By James Kwak
A few years ago, while still in law school, I was invited to write a chapter for a Tobin Project book on regulatory capture. It was a bit intimidating, being part of a project that included luminaries like David Moss, Dan Carpenter, Luigi Zingales, Richard Posner, Tino Cuellar, and the deans of two of the best law schools in the country. I was asked to write something about an idea that I had slipped into 13 Bankers, almost in passing, about the cultural prestige of the financial industry and the political and regulatory benefits the industry derived from that prestige. My chapter turned into a discussion of the various mechanisms by which status and social networks can influence regulators, creating the equivalent of regulatory capture even without traditional materialist incentives (cash under the table, promises of future jobs, etc.).
Two weeks ago, an investigation by ProPublica and This American Life illustrated the culture of deference, risk aversion, and general sucking-upitude among New York Fed bank examiners that effectively resulted in the capture of regulators by the banks they were supposed to be regulating. As David Beim wrote in a confidential report about the New York Fed, the core problem was “what the culture expected of people and what the culture induced people to do.”
I wrote about the story for the Atlantic and referred to my book chapter, but at the time the chapter was not available for free on the Internet (at least not legally). The good people at the Tobin Project have since put it up on the book’s website, from which you can download it (legally!). Note that they are only allowed to put up one chapter at a time and they rotate them, so this is a limited-time offer.
By James Kwak
I wrote a column that went up this morning at The Atlantic about the ProPublica/This American Life story about the New York Fed. The gist of the argument is that we all knew the New York Fed was captured; for people like Tim Geithner, that’s a feature, not a bug.
There was a paragraph in my original draft that I really liked, but I can completely understand why the editors didn’t want it:
“When Tyrion Lannister wants his son killed, he sentences him to death in public. When Avon Barksdale wants potential incriminating witnesses killed, he obliquely lets his lieutenant know that he’s worried about loose ends—because he doesn’t want his fingerprints (voiceprints, actually) visible. When senior New York Fed officials want their staff to go easy on Goldman Sachs—well, they don’t need to lift a finger. The institutional culture takes care of it for them.”
This is similar to the idea at the core of “The Quiet Coup,” the Atlantic article that had a million page views back in 2009. In a less well developed political system, rich businessmen buy favorable policy by passing money under the table (or hiring politicians’ relatives, or giving them loans and then letting them default, and so on). In the United States, for the most part, you don’t have to do anything illegal: the system takes care of it for you, whether it’s bailout money from the Treasury Department or regulatory forbearance from the New York Fed. That system is a combination of personal incentives, cultural capture, and institutional sclerosis.
In short, buying politicians (or regulators) is good. Not having to buy them in the first place is even better.
By James Kwak
I’ve joined a new collection on Medium devoted to business and finance writing. It’s called “Bull Market,” after an intense lobbying campaign (including alleged vote-buying, although I haven’t tried to collect) by Felix Salmon, and includes Felix, Mark Buchanan, Dan Davies, Alexis Goldstein, Francine McKenna, Evan Soltas, and Mark Stein. The goal is to write thoughtful articles that don’t just respond to the latest story on the wire (although there will be some of that, too).
My contribution for today is a post about the no-poaching lawsuit in Silicon Valley and what it says about class consciousness in America today.
I hope you enjoy the collection.
By James Kwak
You may have noticed that my blogging has tailed way off over the past few months—to, well, just about nothing. You probably noticed that it was pretty spotty for a long time before that. The main reason is that I’ve been busy with a new teaching job, which requires some effort on academic publications, and raising two small children. The other major factor is that I often just find I don’t have much that’s original to say. Financial regulation is a pretty heavily covered field, and I don’t have the time to be a real expert on, say, derivatives clearinghouses, and—believe it or not—I generally try to avoid posting if I don’t have something new to add. I tried to get back into the flow in the spring semester, when I was only teaching one class, and that worked for a while. But at the beginning of the summer I started doing some part-time consulting for my old company (I’m on unpaid leave from my law school this semester), and that’s made it impossible to keep up with the news, much less write something interesting about it.
That said, I still like to write. I’ve started posting occasionally on Medium, which I like both for the gorgeous interface and because it isn’t organized as a reverse-chronological list—which means that I don’t have to worry as much about saying something newsworthy before the moment passes. This week I wrote about playing Minecraft with my daughter (OK, it’s mainly about the Microsoft acquisition) and one of my favorite topics, why megabanks run on bad software.
I don’t know how long I’ll be keeping this up, but in the meantime my plan is to write an occasional post here summarizing things that I write on Medium or elsewhere on the web. As usual, I’ll also post new articles to Twitter more or less immediately after publishing them.
Thanks for reading.
By James Kwak
That’s one of the subplots of Big Money, by Politico reporter Kenneth Vogel, a book that I reviewed for yesterday’s issue of the New York Times Book Review. You can read that review, so I won’t re-review it here, except to say that if you were wondering how political operatives get rich people to part with their money, you’ll find out here.
By James Kwak
In an earlier paper (blog post here), I argued that corporate political contributions can in many cases be challenged by shareholders as conflicted transactions that further insiders’ personal interests (e.g., lower individual income taxes) rather than the best interests of the corporation. The argument (to simplify) was that if a political contribution is in the CEO’s individual interests, the resulting conflict of interest should make the business judgment rule inapplicable, placing on the CEO the burden of proving that the contribution was actually in the best interests of the corporation.
In a new paper, law professor Joseph Leahy has outlined a new theory under which shareholders can contest corporate political contributions. He argues that such contributions in many cases will constitute bad faith, since they have a motivation other than serving the best interests of the corporation. This line of reasoning exploits the vagueness of the concept of good faith as it has been established by the Delaware courts in Disney (the case over Michael Ovitz’s $140 million severance package) and later cases. Of course, that is only what the Delaware courts deserve for making such a hash out of the concept. In effect, they first said that any action not motivated by the best interests of the corporation constitutes bad faith, but then in specific cases tried to absolve any actual board of directors of ever actually acting in bad faith.
It is far from clear that a lawsuit brought on these grounds would have much chance of success in court. But by the letter of the case law, they should have a chance. And the more that plaintiffs contest corporate political contributions, the more likely it is that companies will decide that they aren’t worth the trouble. Or, even better, they will decide that they should only make contributions that are actually good for the bottom line and for shareholders—which is the way things should be.
By James Kwak
I think some people didn’t understand the point I was making about the question of whether the government made money on TARP in my earlier post. Summers said, “The government got back substantially more money than it invested.” This is true, at least if you give him some slack on the word “substantially.” The money repaid, including interest on preferred stock and sales of common stock, exceeded the money invested.
My point begins with the observation that, as of late last year, the government had earned an annual return of less than 0.5%. My point itself is that it is silly to evaluate an investment by whether or not it has a positive return in nominal terms. You can only meaningfully evaluate an investment by comparing it to some benchmark. Saying that a nominal return of 0.5% is greater than 0% is meaningless, since the 0% benchmark is meaningless. Most obviously, it doesn’t account for inflation; since inflation has been about 1–2%, the government lost money in real terms.