Sunday, January 31, 2010
Sometime ago (1997?) I told my friend and colleague Professor Ro Lasso that a power shift was afoot. Specifically, people of color would increasingly comprise a larger share of the voting power in America, as depicted in the chart to the left. Undoubtedly, I asserted, this would push issues of racial justice and disempowerment to the forefront. He replied that I was wrong and that rather than a power shift the rules would be changed. While I argued with Lasso at the time, I immediately sensed he was on strong ground.
Professor Derrick Bell argued long ago that racial reform only occurs when the interests of elites converge with the interests of those seeking reform. Logically, it follows that without this convergence reform will not occur, or worse, if elites are threatened they will naturally seek ways to postpone reform or enhance their relative position.
So, consider Citizens United v. FEC. The decision leaves many unanswered questions. The consensus, however, is that the decision marks a major power shift towards corporations and away from individuals. Certainly, the case opens up another means by which corporations can use their wealth to influence politics, and there is good reason to conclude we are about to see a "money free-for-all" take over our political system.
Who runs these newly empowered corporations?
Well, as Cheryl Wade recently pointed out there has been one female of color who has ever served as the CEO of a Fortune 500 company--and that happened only last summer. That appears to bring the total number of African American CEOs to five. As of November, 2007, there were four Latino CEOs and fourteen women.
With respect to board seats, men hold 83% of all Fortune 100 directorships. Latinos and African Americans hold 14% of such positions and Asian Americans hold 1%. For Fortune 500 companies the reality is bleaker--there are even fewer African American directors and the number is declining. Only 3% of all Fortune 500 board positions are held by Hispanics.
To the extent that Citizens United shifts political power to corporations, fundamentally, it shifts power away from communities of color (and women) notwithstanding their increased voting power.
Saturday, January 30, 2010
Friday, January 29, 2010
First, the Government must have some the ability to manage future crises: Legislation should allow the government emergency authority to take over and unwind large, failing financial institutions. In the case of banks, the FDIC would act as conservator or receiver and the SEC would take over in the case of broker dealer or securities firms. The Treasury would have the authority to decide when a firm is failing and whether a conservatorship, receivership or some other method is appropriate. This is reminiscent of what was proposed by Paul Krugman and others back in early 2009 that nationalization was the best way to stabilize the financial markets. This is the authority that Secretary Geithner suggested to Congress was needed last August.
Second, new regulation of financial firms is necessary: The President proposes that any bank that poses systemic risk will be closely monitored and regulated by a “fundamentally adjusted” Federal Reserve oversight system that includes the use of stress tests to determine the viability of the financial firm. The Treasury would be given the power to re-examine capital standards for banks and bank-holding companies. The legislation should fill the gaps in the federal regulatory scheme by drastically expanding the number of firms under federal regulation by requiring hedge funds, private-equity funds and venture-capital funds to register with the SEC and would force industrial banks, non-bank financial firms and credit-card banks to become more traditional bank holding companies subject to federal oversight.
Third, guidelines on executive compensation should be adopted: Regulators would issue guidelines on executive compensation, with the goal of aligning pay with long-term shareholder value, including a re-examination of the utility of golden parachutes. New legislation would also require non-binding shareholder votes on executive compensation packages.
Fourth, new regulation would be adopted for securitization of asset-backed securities: Obama’s proposal requires originators of securitized products, like mortgage brokers, to retain some economic interest in securitized products.
Fifth, the creation of a consumer financial protection agency would be effectuated: This new agency would play a “leading role” in educating consumers about finance and would promote the use of “plain vanilla” products, such as mortgages, which would have to be offered by companies.
With two different financial regulation bills currently weaving through the House and the Senate, and now with new proposals being introduced by the White House, it will be very interesting to witness what emerges from Congress and how significantly the regulatory pendulum will swing in 2010.
Thursday, January 28, 2010
When I first heard someone suggest moving deposits into community banks I resisted the idea for purely selfish and logistical reasons. I worried about limiting my access to the cash that is available from the omnipresent automatic tellers of J.P. Morgan Chase, Citibank or Bank of America. The more I think about the idea, however, the wiser it seems. Without the easy access to cash, I may be able to save some money.
Tuesday, January 26, 2010
Mr. Sutton served in the U.S. Army during World War II as a member of the legendary Tuskegee Airmen. He became a member of the New York Bar in 1950 and proudly opened a law office in Harlem, USA. He served as an attorney for Malcolm X, in the heat of the Civil Rights Movement, and he also represented more than 200 activists arrested during the 1963-1964 Civil Rights Marches. In 1966, Mr. Sutton was elected as Manhattan Borough President. A position he would hold for almost 12 years, the longest that any elected official has held that particular position.
In 1971, Mr. Sutton co-founded Inner City Broadcasting Corporation and purchased WLIB-AM and WBLS-FM, the first black-owned radio stations in New York City. In the process, Mr. Sutton became a media mogul providing local news about events happening in the predominantly minority communities in New York City, proving that money can be made by serving the public good. In an interview with Mr. Sutton approximately 30 years ago, he strongly encouraged minorities to become small business owners. It is available here.
In 1981, Mr. Sutton will forever be remembered as the man who saved the Apollo Theater from bankruptcy. Upon his acquisition of the Apollo Theater, Mr. Sutton became instrumental in the revitalization of the tattered Apollo Theater, which ushered in an era of gentrification in Harlem, USA attracting investors such as Magic Johnson to open movie theaters, and pioneer entrepreneurs such as Anita Roddick who opened The Body Shop along the famous 125th Street fairway. With Inner City Broadcasting as the operator of the Apollo, shows such as It's Showtime at the Apollo were nationally syndicated and became very successful in the weekend television line-up. It's Showtime at the Apollo showcased local talent, as well appearances of well-known performers such as Whitney Houston, Patti LaBelle, New Edition, and Stephanie Mills. The Apollo will turn 76 this year, in large part due to Mr. Sutton’s commitment to public service, and preserving the past for the benefit of future generations.
In March 1988, on a wintry Tuesday afternoon, a bright-eyed sophomore from Columbia University wandered into Harlem, USA looking for the famed Apollo Theater, while she stood with her nose pressed against the glass entrance door trying to get a glimpse of a “star,” a deep voice behind her said, “it’s warm inside the theater, would you like to come in?” The young sophomore nodded her head and agreed, in the hopes of seeing a “star” rehearse. Forty-five minutes later, after the young sophomore had shared her story of her parents migrating from Ayiti, growing up in Flatbush Brooklyn, obtaining a full scholarship to Columbia University, and hoping to become an international corporate attorney, Mr. Sutton offered the young sophomore a job as an usherette at the Apollo so she could catch a glimpse of the “stars” rehearsing. It was my first “paying” job. Years later, when I would write my law school admissions personal statement, I cited Mr. Suttons words to me on that bitterly cold Tuesday afternoon, “Everything we do must be with a seriousness of purpose. Everything we do will become a legacy for others to follow. Do not worry about what you have or do not have, simply do what you believe needs doing for a better future for a greater good.” New York Governor David Paterson, stated that “Percy was fiercely loyal, compassionate and a truly kind soul.…He will be missed but his legacy lives on through the next generations of African-Americans he inspired to pursue and fulfill their own dreams and ambitions."
In honor of Mr. Sutton’s life and contribution to the City of New York, Mayor Michael Bloomberg requested that the flags on city buildings be lowered. President Obama words regarding Mr. Sutton are perhaps the most memorable, “his life-long dedication to the fight for civil rights and his career as an entrepreneur and public servant made the rise of countless young African-Americans possible… Sutton is a true hero to African-Americans across the country.”
Sunday, January 24, 2010
I would like to think that conservatives can join President Obama on this issue. He has issued a call to arms for all Americans wishing to preserve our democracy and I personally applaud his leadership and rapid response to this critical issue:
Saturday, January 23, 2010
On Thursday, President Obama announced a bank tax plan designed to tax roughly 50 of the largest banks and financial institutions over the course of the next decade to recoup losses associated with the bailout of Wall Street. Smaller community banks won't be affected by the bank tax. President Obama stated that his goal over the next decade is to “recover every single dime” from the TARP bailout of Wall Street. President Obama hopes to officially include the so-called “bank tax” provisions in February when he proposes his budget plans to Congress.
Who will be covered by the bank tax? The tax, if adopted, will be levied on banks, insurance companies and brokerages with more than $50 billion in assets, and would start after June 30, 2010. The bank tax would not apply to bank customer’s insured accounts, but rather it would apply to assets used as part of the institution’s risk-taking operations and activities. The goal that President Obama seeks to reach is to recoup roughly $90 billion over a ten (10) year period. The bank tax could remain in effect for over ten (10) years if losses from TARP are not recovered after a decade. At the moment, Obama Administration officials suggest that TARP will likely be about $117 billion, which is roughly 1/3 of the losses that officials projected last summer. The lion’s share of the TARP losses are associated with the bailouts of Chrysler, General Motors, and AIG.
In delivering his remarks on Thursday, President Obama noted: “We’re already hearing a hue and cry from Wall Street suggesting that this proposed fee is not only unwelcome but unfair…That by some twisted logic it is more appropriate for the American people to bear the cost of the bailout rather than the industry that benefited from it, even though these executives are out there giving themselves huge bonuses.” President Obama continued: “What I say to these executives is this: Instead of sending a phalanx of lobbyists to fight this proposal or employing an army of lawyers and accountants to help evade the fee, I suggest you might want to consider simply meeting your responsibilities”
Naturally, big banks have bulked at the bank tax. Their argument is that they have paid back their TARP allocations with interest. In anticipation of this argument, the Obama Administration noted that the bank tax is in a sense a “financial crisis responsibility fee” aimed at policing those institutions whose risky behavior started the financial crisis in the first place.
Will the bank tax be passed on to consumers? The answer is to a certain extent yes. However, by exempting smaller community banks if large banks increase their fees too drastically savvy smaller banks will likely draw a line on their fees to attract customers of higher fee large banks. In many ways President Obama’s proposal drives a wedge between small and large banks. Due to their exemption from the bank tax, small community banks will likely support the Obama proposal at the cost of their larger brethren.
Practically speaking, how would the tax impact financial institutions like Citigroup, JPMorgan Chase, Bank of America, Goldman Sachs, and Morgan Stanley? Analysis shows that Citigroup would a roughly $2.2 billion per year assessment. Both JPMorgan Chase and Bank of America would face an annual assessment of $2 billion. Similarly, Goldman Sachs and Morgan Stanley would pay assessments in the same ballpark. The bank tax would amount to a roughly $1.5 million tax on every $1 billion in institutional assets subject to the tax or levy. Again, Tier 1 capital, including common stock, and insured customer deposit accounts, for which banks already pay fees to the Federal Deposit Insurance Corporation (“FDIC”), would not be subjected or exposed to the bank tax.
In a mid-term election year President Obama’s bank tax proposal taps into popular angst and distrust of large financial institutions on both sides of the political aisle. Philosophically, most fiscal conservatives are opposed to taxes in almost any form during a recession. Interestingly, Republicans have not been so quick to criticize the bank tax fearing that they may draw the ire of their own political base and remaining mindful of the fact that small community banks, which may benefit, exist in virtually every Congress member’s district. President Obama is tapping into populist angst that cuts across party lines—Citizens are angry about the role that large banks played in nearly pushing our economy over the abyss through uncontrolled risk-taking.
Friday, January 22, 2010
The Obama administration appears finally to be getting serious about financial industry reform. Last week President Obama proposed a new tax to be levied on the nation’s largest financial institutions to pay for the unrecovered portions of the TARP bailout while leaving smaller community banks unaffected. Yesterday, the President announced new "too big to fail" financial regulation policies that promise to regulate the financial sector in ways that appear to protect against similar recurrences of the bank executive recklessness that precipitated the financial market crisis.
The bank tax proposal intends to raise up to $117 billion from large financial institutions and banks that hold more than $40 billion in assets and would not apply to holdings like customers’ insured savings but rather assets used in risk-taking operations. While many suggest that this plan, together with yesterday's announcement that a financial system overhaul would be undertaken, is an attempt to tap into the populist anger against the bank bailouts seen most recently in the outcome of the Senate election in
One thing we have learned over the past couple years is that
What to do? We could promise never to bail out financial institutions again. Yet nobody would ever believe us. And when the next financial crisis hits, our past promises would not deter us from doing what seemed expedient at the time.
Alternatively, we can offset the effects of the subsidy with a tax. If well written, the new tax law would counteract the effects of the implicit subsidies from expected future bailouts.
Government’s enormous subsidy of the financial sector through TARP is evidenced by the almost instantaneous turn-around of financial institutions on the brink of collapse last year reporting record profits in recent months. This bank tax offers a way to offset the subsidy. As the largest banks argue that this tax will limit their ability to make loans to small businesses and everyday consumers, such posturing lays bare the banks’ hypocrisy. Instantaneous recovery and accompanying record bonuses occur on the backs of
Despite intense public scrutiny and pressure, big banks appear unwilling to accept this tax as an opportunity to repay taxpayers despite the obvious eventuality that these costs would likely be passed on to customers. Wall Street’s main lobbying arm has hired Carter G. Phillips of Sidley Austin to investigate whether the punitive nature of the tax focusing on big banks violates the Constitution. The fighting and lobbying appears to just be cranking up in opposition. President Obama has responded to these challenges saying, “Instead of sending a phalanx of lobbyists to fight this proposal or employing an army of lawyers and accountants to help evade the fee, I suggest you might want to consider simply meeting your responsibilities.”
This blog will undoubtedly unwind and debate the merits of yesterday's new financial regulatory overhaul announcement in coming days . . . .
Thursday, January 21, 2010
Ten days have passed since the earthquake struck and news outlets are still covering the story. But next to nothing is said about the role played by the US, Britain, and France in causing centuries of economic devastation in Haiti that made it so vulnerable to the natural disasters that plagued it in 2008 and 2010.
Haiti was the first country founded by formerly enslaved Africans. After the enslaved Africans of Haiti worked for decades, providing the free labor that contributed significantly to European economic stability, Haiti was forced to pay dearly for its armed uprising eradicating slavery. Haiti took out high interest loans in order to pay tens of millions of dollars (francs actually) in “reparations” to the French. These “reparations” were paid to compensate former enslavers for their “lost property”. The property the French lost was the enslaved Africans themselves, the Haitian people. Why did Haiti pay what today would amount to billions in reparations for having liberated itself from slavery? Haiti paid in order to free itself from a crippling embargo that had been imposed by France, Britain and the United States. At no time in the extensive media coverage in recent days did I hear a discussion about the decades of slavery and the extortion of wealth from Haitians called reparations as an explanation for the poverty in Haiti to which the media repeatedly referred.
Haiti’s spiraling poverty has been attributable in part to its indebtedness to American banks. In 1915, the US invaded Haiti after US banks complained about this debt to President Woodrow Wilson. The American occupation was brutal. The effects of this occupation, which lasted until 1934, persist today.
Instead of providing historical perspective, the media spent a great deal of time reporting “reports of violence” and looting in the earthquake’s aftermath. This took me back to news coverage about Hurricane Katrina. Remember the two different photographs published by Yahoo! News showing hurricane victims walking with food through chest-deep waters? According to the captions provided by the two different photographers, a white couple had found the food in the hurricane’s aftermath. A black man looted the food he had.
Years after Katrina, we now know that the stories of murder, rape and violence in its aftermath were grossly exaggerated. I watched the coverage of the earthquake in Haiti closely. I saw some people running. Things looked disorganized. I saw people tugging and pushing to get to food and other items. It seemed no worse than the pushing, tugging and shoving I’ve seen during some department store sales here in the US.
I did see a group of young Haitian men with machetes. Some reporters said that these men were violent gang members. This reminded me of Hurricane Hugo which hit St. Croix in the US Virgin Islands in 1989. Like the Haitian earthquake victims, and the New Orleans Katrina victims, most of Hugo’s victims were black and therefore particularly scary to many white observers. I have a dear friend in St. Croix who talked to me about Hugo’s aftermath. My friend is a veterinarian, an entrepreneur, a musician, and the owner of several beachfront homes. Days after the hurricane hit St. Croix, he attempted to clear his property of debris with a machete. When his white next door neighbors saw him, they didn’t recognize him. They were paralyzed with fear, seeing only his machete and his brown skin.
Wednesday, January 20, 2010
The Financial Times reports today that: "Even John McCain. . . supports a return to the Roosevelt-era Glass-Steagall Act, which separated commercial from investment banks." This rocked my world! The repeal of Glass-Steagall (during the Clinton Administration, when both Lawrence Summers and Timothy Geithner served in Treasury) paved the way for financial firms to become too-big-to-fail, and allowed commercial banks to expose themselves to the more risky activities of investment banks. Re-regulation in this form would instantly require that banks be cut down to size. President Obama should seize the opportunity of joining with Senator McCain (tomorrow morning) and announce a bi-partisan solution to banks that are too-big-to-fail. Senator Maria Cantwell joined McCain's initiative so bipartisan support is already on the table.
So why hasn't that happened already? According to the Financial Times: "A lot of Democrats - and some Republicans - believe Mr Obama is too beholden to the counsel of Lawrence Summers, his senior economic adviser, and Tim Geithner, on his approach to the banks." Indeed, Newsweek quotes "a senior Treasury official" as stating that re-regulating with Glass-Steagall like restrictions "would be like going back to the Walkman." Banks worked better during the Walkman era! They are broken today.
Noble laureate Joseph Stiglitz worked against the repeal of Glass-Steagall when he served in the Clinton Administration as Chair of the Council of Economic Advisers. He explains:
"by breaking down these barriers, we would wind up with larger financial institutions that would reduce competition, [and] increase the risk of too big to fail. Banks that are too big to fail have incentives to engage in excessive risk taking. And that's exactly what happened. The increase in the concentration in the banking system in the years after the repeal of Glass-Steagall has been enormous, and we've seen the excessive risk taking, which American taxpayers have had to pay hundreds of billions of dollars for."
Professor Stiglitz also makes a compelling point about the supposed cost of reinstating Glass-Steagall:
"You look at the history, and it was clear that the quarter century after World War II, in which we had strong financial market regulations, is that one quarter century in the world in which there was almost no financial crises, no banking crises. It was also the period of most rapid economic growth, and it was also the period in which the inequalities in our societies were being reduced. So it was very hard to say that these regulations had stifled economic growth."
So of course we can go back to a Glass-Steagall world. Geithner's Treasury Depatment is simply acting in a thinly veiled effort to protect Wall Street executives. Stiglitz notes that CEOs have incentives to build larger firms.
I wrote a law review article searching for a means to resolve the problems implicit in too-big-to-fail. I have blogged on the issue here, here, here, here, and here. Other bloggers here have similarly sought to resolve the problems inherent to too-big-to-fail. The fact that a solution is so easily at hand and the Administration dismisses it is very disconcerting.
Could it be that Tim Geithner is the problem? Recently Bill Black, Eliot Spitzer and Frank Partnoy argued that emails and other documents relating to AIG be released to the public. Based upon a limited disclosure of those documents it appears the the NY Fed, under the leadership of Tim Geithner, deliberated acted to deceive the public about payments made under its credit default swap obligations. Certainly, Black, Spitzer and Partnoy are correct that all the information should be disclosed. Geithner was central to the AIG bailout. He must have known that AIG paid 100 cents on the dollar to its obligees on the credit default swaps and the identity of those payees. He should have assured these facts were made public. He is inextricably linked to the sordid AIG bailout.
But, in any event, the voters of Massachusetts can be forgiven if they perceive that Administration is too close to Wall Street interests. There is an easy way out for President Obama. If he wants voters to believe he is not too close to Wall Street (and thereby avoid a Democratic bloodbath in November) he must distance himself from Wall Street. That means Geithner must go. It means Glass-Steagall must be reinstated. It means Wall Street must submit to the rule of law rather than dominate lawmaking.
Look at the poll of the Obama voters who supported Scott Brown or who stayed home:
- 53% of Obama voters who voted for Brown and 56% of Obama voters who did not vote in the Massachusetts election said that Democrats enacting tighter restrictions on Wall Street would make them more likely to vote Democratic in the 2010 elections.
- 51% of voters who voted for Obama in 2008 but Brown in 2010 said that Democratic policies were doing more to help Wall Street than Main Street.
The debacle in Massachusetts highlights the severe political costs of the Obama Administration's ill-founded approach to the economy and financial regulation. Certainly a stronger candidate would have done wonders for the Dems, but it is equally certain that the national mood is turning against the Dems, perhaps rapidly. The Coakley pollster (supported by GOP polls) clearly has a sound basis for claiming that Obama's gentle policy towards Wall Street while ignoring Main Street was not helpful.
In my view, President Obama out-sourced economic and financial policy to the "experts," Robert Rubin clones Lawrence Summers and Timothy Geithner. They dominated policy to the exclusion of voices such as Paul Volcker and Christina Romer. Unfortunately, Summers and Geithner pursued policies dictated by their Wall Street roots.
Those policies suck. For example, according to Nobel economist Paul Krugman their approach to the crisis in late 2008 was "just wrong," as they underestimated the size of the stimulus needed and they structured the stimulus to rely too much on ineffective tax cuts. Another Noble economist, Joseph Stiglitz, specifically warned Obama that committing 40% of the stimulus to tax cuts would be ineffective: "Americans confronted with debt, shrinking retirement accounts, houses worth less than mortgages and a tough credit environment will save more of their money than in the past. That was the experience with the February 2008 tax cut, where less than half of it has been spent." Basic economic reasoning suggests that government spending should always seek to generate the greatest benefits per buck, and that the size of the stimulus must be calibrated to the GDP shortfall. Thus, one did not need a Noble Prize to see that at least $1 trillion in stimulus was needed and that the emphasis should be on massive government investment in lieu of tax cuts.
So, why did Obama ignore Stiglitz and Krugman as well as basic economic reasoning?
It appears that Lawrence Summers led the charge on replacing infrastructure investments with tax cuts. According to Rep. DeFazio (see video above): "Larry Summers hates infrastructure." This is the reason the stimulus still looked much like a Bush-Reagan "trickle-down" approach. In fact, as early as 2007, Summers argued for too small of a stimulus that was too focused on trickle-down tax cuts. Bush followed that advice and it failed. Again, Paul Krugman specifically argued against too much in tax cuts and not enough in investment. Apparently, special interests prevailed upon Summers to include a large percentage of ineffective tax cuts. Banks led the list of top beneficiaries.
Summers has legendary connections to Wall Street Banks. He got a free ride on the Citigroup jet. He called Sen. Chris Dodd to have pay caps at banks removed from the stimulus bill. Prior to ascending to the Obama Administration, he was paid $7.7 million by Wall Street interests.
Little wonder the Administration is viewed as in bed with Wall Street.
The bottom line is this: IT'S THE ECONOMY STUPID! Obama needs a new approach, fast.
The President has a stark choice: either he dramatically changes his approach on the economy and financial regulation, or his legacy and the entire Democratic agenda goes down with the banks.
Tuesday, January 19, 2010
I previously blogged, a few weeks ago that Emory University School of Law’s Center for Transactional Law and Practice was delighted to announce its second biennial conference on the teaching of transactional law and skills, Transactional Education: What’s Next? The conference will be held at Emory University School of Law on Friday, June 4, and Saturday, June 5, 2010.
Unfortunately, due to certain unforeseen technical glitches, the on line submission process experienced a bit of a malfunction. Here is the updated information on how to submit your proposal from Professor Tina Stark:
Hi everyone. Emory's technical staff informs me that there was a problem with the Call for Proposals online submission process. As a result, any proposal that was previously submitted has not been received. The technical team has corrected the problem and the new call for proposals form may be found here.
If you previously submitted a proposal, please resubmit it using the link above. We sincerely apologize for the inconvenience and look forward to your participation in the conference.
Monday, January 18, 2010
Meanwhile, look at the chart to the right. I have posted this statistic before. It is the civilian employment ratio. To me it is a bottom line number on the employment situation, because it is not limited only to the short term unemployed like the headline number--it is a broader view. It shows that the employment reality is still worsening and is plumbing new lows. Our nation cannot service its heavy debt load if our people are not employed.
But let's face it--no one on Wall Street cares. They are going to take the money and run while the running is good and the cash keeps flowing. They do not care about next quarter much less next year. The only question is how much cash can stuff into their stash today. And apparently that is a very large number.
Thursday, January 14, 2010
Bankers make few changes in the way they do business, won’t apologize for their role in causing the crisis and resist regulatory reform. This behavio
Sincere apology paves the way for transformative organizational change. Of course, the bankers want to avoid apologizing and acknowledging poor decision making in order to avoid lawsuits. And, it is true that acknowledging poor governance, even apologizing for it, will not prevent recurring problems. There are unfortunate examples of corporate spokespersons who have made public statements concerning governance failures in order to save a company’s reputation, while at the same time failing to take action to correct the problem. For example, about a decade ago, Jacques Nasser, the then president of Ford Motor Company, and the chairman of Firestone, blamed each other for tire-related auto accidents that caused almost one hundred deaths, eventually offering insincere apologies. Neither leader made early substantial changes.
Compare the Ford/Firestone finger-pointing to the 1982 response of Johnson & Johnson to the crisis it faced when seven people were killed after taking Tylenol with which someone had tampered. The company offered a sincere apology and accepted full responsibility even though the act was caused by the criminal conduct of a person who did not act on the company’s behalf. The apology and the acceptance of responsibility enabled the company to make an honest assessment of its controls and procedures. As important as the apology itself, the crucial organizational changes the company made helped to reestablish the firm as a company deserving public and consumer trust.
The smart thing for the bankers to do would be to apologize, accept responsibility for their role in causing the financial crisis, and avoid pointing the finger of blame at others. None of the bankers who appeared before the Commission did this. Not even their tone was apologetic. So it seems that the bankers are really not so smart. They took excessive risks when they entered into the subprime mortgage and securitization markets. Perhaps this can be forgiven. At the very least, when the decision to enter the subprime market is challenged, courts will defer to the bankers’ decisions under the business judgment rule.
But, in the aftermath of the crisis they helped to create, the bankers refuse to apologize and are more than willing to blame others for the financial collapse. And, not only have they failed to seriously consider how they should change the way they do business, they pay lip service to regulatory reform while engaging lobbyists to resist real efforts. For the bankers, it is business as usual. And this includes huge bonuses. This behavior should not be rewarded. This behavior supports the argument that the bonuses should be dramatically reduced or even eliminated. These bankers are not making smart decisions. Wildly lucrative bonus payments should be made only to smart executives who make smart decisions.
Tuesday, January 5, 2010
As my distinguished colleague Professor Steven Ramirez, commented a weeks ago, the Section on Socio-Economics held a two-day meeting on January 6-7, 2010, which was organized by Professor Robert Ashford of Syracuse University School of Law, to address "The Economic Recovery and the Obama Presidency" at this year's Association of American Law Schools annual meeting in New Orleans. Professor Ramirez, spoke on a panel entitled "Efficiency, Distribution and Growth." I had the opportunity to speak at the conference as well, on a panel entitled “Criminal Causes of the Economic Recession.” The panel was moderated by my fellow blogger Professor Regina Burch of Capital University School of Law.
My co-panelist on the panel were Professor William Black of University of Missouri School of Law, Associate Dean Ellen Podgor of Stetson University College of Law, and Associate Dean Timothy Canova of Chapman University School of Law, who was re-scheduled to speak on a subsequent panel because Dr. James Galbraith of the LBJ School Public Affairs, University of Texas at Austin, was unexpectedly called away. Professors Black and Podgor each brought a unique perspective to the white collar causes of the current financial crisis. Professor Black discussed "control fraud" economic analysis -- frauds in which the person that controls a seemingly legitimate entity uses it as a "weapon" to defraud. Professor Black explained why epidemics of control fraud occur, and how such epidemics contributed to the current financial bubbles and crises.
Professor Podgor discussed that perhaps current regulation is adequate, but regulators have moved away from enforcement of those regulations. Professor Podgor postulated that enforcement of current regulations would not only serve as a deterrent to potential corporate wrongdoers, but would be an effective means of neutralizing the conditions that create criminiogenic environments most likely to produce hyper inflated financial bubbles, and effective praxis that could improve existing regulation.
My presentation brought a provocative perspective to the panel, regarding the need to regulate hedge funds in this age of excessive greed, fraud, and regulator’s failure to act, decisively to protect the pubic. This excessive greed and regulator in-action paradigm is a financial cultural phenomenon that developed during the Gilded Age from approximately 1865-1901. It was an age that was characterize by extravagance and the exuberant display of excess that has become woven into the praxis of American financial infrastructure. It is a philosophy that rejects the principles of the founding fathers, Alexander Hamilton, in particular, who as the First Secretary of the U.S. Treasury (1789-1795) was charged with developing the American financial infrastructure. Hamilton recognized that the young American republic needed to develop robust markets to attract and create capital, but he also recognized that a strong central government was also necessary to appropriately regulate the markets. As Hamilton eloquently stated “[w]hy has government been instituted at all? Because the passions of man will not conform to the dictates of reason and justice without constraint.”
The regulation of market transactions, as well as market participants, is critical for the proper functioning of the American markets, and the global economy especially given the interconnectedness of the world economies. This theory is the thesis of my latest article that was published last month in the Fordham Journal of Corporate and Financial Law entitled “Hedge Fund Fraud and the Public Good.” It is available on the Social Science Research Network and here. I welcome your thoughts, and comments on the article and, more importantly, what you believe is the appropriate praxis for the appropriate functioning of the American and global markets.
Lydie Nadia Cabrera Pierre-Louis
Monday, January 4, 2010
I have been posting the highlights of my forthcoming presentation at the AALS Annual Meeting for the Section on Socio Economics. This is the third post, and it will focus on the usefulness of the neoclassical paradigm as a foundation for legal policy analysis.
I define the neoclassical model of law and economics to entail recognition that if we assume perfect information, zero transaction costs, property rights and contract law, perfectly rational market actors, and perfect mobility of resources, then free markets unfettered by government intervention will allocate all resources within an economy to their highest and best use. That can be theoretically helpful, but is very limited in determining policy and law.
For example, we cannot even be sure that move towards the basic assumptions of the model is effective. Suppose increased transaction costs actually enhanced efficiency and lower transaction costs created inefficiency? A recent study shows just that:
Previous research suggests that a decline in transactions costs leads to improved economic efficiency. In this paper, we show that such a decline will introduce increasingly uninformed consumers into established markets. Using a model of financial market inefficiency, we show that this increase in uninformed individuals can increase market risk (volatility), can decrease efficiency, and may reduce social welfare even when market participants are perfectly rational. We then test the predictions of our model using data on the retail equities market. Our results suggest that securities that have a large proportion of small trades (presumably isproportionately from small, online retail investors) tend to be less efficient by conventional measures, consistent with our model predictions.
Even prior to this study there were manifold problems with the market fundamentalist approach to law and economics, and its excessive emphasis on efficiency. For example, the Grossman-Stiglitz paradox demonstrates that the attainment of perfect information is impossible, as any market with perfect information would create disincentives for participants to seek information.
The inescapable conclusion is simply that efficiency (the foundation of market fundamentalism) functions only as a theoretical construct to highlight the strengths of market economics, but with only limited practical application. Unregulated markets will never achieve optimal resource allocation, and by extension optimal macroeconomic outcomes.
The subprime mortgage crisis teaches more about the shortcomings of efficiency. Efficiency fails to account for any transaction tail. If transactions are interconnected in a way that one transaction may in the future influence future transactions with macroeconomic effect then efficiency will fail to encompass all the means by which a transaction interacts economically. For example, financial innovation may create vehicles that could increase the flow of capital to residential housing, a historically safe place for credit. Meanwhile globalization, including the mass migration of jobs, may impair consumer buying power. Historically low interest rates may invite lenders to search for yield by extending credits to otherwise questionable credit risks. All of these transactions satisfy efficiency requirements, and all seemingly contribute to growth. Yet, the tail of the transactions led to a severe credit contraction that operated to shut down transactions across the economy. Efficiency analysis looks at all transactions in isolation and simply assumes that transactions are always economically beneficial. It fails to account for any transactional tail.
Probably there are massive economic tails. It depends on the context of the economy. Transaction interconnectedness is dynamic not static. In my view, George Soros and his theory of reflexivity and Hyman Minsky's theory of credit cycles, begin the analysis of transactional tails. There is much more work to be done on this issue. Every transaction interacts with a complex of economic webs, sometimes beneficially and sometimes negatively. Transaction interconnectedness is different from spillovers in that spillovers are static. Pollution is pollution.
Subprime loans can be economically disastrous or economically beneficial, as the subprime lending probably was through 2003 or so.
Legal infrastructure is the only means of controlling negative economic tails.
Until efficiency reckons with such tails it deserves to be treated as a mere theoretical construct.