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I told you so
Not me, Brooksley Born. She gave "The Warning" in the late 90's that credit derivatives were dangerous and needed to be regulated. Tonight on PBS, Frontline tells the whole sordid story.
Born ran the Commodity Futures Trading Commission (CFTC) for three years during the Clinton administration. She was a long-time securities lawyer who specialized in derivatives, so she knew her stuff. Actually, Born was in the running for Attorney General, only to lose out to Janet Reno.
But Clinton's Financial Markets team didn't think Born was so sharp. They fought her bitterly to prevent regulation of derivatives, and they won:
"I walk into Brooksley's office one day; the blood has drained from her face," says Michael Greenberger, a former top official at the CFTC who worked closely with Born. "She's hanging up the telephone; she says to me: 'That was [former Assistant Treasury Secretary] Larry Summers. He says, "You're going to cause the worst financial crisis since the end of World War II."... [He says he has] 13 bankers in his office who informed him of this. Stop, right away. No more.'"
All I can say is, BLEEP.
Well, Summers was right about one thing. The worst financial crisis since World War II was coming. I wonder if his powers of prediction got him his current job as head of President Obama's National Economic Council.
Derivatives regulation is in the Congressional pipeline right now, but the current CFTC says the bill has loopholes.
And Born has another warning:
"It'll happen again if we don't take the appropriate steps. There will be significant financial downturns and disasters attributed to this regulatory gap over and over until we learn from experience."
Watch clips from "The Warning" at Frontline's website. It airs at 9 pm ET on PBS stations. Tonight on Marketplace, the documentary's producer, Michael Kirk, will give us a sneak preview.
If you'd like to better understand derivatives, here's a brief, easy to comprehend tutorial from Whiteboard master, Paddy Hirsch:
Derivatives from Marketplace on Vimeo.
A lot of people were saying that derivatives were a major threat to the economic system.
People who really understand how derivatives work understand the threat. The problem is that they're complex enough that most people really don't understand how dangerous they can be. So, they assume anyone who questions the status quo is a "conspiracy nut."
A lot of people were saying that derivatives were a major threat to the economic system.
People who really understand how derivatives work understand the threat. The problem is that they're complex enough that most people really don't understand how dangerous they can be. So, they assume anyone who questions the status quo is a "conspiracy nut."
It's hard to believe that people like Summers get promoted to the highest positions in the land.
I just heard a podcast about that very topic. It comes from a different angle, but it answers are still the same. The cost of risk, credit is too low and therefore people take on more risk for more money.
http://www.econtalk.org/archives/2009/10/gary_stern_on_t.html
There is a polemic here which I find disturbing. The show is clearly a call for more regulation suggesting that the unregulated derivatives markets caused the current crisis.
Derivatives may have exacerbated the problem but they surely didn’t create the toxic assets which caused the collapse. A little more scrutiny of Fannie Mae and Freddie Mac would have provided a more balanced piece.
But that us exactly the point. The fact that the derivatives allow them to at first hedge against the risk of the toxic assets made them more palatable. Would someone spend $100,000 on a sports car that they might crash next week if they could not insure against it? Some people probably would, but the derivative makes the car more accessible. Later on, these derivatives became casino bets on these toxic assets. So now I can buy insurance in case you crash your sports car. Of course that is assuming the insurer has enough capital set aside to pay off my claim. OH WAIT! It’s ALL unregulated! They don’t need to! UH OH!
Yeah, that's pretty much what happened. They turned the whole thing into a casino and passed off funds full of these things as AA rated, which of course attracted money from important things like pension funds. Only the ratings were bogus.
Bah, ufangle computers.. The link is
<a href="http://www.econtalk.org/archives/2009/10/gary_stern_on_t.html">here</a>
how many FTD's are debt obligations as the SEC allows "securities entitlements" to exist in place of delivery? How much FTD debt is buried within the derivatives market?
http://www.sec.gov/news/speech/2007/spch043007psa.htm
“I can't leave the topic of "fails" without touching on one more highly important issue currently facing the Commission. This goes back to the meaning of "fail" as a noun. The SEC has recently been involved in a very proactive (some might even say prudential) exercise with respect to the issue of fails in the OTC derivatives markets. In response to reports of widespread documentation problems in those markets, the SEC has joined forces with other regulators, most notably the Federal Reserve Board and Britain's FSA, to encourage OTC market participants to clean up years of incomplete and inaccurate trade documentation. The need to act was clear. From all reports, the backlog of unconfirmed trades, which essentially are fails, and the widespread and unchecked use of novations in the credit derivatives markets had crippled risk management efforts and set the stage for a massive meltdown in certain default scenarios. Given the multi-trillion dollar aggregate notional amounts of the contracts involved, it was easy to see that the OTC derivatives dealers and their counterparties had created an operational problem similar in scope to the late 1960's back-office crisis on Wall Street.â€
