The question confronting the Obama administration, Treasury Secretary Tim Geithner, and its financial regulators is whether too much of the Financial Community has gone over to the Dark Side. This notion has two possible interpretations.
Information Dark Side – The first idea posits that financial institutions have now become dependent on having corners on the market of critical financial information. This implies that financial players, particularly those dealing in complex derivative instruments(but also hedge and short players), now rely on various dark lacunae regarding who owns what financial instruments, when and how much was taken on/given off and what the terms of those financial agreements are, etc. This embracing of the financial information dark side has been impelled by the increased use of quantitative models that predict behaviors of financial instruments (not just stocks and bonds but nestling into many large scale, yet near-opague financial instruments) . It is like having a corner on a rarified perspective but highly valuable financial insights. Think of it as insider trading in financial info. This privileged knowledge then gives their crews of quantitative analytics a competitive advantage in either creating models and hedges and/or executing the financial strategies issuing from those models. The various funds and institutions then setup “trading machines” that deliver outsize returns (read the Lowenstein book on LongTerm Capital for details) until their models are deciphered, bettered by other players in the markets, or simply fail to track and predict well in the ever changing financial and economic markets.
The problems are twofold: 1) access to information is constrained to an annointed few and 2)regulation and control when things go awry (think of many financial submarkets in the current broad Financial Meltdown) is near impossible.
Dark Side Zero Sum Behavior – The broader problem is the Masters of the Universe mentality in the financial community which posits that only a ruthless player can triumph in their dog-eat-dog Darwinian andperfectly competitive financial markets. This, of course, can hardly be so with so much of financial markets and their information being hoarded in dark side fashion noted just above, so these markets cannot be truly efficient. Also, many transactions can allow for several “winners” rather than a single winner scenario. So many in the financial community must be the Best of the Best and deserving of their $hundred millions to $billion dollar annual compensations and other lordly percs. So to be that Alpha Dog, more major financial players have been driven to the dark side which says that all financial transactions and markets are zero-sum games where my win must be your loss with no margin or allowance for any win-win transactions or outcomes. Hardly the breeding ground for trust and a good clue as to why trust in and within financial markets [ Joe Nocera at the NYTimes describes how downright ugly the “within” got on Wall Street over the past two years] is at such a low ebb. It also helps to explain why so many bankers and investment houses refused to lend a hand to Bear Stearns, Lehman, Wamu, and other financial institutions as they imploded[with a little short-handed help from “friends”]. It also helps to explain why self regulation by the financial community (costs and co-operation are regarded as highly suspect) is at a minimum and government regulation is despised despite all the financial communities sins and current floundering about.
Explanation for the Slowness of Obama Team to Spell Out Financial Reforms – The reasons the Obama team may have been slow to make proposals for financial reforms is that a)they have some rather pernicious financial fires to deal with not just nationally but also globally, b)they have been slow to fill Treasury posts due a vaiety of “recruiting” problems, c)they have some major policymakers allied with Wall Street, d)they don’t dare rattle the financial cages too much and But another factor is that the Obama team may be trying to sniff out if they have enough non-zero-sum players among the major financial players and elites.There is a tough conundrum here. Not only do the Obama people not know what is the extent and depth of toxic financial assets strewn through the banks and financial system; but also they don’t know how many ‘ruthless sharks’ permeate those same financial institutions and their key management posts. This will determine the level and depth of reforms they will need to bring in. Already Barney Frank, Larry Summers and Ben Bernanke are talking major changes in how the financial community does business and is regulated. The problem now is how deep to cut to root out the decay in fiduciary trust. The problem is that the financial elites, like the Republican party (and in many cases we are talking one and the same), are baddy out of touch as evidenced in 4 prevailing viewpoints:
1)they regard the current financial fiasco not of their making but rather just a statistical aberration – a once in one hundred years fluke of chance like Katrina and the Floods in the Midwest;
2)their cutthroat, Darwinian practices are a)inevitable and b)appropriate to any and all markets;
3)they themselves are completely innocent of any contributions to the current financial meltdown – the meltdown was primarily due to “lax regulators”, “greedy consumers”, “government and politicians urging easy access to housing mortgages for the underclasses”, plus the flukes of chance and 1 in 100 year events. To paraphrase Mad Magazine’s Alfred E. Neuman – What, Me ? Responsible?!?;
4)so from the Wall Street view, the best reforms are minimal and none that might threaten the current US dominance of financial markets. For the latter viewpoint there is not just an overhang of huge job losses on Wall Street and other US financial markets but the often repeated threat of going off shore, of being bought out or taking there business to overseas markets.
More than less, many US financial organizations are playing strict Darwinian hardball – an exception is the views from Blackstone’s Steve Schwarzmann. So that is the Obama team dilemma – how to re-regulate players who can undermine your financial recovery without losing the momentum for reform. Judging by the recently announced financial reform package – the Obama administration left many markets dark, shrouded, largely untouched and capable of producing yet another Depression-inducing financial bubble[the Obama/Summers aim to track the too big to fail leaves out the small/medium-scale institutions who can induce financial gridlock with domino-effect collapses].
By the way the next time you here an Wall Streeter or Finacial pundit say that they operate in nearly perfectly competitive markets – laugh at them.
Right now too many Wall Street and other Financial players – the best and the brightest, are morally bankrupt.Tell them that their “perfect markets” have near zero trust with so many backstabbing zero-sum players, with great lacunae of financial data shrouded if not opaque but to a privileged few, with risk instruments so complex that again only an anointed few can understand them and then only marginally predict the intruments’ effectiveness, and finally with the attitude that Moral Hazard insurance is always available from governments, compensation will forever be uncapped and never related to performance, and Madoff-equivalent behavior[think Moodys, Fitch, and Standard+Poors]surely to go unpunished. I have to take a fifth to
Note: This was first published on March 13th 2009 – but recent regulatory short change with some small edits have caused it to be brought forward.