How toxic regulation will crush the free market system.” Furthermore, I have been associated with various market efforts to improve the effectiveness and efficiency of capital market governance.
But where is this happening? Bad regulation, like beauty, is in the eye of the beholder.
@ Desi Girl: The world needs strong banks and strong, good regulation to allow them to succeed to make the world a better place.
Effective and efficient regulation starts by recognizing randomness segmentation. Where there is complexity, there is uncertainty. Unless and until risk (probabilistic expected values that are measurable) is differentiated uncertainty (unknown-unknown, instruments having negative cash flow that are marked-to-model) errors of conflation will continue to result in noncorrelative information that produces larger and more frequent boom-bust bubbles. If Citigroup’s one-size-fits-all financial supermarket could not cross-sell, then one-size-fits-all deterministic governance metrics cannot cross-regulate. This will be amplified in a forthcoming white paper entitled “Beyond Rumsfeld.” Stay tuned!
Stephen
I like your thesis that Risk can be insured AND hedged, whereas Uncertainty can only be insured (not hedged).
I guess with insurance you need an asset base with which to actually absorb net losses (should they arise). Whereas hedging implies a neutral net outcome from a going concern (with no underlying asset base); gains from income are used to offset losses, so if losses exceed gains you’re screwed.
Is this correct?
A classic fable or better said, a contemporary lesson that ironically dates back millenniums – a gift from the “Greeks” is so apt today I can’t help myself!
“Charybdis & Scylla via the strait of Messina” {(A *Charybdis is a violent whirlpool)(A **Scylla is a “Six-Headed Monster)(*** The Strait of Messina is the seafaring voyagers only way out for securing their sanctuary)]
“The “Scylla” (the Big Six Banks/ FRB) holds in its mighty jaws the vessel (America’s Future) traveling the straits of Messina (the precious resources to pull america upward and through the current [?] crises), but the turbulent stalemate, and frozen moral compass used for navigation (the Congress/ K-Street/ and whores of Wall Street) refuses to relinquish its grasp, and challenges the mighty Charybdis for winner take all, thus the feast is set upon the vessel as the forbidding Charybdis swallows all having no regrets”
****If Only?
@ Forensicstatistician
@ “I like your thesis that Risk can be insured AND hedged, whereas Uncertainty can only be insured (not hedged).”
SAB: This presumes that you recognize that risk and uncertainty are different. Granted that this is nitpicking but it is foundational to the thesis. This distinction between risk and uncertainty was made famous by economist Frank H. Knight in his seminal book, “Risk, Uncertainty, and Profit” (1921). Knight argued that uncertainty is not a linear extension of a “riskier form of risk,” but a separate and distinct concept. For the record, I first published the distinction in 2004 Comments on Release No. 34-49695, File No. S7-22-04 http://sec.gov/rules/policy/s72204/saboyko060904.pdf
The effective and efficient management of the capital market is the relationship of the component parts – predictability, risk, and uncertainty – to the connective concept of randomness. In essence, We’re All Screwed (WAS) provides the subjects to Rumsfeld’s predicates for the randomness sentences of:
• Predictability is the known-knowns.
• Risk is the known-and-unknowns.
• Uncertainty is the unknown-unknowns
@ I guess with insurance you need an asset base with which to actually absorb net losses (should they arise).
SAB: I define “randomness” somewhat differently in terms of cash flow and product demand bright-lines. A bright-line rule (or bright-line test) is a clearly defined rule or standard, composed of objective factors, which leaves little or no room for varying interpretation.
Risky products have a measurable and foreseeable range of possible values that are determined by each value multiplied by its risk of occurrence. Risky enterprises are made up of knowns and unknowns. They either have conventional products (i.e., mortgages) with negative cash flow like Fannie Mae, or have positive cash flow with innovative products such as the Ford plug-in hybrid car with an indeterminate demand that is forecasted by modeling.
Products with unknown demand and unknown cash flow are uncertain. Innovative biotech companies that have a negative cash flow burn rate while awaiting FDA approval for pending patents or NINJA (No Income, No Job or Assets) Mortgage Backed Securities (MBSs) that are marked-to-model are examples of uncertain companies and products. Their products have unmeasurable and unforeseeable consequences resulting in randomness that is made up of unknowable unknowns.
@ Whereas hedging implies a neutral net outcome from a going concern (with no underlying asset base); gains from income are used to offset losses, so if losses exceed gains you’re screwed.
SAB: Determinate and indeterminate assets react to information differently. Without informational correlation or a normative distribution, the less robust variance measure of randomness is used instead of the standard deviation. The standard deviation is a very useful measure of dispersion for symmetrical distributions with no outliers, but this does not comport with a key market characteristic of non-linearity.
From an investment perspective, Nassim Taleb, hedge fund manager and author of “The Black Swan,” scorns any correlative association because past history can never prepare you for catastrophic failure. Taleb posits that anything that relies on correlation is charlatanism (Felix Salmon, 2010).
From a governance perspective, I argue that investor protection is a racket. Whether it is said by Don Corleone or Don Columbia Law School, protection is a racket. When is the last time an aggrieved customer got a check from a regulator? Nobody takes care of your money better than you do, but your scope of investments should correlate to your abilities. Customer rights must be proportionate to customer responsibilities otherwise you create a moral hazard. For example, we gave property rights to renters via NINJA, Liar, and stated (etc.) mortgages and then compromised governance with deterministic regulatory subsidies. Regulation produces oligopolies not competition. The GSEs (FNM and FRE) have lost in the last two years more than they made in the previous 30 years. But the GSEs fit the biases of Congress.
This means that you can neither cross-sell CDs and bonds as Citigroup tried to do in its financial supermarket, hedge tranches of MBS as financial engineers tried to do, nor regulate risk and uncertainty with one-size-fits-all governance metrics as policymakers have tried to do. Attempting to cross-manage non-correlative assets minimizes the value of both resources as the reliability of price information is corrupted.
Welcome any questions.
Where does the absolute frontier between real risk and uncertainty go?
So you see risk and you hedged it with AIG but… how were you supposed that everyone was hedging with AIG because its triple-A rating provided capital requirement benefits?… would it then be that the uncertainty arose from bad regulations… if that is the case, then I would need to remind you that bad regulations looks currently more than a certainty…. You’ve got any hedge against Basel stupidity?
@ Per “Where does the absolute frontier between real risk and uncertainty go?”
Cash flow and product demand are the bright-lines. A bright-line rule (or bright-line test) is a clearly defined rule or standard, composed of objective factors, which leaves little or no room for varying interpretation.
Risky products have a measurable and foreseeable range of possible values that are determined by each value multiplied by its risk of occurrence. Risky enterprises are made up of knowns and unknowns. They either have conventional products (i.e., mortgages) with negative cash flow like Fannie Mae, or have positive cash flow with innovative products such as the Ford plug-in hybrid car with an indeterminate demand that is forecasted by modeling.
Products with unknown demand and unknown cash flow are uncertain. Innovative biotech companies that have a negative cash flow burn rate while awaiting FDA approval for pending patents or NINJA (No Income, No Job or Assets) Mortgage Backed Securities (MBSs) that are marked-to-model are examples of uncertain companies and products. Their products have unmeasurable and unforeseeable consequences resulting in randomness that is made up of unknowable unknowns.
Under my scheme no-money down, NINJA CDO would not be hedged because they were uncertain instruments. These investments would not have been rated AAA. As stated earlier to the Forensicstatistician, these investments were mischaracterize before they were mispriced. To protect your capital, you would have to buy an insurance contract on such investments.
In terms of “absolute frontier” I must say I do not find your explanation that crystal clear.
Of course the NINJA CDOs should not have been AAA rated… but it happened… and so was that wrong rating, a risk or an uncertainty?
You mention insurance but had not AIG received assistance all those insurances would not have been worth anything… where do we place counterparty risk? In the risk, or in the uncertainty category?
@ Per “In terms of “absolute frontier” I must say I do not find your explanation that crystal clear”
All that is required is to answer two simple questions:
1. There either “is” or “is not” cash flow, and
2. Demand is either determinate for conventional products or indeterminate for unconventional products. See the matrix in The Engine of Economic Growth
http://t.co/f1bISzK.
@ “where do we place counterparty risk? In the risk, or in the uncertainty category?”
Look to the bright-line discriminators not labels.
If there is cash flow with conventional product the counter-party has predictability.
If there is cash flow with unconventional product (CDO) the counter-party has risk.
If there is negative cash flow with a conventional product (small business loan) the counter-party has risk.
If there is negative cash flow with an unconventional product (CDO) the counter-party has uncertainty.
Small businesses determinate product demand provides a measurable risk profile that can be financed with bank debt. By comparison, entrepreneurial randomness contends with unmeasurable uncertainty as to product demand and cash flow that requires “slivers of equity” from venture capital financing. See http://t.co/f1bISzK.
Stephen
There’s quite a bit for me to get my head round. Will read through the article you reference and follow up, but give me a couple of days before I’ll get back to you!
I bought Knight’s Risk & Uncertainty a few years back. The concept was introduced to me on an OR course on my Masters. I liked the notion of it, but found the Knight text a bit turgid so never got in to it.
Black Swan was v. good though. Inspired me to study more about G.L.S. Shackle, but again, found it a bit dense.
Hopefully your work can help translate into something meaningful. Slowly, slowly catchy monkey.
Stephen
I just read Brenda Jupin’s review of your book and I’m sold:
“When uncertainty becomes risk, that’s learning or innovation; you have greater control over your underlying economic environment. On the other hand, when risk becomes uncertainty, there is either confusion (too much information), or ambiguity (too little information). Should the uncertainty become unstable . . . you have chaos.”
Just ordered my copy from Amazon!
Thank you. I welcome your questions.
@ forensicstatistician
Segmenting randomness brings effectiveness to capital market governance. We’re All Screwed (WAS) provides the subjects to Rumsfeld’s predicates for the randomness sentences of:
• Predictability is the known-knowns.
• Risk is the known-and-unknowns.
• Uncertainty is the unknown-unknowns
To bring market efficiency requires shift from 2D to 3D. See Regulatory Rubik’s Cube
http://www.sfomag.com/article.aspx?ID=1353&issueID=c
The legacy governance system for the US capital market is outdated. Renovation of the legacy governance system requires a 3-D evolution. The proposed “Regulatory Rubik’s Cube” is built upon proven market and mathematical decision metrics to uncover principles of governance rather than simply profiling patterns of governance. While it is currently fashionable to criticize regulators, rating agencies, Congress, Government Sponsored Enterprises (Fannie Mae and Freddie Mac) Wall Street etc., it is argued here that “governance goofs” are more attributable to systemic structural obsolescence rather than individual shortcomings. Much like a pilot who has 20/20 vision but lacks depth perception, policymakers using 2-D conventional oversight for a 3-D robust market will likely crash no matter how hard they try, or how smart they are.
Something to think about. How good is your advanced math? Need to fromulaically describe the integration of 4 orthogonal models and 14 3×3 matrices. Earle, Florida was correct in suggesting La Place transform.
• Predictability is the known-knowns… namely that credit rating agencies are human and therefore fallible
• Risk is the known-and-unknowns… namely that we never really know how often and how much and when the credit rating agencies become fallible
• Uncertainty is the unknown-unknowns… namely that who could have thought we would have such intrusive regulators that even when the banks already looked at the credit ratings to set their interest rates they also ordered the capital requirements for the banks to be set, in an arbitrary way, using exactly the same credit rating agencies.
@ Per: “in an arbitrary way, using exactly the same credit rating agencies”
You are taking things out of context. Read my comments in this blog. Where have I mentioned credit agencies? You are having a conversation with yourself.
My focus is on cash flow and product demand. Once again, all that is required is to answer two simple questions:
1. There either “is” or “is not” cash flow, and
2. Demand is either determinate for conventional products or indeterminate for unconventional products (market vs. model pricing)
@Stephen
My maths ain’t up to that sort of level these days, but I’ll try and keep up.
Quick question before I get deeper into this. Is the following assertion correct:
A Debt based financing structure is best applied in instances with known risk levels of future income streams (i.e. determinate demand)
Equity is safest for finanacing “uncertain” enterprises (e.g. entrepreneurship, as in no/negative initial cash flow and indeterminate demand)
@ forensicstatastician “Equity is safest for finanacing “uncertain” enterprises (e.g. entrepreneurship, as in no/negative initial cash flow and indeterminate demand).”
YES!
Major problem in financing entrepreneurs is their need for “slivers of equity (< $25 million)". Wall St. better-suited for larger funding that turns entrepreneurs into corprocrats.
Subprime faced similar problem where indeterminate demand is a proxy for mark-to-model and no-money down, NINJA CDOs are uncertain instruments. They cannot be hedged. When viewed in such light, they cannot be rated AAA
But much of today's capital market problems stems from errors of conflation due to a lack of a practitioner's perspective. We focus on the aggregating labels (i.e. rating agencies) rather than the inputs of what they are rating. Without consumer (and speculator) pushback, industry group-think becomes systemic problem regardless of TBTF intermediaries. This is why I believe TRTR to be more effective and efficient governance standard (other is TBTF can be contracted-around __ Coase).
@Stephen
I think my Google translate isn’t quite working! Let me go one step at a time:
“Wall St. better-suited for larger funding that turns entrepreneurs into corprocrats. Subprime faced similar problem where indeterminate demand is a proxy for mark-to-model and no-money down, NINJA CDOs are uncertain instruments. They cannot be hedged. When viewed in such light, they cannot be rated AAA”.
Totally agree.
The reason I raise the question about Debt vs Equity is that I have grave concerns that debt (without ability to default) is being excessively pushed.
See the section in here from “The evidence of Collective Punishment” onwards:
http://golemxiv-credo.blogspot.com/2011/03/guest-post-by-hawkeye-crime-and.html
See also:
http://forensicstatistician.wordpress.com/2011/02/11/crime-and-collective-punishment/
Think of this as the macro level strategy for furthering wealth concentration (especially effective when pay-off prospects from “entrepreneurial activity” is known to be low, by the lender, but not the borrower).
In the likely circumstances of limited real growth prospects for our economy (owing to resource limits), debt could be little more than the perfect method for annexing what remains of a finite supply of essential economic resources. If the world were really on the cusp of future miracles in growth, then why wouldn’t the power elite take an equity stake in our future, such that they could share in the rewards?
@Stephen
“TBTF can be contracted-around __ Coase)”
Think I’m with you here. Coase “Theory of the firm”?
Do you then agree with this assertion then:
– It is not the size or structure of banking (i.e. Retail v. Investment) that is at issue, but the way that banking institutions operate.
Therefore, the efforts of the Vickers Commission are not addressing some fundamentals here. For instance:
“Securitisation actually transcends Retail & Investment banking, as stated in my ICB Submission. The retail arm “Originates” the loan in the first place before selling on to the Investment arm. Therefore, they are de facto engaging in Securitisation! It is not the institutional form of banking that matters, but the monetary functions of banks.”
http://forensicstatistician.wordpress.com/2011/04/11/its-the-credit-creation-stupid/
@ forensicstatistician 1
The reason I raise the question about Debt vs Equity is that I have grave concerns that debt (without ability to default) is being excessively pushed.
SAB: At an early stage of development there debt can be view as senior equity.
See Meshulam Riklis and Michael Miliken re creation of the Rapid-American Corporation
See the section in here from “The evidence of Collective Punishment” onwards:
http://golemxiv-credo.blogspot.com/2011/03/guest-post-by-hawkeye-crime-and.html
See also:
http://forensicstatistician.wordpress.com/2011/02/11/crime-and-collective-punishment/
SAB: need to distinguish governance from rule writing WAS p.51-52
Think of this as the macro level strategy for furthering wealth concentration (especially effective when pay-off prospects from “entrepreneurial activity” is known to be low, by the lender, but not the borrower).
SAB: Agreed. See Create wealth, jobs will follow
http://www.aikenstandard.com/Letters/shandle-letter
In the likely circumstances of limited real growth prospects for our economy (owing to resource limits), debt could be little more than the perfect method for annexing what remains of a finite supply of essential economic resources. If the world were really on the cusp of future miracles in growth, then why wouldn’t the power elite take an equity stake in our future, such that they could share in the rewards?
SAB: See Entrepreneur Exchange (EntEX) in “Small is Beautiful”, The National Interest, No. 77 – Fall 2004. http://www.findarticles.com/p/articles/mi_m2751/is_77/ai_n6353167/print
@Stephen
Thanks for the feedback and the reference material. Hard copy of WAS is on it’s way from Chicago to UK, so might be a week or so before I get hold of it.
I may also have limited time to get on Internet next week, so apologies in advance for any radio silence.
Will either follow up on this thread in near future, or drop you a line via email. Also, any comments or feedback on the forensicstatistician website is welcome.
Cheers for your help!
forensicstatistician 2
“TBTF can be contracted-around __ Coase)”
Think I’m with you here. Coase “Theory of the firm”?
Do you then agree with this assertion then: – It is not the size or structure of banking (i.e. Retail v. Investment) that is at issue, but the way that banking institutions operate.
SAB: Agreed. Banks were following the commercial genetics. For banks, it was a supply (demand for investors) problem of having enough AAA paper required by aging boomers. Qualitative problems were already discussed.
Therefore, the efforts of the Vickers Commission are not addressing some fundamentals here.
SAB: Similarly for those (Dr. Johnson) that focused on static scale as discriminator.
For instance: “Securitisation actually transcends Retail & Investment banking, as stated in my ICB Submission. The retail arm “Originates” the loan in the first place before selling on to the Investment arm. Therefore, they are de facto engaging in Securitisation! It is not the institutional form of banking that matters, but the monetary functions of banks.”
http://forensicstatistician.wordpress.com/2011/04/11/its-the-credit-creation-stupid/
Agreed: This focus is where I disagreed with Per Kurowski and with the Could Goldman Sachs Fail? Post. The assets walk home every night in the financial intermediary. The people that process the business (so-called rainmakers aka banksters) are where the value is created.
Could Goldman Sachs Fail? YES! But the more important question is WHO CARES. The talented will find alternative career paths in the industry, the non-talented will find alternative career paths elsewhere and will be better off for it.
http://www.consumerfinance.gov/
http://www.consumerfinance.gov/blog/
The Consumer Financial Protection Bureau
Stephen
I’m still waiting for WAS. In the meantime here is a short summary of the key points as I understand it:
http://forensicstatistician.files.wordpress.com/2011/04/risk-and-uncertainty-fs.doc
Have I defined the terms correctly, and sketched out the optimal financing structure right?
@ forensicstatistician
Cash flow is the core of analysis for intermediary lending and investing. Less puffery.
Clarification
2 (a). Demand for physical products that are either determinate for conventional products or indeterminate for unconventional products. SEE: The Engine of Economic Growth, http://t.co/f1bISzK
Clarification 2 (b). Demand for market products that are either valued on a mark-to-model or mark-to-model valuation, see Best Fit for Best Practice Governance
http://www.sfomag.com/article.aspx?ID=1281&issueID=c
Send me an email contact through your blog in order that I may better respond.
It also supports response to today’s The Baseline Scenario $3 Billion Banks blog as to
If you want change, you must be prepared for real change by addressing effectiveness issues. Trying to make a broke system more efficient merely exacerbates the process. The so-called banksters will win the definitional war as to what vapor assets define capital. It is not TBTF accounting scale but TRTR (too-random-to regulate) operational scale that is the independent variable.