This week, the comment period ends for some important new rules that will govern derivatives. As regulators finalize the regulatory framework, they can learn from commonly accepted medical principles. Ignoring them could significantly harm economic growth -- diverting trillions of dollars from productive economic use. Emil Freireich, an early cancer research pioneer who was part of the team at the National Cancer Institute ("NCI") that successfully cured childhood leukemia in the early 1960s, highlighted one such lesson in recalling the initial use of a potent experimental drug regimen: "The doses we gave her were too high, and she almost died of toxicity...By not recognizing when to stop, the first patient got two extra days of chemotherapy and that was the thing that almost killed her."
In a speech before the International Monetary Conference earlier this month, Treasury Secretary Tim Geithner exhorted world governments to adopt a global standard for margin requirements in the derivatives market. Such requirements, recently proposed by U.S. regulators, will govern how much cash companies need to set aside against their derivatives trades. Because this cash -- an amount which could exceed annual federal tax receipts -- would otherwise be available to invest in the economy, it is critical that U.S. regulators properly calibrate their rules before attempting to export them around the globe.
These rules influence the cash resources businesses are able to invest in new plants and equipment, loan to small businesses, and dedicate to research and development. They will also affect the prices of everyday products like airline tickets, cereal, and life insurance. If margin rules are excessive or apply to firms that pose no risk to financial stability, they will blunt economic growth and job creation without proportional benefit.
As financial policymakers work to insulate the economy from future threats, they face significant challenges. Chiefly, they must craft policies that target a problem -- systemic risk -- about which they understand little and which is constantly evolving. Federal Reserve Chairman Ben Bernanke acknowledged this recently when he said, "...much work remains to better understand sources of systemic risk, to develop improved monitoring tools, and to evaluate and implement policy instruments to reduce macroprudential risks."
While significant, these obstacles are not insurmountable. By examining medical disciplines like cancer research that also faced huge challenges, policymakers can increasingly target the sources of systemic risk in ways that do not unnecessarily burden the economy.
In his Pulitzer Prize winning book, Dr. Siddhartha Mukherjee elaborates on the risk of excessive treatment. He notes, "One could double and quadruple doses of radiant energy, but this did not translate into more cures. Instead, indiscriminate irradiation left patients scarred, blinded, and scalded by doses that had far exceeded tolerability." To avoid analogous problems in the economy, financial policymakers should consider a common sense principle referenced in Secretary Geithner's speech. Referring to a parallel reform effort to strengthen banks' capital cushions, he said that requirements were "set at a level designed to allow institutions to absorb a level of losses comparable to what we faced at the peak of this crisis." However, the basic principle espoused in this statement -- that reforms should be calibrated to losses -- is not evidenced in regulators' proposed margin rule.