We continue our lateblogging of the Federalist Society’s 2009 National Lawyers Convention. The conversations at the conference are always interesting. As far as we’re concerned, this has to be one of the most painless ways to rack up CLE credits.
Here’s the next panel discussion that we attended:
Regulation of Financial Institutions
A quick and dirty write-up, after the jump.
Dean Paul Mahoney, UVA
The financial crisis was not caused by overly lax regulation, but by misguided monetary policy. The Fed continued to ease, even in 2002-2003, when historical models would have suggested tightening. This contributed to the housing boom.
Low short-term interest rates + Increasing asset prices = Increased borrowing to buy assets (borrow short to buy long).
When the Fed finally started to tighten, it did so very quickly, which chilled the housing market.
Possible explanations for the crisis:
1. Repeal of Glass-Steagall? Citing this as the cause of the crisis doesn’t explain why commercial banks got into trouble and why investment banks got into trouble. The i-banks that failed, like Bear and Lehman, had negligible commercial banking operations.
2. Excessive executive compensation? In the 1930s, there were complaints about compensating executives in cash. In the 1990s, there were complaints about compensating executives in stock. In the early 2000s, there were complaints about compensating executives in stock options. There will always be complaints about this whenever there’s a failure. It did not play an important role.
Upshot: Monetary policy is the best explanation. I don’t want to engage in “Fed bashing,” but I do think that departures from the monetary policy called for by historical models / Taylor rule should be very infrequent in the future.
Stephanie Breslow, Schulte Roth & Zabel
I focus on hedge funds, which have been weathering the crisis relatively well.
Currently the interests of principals and investors are well-aligned. The investors are sophisticated, high net-worth investors.
Hedge funds are market participants and are regulated as such (so they are subject to rules against market manipulation, insider trading, etc.).
One proposal on the table: a registration requirement for hedge fund managers. There isn’t a huge amount of opposition to this. But will oversight really make a difference here? To send a bunch of 26-year-olds in to investigated sophisticated funds?
Another proposal: to have derivatives traded on exchanges, to advance transparency.
Trade-off: derivatives are highly customized and may not lend themselves to exchange trading.
Another proposal: cracking down on securitization. But securitization can be a useful tool. And it’s yesterday’s problem – currently investors are very aware of their dangers.
Another proposal: cracking down on short selling. But sometimes valuable information / analysis about companies is generated by investors looking for companies to short.
Another proposal: net capital requirements. But funds don’t have depositors, so who is being protected? And do the qualified investors in funds really need protection?
In short, (1) there is already regulation in this industry and (2) some of the proposed regulation will not be helpful.
Annette Nazareth, Davis Polk & Wardwell
I have some concerns about the current system of financial regulation (pointing to a chart showing incredibly complex regulatory web).
As a former regulator, I recognize that there will be cases where the market can’t solve its own problems and regulation makes sense. E.g., monopoly power, requiring antitrust regulation; collective action issues.
But we have to think carefully about how to regulate in a way that reduces burdens.
Much of our regulatory framework, a Byzantine web of regulators, is a matter of historical accident. Can it be streamlined?
The current system leads to jurisdictional squabbles over which regulatory entity has authority, as well as regulatory arbitrage.
At the current time, it’s difficult to predict what direction the regulation will go in.
Paul Atkins, former SEC commissioner
At last year’s convention — which took place after the fall of Lehman and while the crisis was peaking, and around election time — there were predictions that the new administration would be very active on the regulatory front.
A year later, some things have changed an some haven’t. The Obama Administration has spent a lot of political capital on the stimulus, health care, and environmental issues. Don’t expect major financial regulatory legislation before the end of this year — too much else going on. But could next year bring major new regulation?
Some ill-advised “reforms” came out of prior crises. The Supreme Court will soon pass on the constitutionality of PCAOB, enacted in the wake of the last financial crisis as part of Sarbanes-Oxley.
Q: Thoughts on the “too big to fail” doctrine?
A: Panelists seem generally critical of the doctrine.
Q: How did TARP morph from a program designed to take toxic assets off balance sheets into one making investments into specific banks, and was this wise?
A: Atkins – The real problem here was valuation. How do you value these assets?
Mahoney – What led to TARP was the perception of a liquidity crisis. But we didn’t have a liquidity crisis; we had a solvency crisis. So that’s what led to the transformation — it was better to recapitalize banks than to have TARP overpay for their toxic assets.
2009 National Lawyers Convention Schedule [Federalist Society for Law and Public Policy]
FedSoc LiveBlog: Showcase Panel III: Regulation of Financial Institutions featuring Judge Jones, Hon. Paul Atkins and Paul Mahoney
[Josh Blackman's Blog]
Earlier: Free Speech: The Fairness Doctrine