The Financial Crisis Inquiry Commission: Ready For A Breakthrough

The Financial Crisis Inquiry Commission (FCIC) holds its first public session on Wednesday.  When the FCIC was established in May, the prevailing wisdom was that the hearings and final report would be dry and rather inconclusive.

But the debate around Big Banks has started to shifted markedly, particularly in recent weeks.  Anger about bonuses is increasingly expressed by the most mild-mannered policy experts.  The administration itself is proposing some sort of excess profits tax on the biggest banks.  And – most important – our top bankers have their tin ears prominently on display.

In the Daily Beast, I suggest exactly how the Commission can put this moment to productive use.  The point is to find for rather dull and difficult technical material to become names, dates, and numbers that catch the popular imagination – and provide a genuine warning.  The most obvious and reasonable way to do this is by drilling down into the details of the Wall Street compensation system, then and now – the more you dig, the more you understand why we are heading for trouble.

By Simon Johnson

25 responses to “The Financial Crisis Inquiry Commission: Ready For A Breakthrough

  1. Simon, I find it particularly stunning that there has been no airing of all of the dirty laundry cluttering the financial community both pre- and post-crash (which also may be pre-second crash), save for the meager amount you find in non-mainstream media (ala Matt Taibi, David Corn, and a few in Huffington, and I don’t want to forget to credit PBS, especially Bill Moyers). It’s time we had open public hearings, or fora, if you prefer, wherein the experts get to quiz the participants — that is, I don’t want Congress (who have been paid off) to ask the tough questions and require documentation, but financial and economic experts from beyond Washington AND Wall Street. It’s high time the tough questions got asked and details were delivered for all to see and hear.

  2. This is their theater; we are just moderately engaged spectators. If we want a different show we’ll either have to buy our own theater or burn this one down and rebuild.

  3. Simon you may be looking in the wrong closet if you want to expose today’s financial-political devil. The devil is not the reincarnated Ponzi’s like Blankfein. It is the well-intended fools programming financial software that is enabling the Blankfeins, the Dodds, and the Schumers to work today’s scandal.

    What the Information Revolution needs to relearn from the Industrial Revolution is record-keeping.

    During the industrial revolution double-entry book-keeping made great strides forward in order to bring a plethora of financial facts to light in a short enough time cycle to enable the huge industrial coalitions to prosper.

    Prior to Industrial book-keeping, the book-keeper balanced the books once a year, if that. Technology — developments in thermodynamics and algebra — refined into practice a method of balancing the books quarterly.

    When Information’s Revolution came into being with the microprocessor, industrial grade book-keeping never made it into microprocessor software. If it had we would be balancing our books daily.

    Most business software is being written by programmers that use technology refined into practice during the Middle Ages. And they are not even doing that technology correctly.

    Opaque and corrupt data is the culprit that must be exposed before the financial-political abuse can be taken on. Just as The Industrialist needed clear and concise records to build a revolution, Information Technology needs clear and concise records to rein in today’s scandals.

    Taking bankers and politicians head on, without technology that exposes how these enormous sums of illicit gains are being engineered is foolhardy.

    We — the community of gripers — need to align our facts first; we don’t yet have those facts in order.

  4. The person who has the best chance of saving the Republican Party is Barak Obama. The president campaigned on change. He clearly stated that he was not going to allow big business to own and run Washington. If the health care proposal that is moving through congress is his version of change, the citizens of this great country are going to realize what he meant was “chump change”.

    When he and his fellow democrats said more competition is needed in the health insurance industry, what did they do? They came up with the idea of a public option. The essence of the option was to create a not-for-profit health insurance company run by the federal government. They refused to tackle the oligopolistic prone health insurance industry. One of the pillars that made this country and its citizens the most prosperous in the world is the free market system called capitalism. Capitalism is under attack from within the business community and our government refuses to do anything about it.

    With Barak Obama’s refusal to bring about the change he promised by weakening the strangle hold oligopolistic industries have on our “free markets” he is giving the republicans the opportunity to rise from their terminal illness. The citizen is losing his right to access the free market and it is being taken away from them because the oligopolies have bought our politicians including Barak Obama.

    Adam Smith when he discussed “rational self interest” and competitive markets in his book Wealth of Nations, envisioned many consumers buying goods and services from many producers with everyone looking out for their self-interest. By keeping markets “free”, producers pursue their rational self-interest and this best meets the needs of the consumers and the citizens of our country, who are also looking out for their self-interest. Under this system, what is in the producers self interest is to provide the best product possible to the consumer, while striving to be a low cost producer for their niche. If they do not, they will perish.

    This consolidation of markets began in the late 1960’s early 1970’s in the auto industry when three giant corporations and one union transformed it from a free market to an industry that was controlled by these entities. As this transformation was occurring, the auto company’s and auto union’s self-interest became separated from what the consumer wanted and/or needed. Competition between the companies broke down and this gave an opening for foreign competition to enter our markets and the beginning of the end of the American auto industry as we knew it.

    Other industries saw what was happening in the auto industry and saw that government was not objecting so naturally they followed the same path with little concern on any ones part that we were losing our free market system to a more centralized market system of oligopolies. As a result, we now have major markets where the producing entities self-interest is not always in line with the self-interest of the consumer. What is in the self-interest of the entities in these industries is to keep the oligopoly alive. Thus, this was the creation of special interests and lobbyists.

    These oligopolies have bought the protection of our representatives in Washington and state capitals. I am baffled by the fact that corporations and unions cannot vote in this country, however they are allowed to buy votes with their contributions.

    We lost track of a key ingredient that Adam Smith identified as necessary in order for “rational self interest” to work. There must be many producers. In too many industries, the number of producers has shrunk and the ones remaining have gotten “too big to fail”. This is true in the auto industry, the banking industry, Wall Street, health care and will soon be true in the computer software industry.

    In the end, the republicans may be thanking Barak Obama for providing them a bailout package called the free market.

  5. “The citizen is losing his right to access the free market and it is being taken away from them because the oligopolies have bought our politicians including Barak Obama.”

    Are you saying that the President has been bought? This is a very serious accusation. Do you have any evidence? I find this bald statement unbelievable. Please state your bases for this accusation.

  6. Does the FCIC have someone like Ferdinand Pecora?

  7. Succinct, yet painfully accurate. Thanks Billy.

  8. We don’t have a free market, particularly from the Adam Smith point of view. That’s why deregulation like removal of Glass-Steagal didn’t result in a more competitive market for consumers. Instead it brings us crash after crash, with the money supply further and further concentrated in the hands of a few elites.

  9. He’s just like the rest of them:

    http://www.usatoday.com/news/politics/election2008/2008-04-15-obama_N.htm

    http://www.boston.com/news/nation/articles/2007/08/09/pacs_and_lobbyists_aided_obamas_rise/

    …and many more if you simply Google.

    PLEASE don’t make the mistake of thinking ANYONE in DC today isn’t bought and paid for by private corporate interests. They buy everyone, everytime.

  10. I think investment banking really is becoming dysfunctional. It’s been corrupt for years and years, but the corruption is now leading to out and out dysfunction. Did you read about the deal with Gundlach and TCW???? That’s just weird.

    It reminded me of Thain and his expensive office trash can. You know if you get in a situation where your trash can has to be “Gucci” you got mental problems, I’m sorry.

    And Blankfein making little jokes about World War II and Omaha Beach or something (forgot the exact quote)??? Does he remember what group of people the Americans liberated from the camps in that war??? Then he wants to make some ironic crack about it?? You know it’s not appropriate to make jokes when your country is in shambles because you were trying to increase your profit margins.

  11. I’m curious, does it seem implausible to you that software systems that ought to be enabling a proper business standard is in fact enabling the weird patterns you are pointing to.

    Don’t let looking into software systems scare you. When programming a book-keeping framework that supports an honest accounting strategy, the methods themselves are no different than they were when the work was done on paper. Because many among us do not understand software’s codes we sucked into not forcing an investigation into these programs and report just what is going on; what is being enabled by these codes.

    Tell me of a better place to look for the cause of the crazies if you know of one.

  12. I’m not sure if you’re asking me…. I think computers play a part–but NOT because of the code. Computers are used a lot for the computation of complex derivatives and also to take advantage of asymmetric information (the investment banks get information before retail investors do, also they execute trades super fast to get that small gap in price, maybe just a quarter point or something). The computers and code is just a tool.

    The people who program (or the people who pay the people to put the code in) are the problem. They have corrupt character due to the nature and culture they immerse themselves in at the investment banks.

  13. I’m encouraging you to focus on the guardians of truth: accountants, auditors, financial officers, economists, and lawyers. Persons who are paid to honor a fiduciary responsibility to create truthful reports. My experience is that its this group of stakeholders that has been dumbed down by record-keeping that is coded into software.

    Awhile back there was this typical example story in the NY Times:
    http://www.nytimes.com/2008/11/02/business/02global.html?pagewanted=all

    I followed the story to the point of reading the legal briefs of the impending lawsuit that the scandal generated.

    The lack of understanding of principles of double-entry book-keeping that date back to the middle ages are the primary cause of the grief that these small town school administrators got themselves into.

    To a person like myself, the pattern occurs everyplace I look. Wherever I bring up the topic with others, there is disinterest because most persons believe it is not there duty.

    I got into this crusade accidentally by understanding the book-keeping framework when I bought my first computer in 1979. The book-keeping|accounting relationship that was bad from the beginning got progressively worse as software’s technology got more advanced.

    The madness being generated is not going to go away until interested community members, like Simon and James, begin to take the quality of data encoded into software seriously.

    You seem like an exceptional candidate to share this with. What is needed is a major investigation of a no blame topic. Everybody is getting it wrong. It needs to be fixed.

  14. If you can give me a specific example of a certain program that does this it would help. Or give me some links of examples of stories where the program/code was purposely deceptive. If you give me some solid info, I’ll research it and make it into a post on my site. I have almost zero traffic on my site, but at least it will be there for people to read.

    I think technology sometimes makes us lazy to acquire REAL knowledge. Like the kid who doesn’t learn the math equation because he can plug it into his calculator and get the answer in seconds, but he doesn’t understand what he did or the relationships of the equation. But that is a problem of human nature, not the code in the calculator.

    But I believe there is something very legitimate in what you are saying, and if you can point me in the right direction, I’ll try to compile a little essay and let more people know.

  15. Ted Said: “If you can give me a specific example of a certain program that does this it would help.”

    The problem is much greater than ‘a program’ or ‘programs’. The problem is technology that was poorly translated from paper driven systems to software driven systems. Book-keeping is unique in that its rules of order are largely intuitive. In paper systems, once a person is trained in data entry, the rules that they follow intuitively control the outcome.

    Once the rules are programmed into software, however, the effectiveness of the rules — the degree to which they are proven to be true — is only as good as the code is proven to be true.

    Let me tell this in story form. “I hired ‘Brigid’ to work on a book-keeping project. She knew that her 82 year old grandmother had been a boo-keeper, so she call ‘Grandma’ with the news. Grandma’s reply: “Don’t worry Brigid double-entry book-keeping is just common sense.” And so it is.

    A computer program that has common sense does not yet exist. When I programmed my first prototype of the data model that I learned at GE, 50+ years ago, I wrote and adjusted the code every day. We were using a retail store that my daughter was running as our model application. After 9 years of that, I had a book-keeping framework that would run her store with a full cost accounting.

    What I wanted was a universal framework that would run any business. That was another 9 years of work. Once the universal framework — covering Grandma’s intuition — was in place, there still needs to be an accounting strategy programmed to run subject to the universal book-keeping framework of rules I had programmed.

    The good news is that the Lisp programming language exists and is the only language that would support Grandma’s intuition. I was able to create the store’s program only because I had stumbled upon a spreadsheet and database program in the 1980s named ‘Framework’ that was written in a dialect of Lisp.

    Ted Said: “Or give me some links of examples of stories where the program/code was purposely deceptive.”

    There is nothing purposefully deceptive in this story. What’s regrettable is technology that fell through the cracks in the rush to the gold, over the past thirty years. Most accounting software was written in the absence of a proper framework of rules. As such, it is not ‘double-entry’ in the sense of double-entry’s 670 year tradition of checks and balances.

    It is at best a single entry system, even though the system makes two entries, those entries are not doing the traditional proof that ‘Grandma’ looked after 50 years ago.

    Ted Said: “I think technology sometimes makes us lazy to acquire REAL knowledge. Like the kid who doesn’t learn the math equation because he can plug it into his calculator and get the answer in seconds, but he doesn’t understand what he did or the relationships of the equation. But that is a problem of human nature, not the code in the calculator.”

    This is a fair analogy, if it is interpreted as the software developer who codes a quick and dirty accounting application that assumes that someone up the daisy chain will make sure it is made to follow the proper rules. It never is, because the financial services industry does not understand double-entry book-keeping.

    I have two daughter working for companies specializing in legacy accounting systems. There is no evidence of a proper book-keeping going on in either of their places of employment.

  16. Interesting suggestion Bayard, and outstanding commentary sbanicki.

    We swim in an ocean of lies. Of course all our socalled leaders are (“bought” and controlled, ‘purchased’ if you will notabanker by the most powerful and wealthy oligarchs. Finance, defense, intelligence, private military, and private intelligence, oil and energy, insurance, and pharmacueticals oligarchs own and control our socalled leaders including Obama and so our government.

    We do not hazard and endure a system based on the principles of capitalism and freemarkets, – we hazard and endure bandit capitalism, and oligarchy.

    If all these mastersoftheuniverse are so brilliant, – why are they so resistant to disclosure of their practices, proceedures, communications, and books?

    We swim an in ocean of lies. If we begin the process of untangling these complex webs of lies, the socalled mastersoftheuniverse we be revealed as neither brilliant, nor exceptional, – but as frauds and criminals bruting ponzi schemes, bribing government officials and regulatory agencies, and evading taxes by funnelling trillions of the peoples dollars into offshore accounts.

  17. Re: “And Blankfein making little jokes about World War II and Omaha Beach or something (forgot the exact quote)???”

    I think you are misremembering what he said. In response to some lower-level employee saying “”I don’t think I can take another day of this,” Blankfein said “You’re getting out of a Mercedes to go to the New York Federal Reserve. You’re not getting out of a Higgins boat on Omaha Beach,” which suggests a greater sense of perspective than you’re crediting him with.

  18. You really do need to single out software so people can have examples of the flaws to compare proper double entry accounting to. Avoiding that and instead imparting a parable will not help the scientific kind of mind that can build software that a) uses proper double entry accounting and b) forces the user to understand what’s going on and check the results. We need hard evidence of the wrong way to do it and the right way to do it.

    If you don’t have such evidence yet, then it would probably do everyone a great favor to use your insight and dig up that evidence.

  19. Pardon the double post, but for clarity – I meant to say (“If we begin the process of untangling these complex webs of lies, the socalled mastersoftheuniverse we be revealed as neither brilliant, nor exceptional, – but as frauds and criminals bruting ponzi schemes, bribing government officials and regulatory agencies, and evading taxes by funnelling trillions of the peoples dollars into offshore accounts {of the predatorclass}!!

  20. I find many posts extremely informative, even those that embellish with opinions and character assassinations. I note that Simon and James make their points without gratuitous and unsubstantiated accusations which only serve to cheapen otherwise intelligent comment. I hold no brief for any person. Would it not be better to avoid unprovable claims and stick to rational thought? Such inclusions devalue postings on the Baseline Scenario.

  21. Ted Said: “You really do need to single out software so people can have examples of the flaws to compare proper double entry accounting to.”

    Since I have been working on this project for thirty years, I have heard this point many times. When did not have an answer, as a practical person, I refined the argument by creating the a programmed model that works.

    Normally, I would spend time fulfilling your advice. Life is no longer normal. And double-entry book-keeping is at the heart of the problem. I have a therefore a suggestion.

    In science, new information is traditionally worked out by a community of interested scientists. Book-keeping, for centuries, had such a community, albeit, as a folk-science community, since it has never been an accepted member of legitimate science. Software killed the community of book-keepers. The language is lost. The task at hand is to create the community that will bring the language back to life.

    Consider two examples: I believe I read that you have a law degree. Book-keeping’s reason for being, for 670 years, is to record a clear and reusable history. No nation can have a constitutional government without a tracking of its daily history of events in a way that is reusable. The bulk of today’s scandal is the inability to bring the facts to light is a time period that would enable such facts to do their job. A lawyer without accountable facts is impotent.

    Second example: I suspect that many contributors to this forum have degrees in mathematics. Gödel proved in 1930 that mathematics is an incomplete system. Alan Turing proved the same fact using an ideal machine, Alonzo Church proved it using algorithms. These proofs have been sitting idle for 80 years. Such proof begs the question that if mathematics is an incomplete system, what does mathematics need to become whole: to become a party to a complete system?

    Gödel’s proof was motivated by the inability of mathematics to solve a category of problems called “the decision problem.” Accounting is a classic decision problem.

    Therefore, a plausible answer to Gödel’s proof is that what mathematics needs to become whole is a control language typical of double-entry book-keeping. What book-keeping does that math cannot do for itself is to maintain a real time physical model along with an intellectual compilation of changes as they occur in real time.

    The physical model is typical of assets; the intellectual compilation is typical of liability, where liability is an accounting of who owns what interest in the entity’s assets.

    The job at hand it to build a community that integrates complementary interests. This forum is as likely a place to begin as any place that I know of.

    Ted Said: “We need hard evidence of the wrong way to do it and the right way to do it.”

    Ted I live in a scientific town. I’m in conversation with scientists every day. They appreciate my efforts but are all busy bees on their own scientific focus of interest. If hard evidence would do the job that needs to be done I would accomplish it right here in my home town.

    The issue, as this forum proves, day after day, is ideological. The problem at hand needs a passionate community of interested persons. The law, book-keeping, and mathematics are three disciplines that must come together on a forum of this design.

    The solution can begin by studying the wisdom of math persons — economists — playing with numbers that clearly have no basis in reality, since no physical model is being created. If economists had the numbers correct and complete, we would not be in the trouble we are in today. The law is no longer the law. We are ruled, today, by laws that make Madoff look like an angel.

    I will leave you with this quote, which is the final paragraph of Thomas Kuhn’s Structure of Scientific Revolutions:
    “About all of these features of science there is a great deal more to be learned. Having opened this postscript by emphasizing the need to study the community structure of science, I shall close by underscoring the need for similar and, above all, for comparative study of the corresponding communities in other fields. How does one elect and how is one elected to membership in a particular community, scientific or not? What is the process and what are the stages of socialization to the group? What does the group collectively see as its goals; what deviations, individual or collective, will it tolerate; and how does it control the impermissible aberration? A fuller understanding of science will depend on answers to other sorts of questions as well, but there is no area in which more work is so badly needed. Scientific knowledge, like language, is intrinsically the common property of a group or else nothing at all. To understand [knowledge] we shall need to know the special characteristics of the groups that create and use [language].”

  22. Your point is a good one. My apologies. I still hate Blankfein’s guts though.