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By request: 20/20 hindsight
By
Reader Scott asks:
Outlaw any financial transaction more complicated than a simple equity purchase. This, however, would have created more problems than it would have solved.
As I've said elsewhere, I can think of a lot of very complicated and extremely socially costly ways to have avoided the current crisis, but I'm not sure there is a simple solution--higher capital requirements are probably the best bet, but it's not clear how much this would have helped, since we still don't know whether Bear was insolvent or merely illiquid. They wouldn't even have helped us, the taxpayer, since JP Morgan bought them out at fire sale prices. There's a lot of talk about forcing originators to keep a portion of their securities, but from what I understand some of the toxic instruments on the books at Merrill and Bear were in fact originated in-house.
Probably the best way to avoid the problem is to keep financial professionals in the game longer. The money and stress of banking means that its titans tend to retire early. Bubbles seem to be a natural feature of asset markets, from tulips to houses, and the only known cure is repeated experience of them. Having more guys around in their sixties and seventies who remember the last few disasters would probably do a lot to mitigate the phenomenon. Unfortunately, I don't see any way to legislate this--and even then, if the current crop of elder statesmen actually did manage to mitigate bubbles, they would only create a future class of elder statesmen who have never seen them, and are thus even more vulnerable to their seductions.
The fact that there is a problem does not always imply that there is a solution. I think there are a number of sensible regulations being proposed right now: giving mortgage brokers fiduciary obligations to buyers rather than sellers; stiffer capital requirements; having originators keep a portion of their loans. I'm just not very confident that this would have actually prevented the current problems.
With 20/20 hindsight now available what is the one, easiest, thing to have avoided the current crisis in the banking system.
Outlaw any financial transaction more complicated than a simple equity purchase. This, however, would have created more problems than it would have solved.
As I've said elsewhere, I can think of a lot of very complicated and extremely socially costly ways to have avoided the current crisis, but I'm not sure there is a simple solution--higher capital requirements are probably the best bet, but it's not clear how much this would have helped, since we still don't know whether Bear was insolvent or merely illiquid. They wouldn't even have helped us, the taxpayer, since JP Morgan bought them out at fire sale prices. There's a lot of talk about forcing originators to keep a portion of their securities, but from what I understand some of the toxic instruments on the books at Merrill and Bear were in fact originated in-house.
Probably the best way to avoid the problem is to keep financial professionals in the game longer. The money and stress of banking means that its titans tend to retire early. Bubbles seem to be a natural feature of asset markets, from tulips to houses, and the only known cure is repeated experience of them. Having more guys around in their sixties and seventies who remember the last few disasters would probably do a lot to mitigate the phenomenon. Unfortunately, I don't see any way to legislate this--and even then, if the current crop of elder statesmen actually did manage to mitigate bubbles, they would only create a future class of elder statesmen who have never seen them, and are thus even more vulnerable to their seductions.
The fact that there is a problem does not always imply that there is a solution. I think there are a number of sensible regulations being proposed right now: giving mortgage brokers fiduciary obligations to buyers rather than sellers; stiffer capital requirements; having originators keep a portion of their loans. I'm just not very confident that this would have actually prevented the current problems.
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