On Finance Reform, the Right Is Dumbstruck
No sooner have the right-wing intelligentsia engaged in their obligatory pooh-poohing of the Democrats' malfeasant financial overhaul bill than they themselves have been struck yet again by the Good Idea Fairy who, as it turns out, is a statist.
Integrity is the virtue of loyalty in action to one's convictions and values, allowing no breach between what one thinks and what one does. Right-wing thinkers know that statism is destructive. They know that when an issue confronts them, a solution which involves the assertion of government power against the private sector is wrong, because it is a violation of individual rights. They also have over two centuries of work in the classical tradition to elucidate the nature of the net harm that will result from such government interventions.
And they should know why it necessarily must be harmful, because Ayn Rand told them: The human mind is the cause of economic progress. Value-creation cannot be made to happen by fiat, and it cannot be preserved against a force which nullifies the prerogative of the mind to apply its judgment in practice, regardless of the supposed good intentions of the force wielders. Force and mind are opposites. A free mind and a free market are corollaries.
Keeping one's integrity on a complex issue will prevent a lot of destruction, because one may not understand the implications of a proposal enough to resist it on practical grounds. Here is a brief survey of what acting on principle will prevent in the area of financial reform.
One proposal seeks to put in place a mechanism such that certain market metrics, e.g., increased spreads on derivatives, will automatically effectuate an increase in capital requirements. The idea is that when the market shows signs of stress, banks should be made to de-leverage to shore up their vulnerabilities and ensure their solvency. One might not realize from this idea that bankers already know that increasing spreads are a danger sign.
It is immediately obvious that this measure is pro-cyclical. If certain distressing market metrics are occurring, that means a crisis or other negative event is already underway. Effectively forcing banks to sell off their assets when a sell-off is underway is a stupid idea. It certainly defeats the purpose of preventing a crisis. There is also the question of what to do once the requirements are increased, banks meet them, and then the banks proceed to fall under them again on their way to insolvency as the crisis continues.
Then there is the proposal to force market players to put their derivatives onto public exchanges so that the derivatives and their pricing will be more "transparent." In true collectivist fashion, the proponents of this idea believe that this measure will somehow benefit the market as a whole even though it will harm the individual property owners involved in the wealth-generating process. They are apparently of the belief that people have the ability to analyze market prices and determine that a crisis is imminent, but not the ability to determine what those prices should be without the help of a government making everyone else expose their assets for comparison.
It would have the effect of allowing everybody collectively to publicly observe market prices crash. During the financial crisis, there was too much transparency, not too little. The mark-to-market regime required institutions to use market prices when available to mark down their assets. This disproportionately affected the valuation of complex instruments where common ABX indices were available. Had public exchanges suddenly been made available for every class of salable security during the financial crisis, it would have instantly made every major investment bank and commercial bank insolvent without any hope of recovery. The financial system would have been effectively destroyed.
This is not to argue that the private sector should never develop public exchanges for each of its instruments. Rather, it is to say that if legislators are really concerned about derivatives suddenly losing their value and causing mayhem, then they can address the danger by putting the quango known as the FASB in their crosshairs, and without violating anyone's property rights.
Another idea on the left fringes of the right is that of breaking up big banks. The appeal of this monstrously evil idea apparently lies in its cudgeling of the Democrat-bankers who inhabit Wall Street, although preventing Too Big To Fail is its pretext. With this power, the government would be smashing the proven wealth-generators, providing an advantage to lesser performers, and hampering economic growth for the entire country. It would be introducing mass inefficiencies into the financial sector which would make it even more vulnerable to the deleterious effects of a crisis. It would be doing absolutely nothing to prevent crises while making the clean-up that much harder and more expensive, as many small bank failures are less amenable to resolution than a few large ones.
If commentators are upset about any influence that big banks exert over public policy, then they should learn the difference between political power and economic power and put the blame where it belongs-on the politicians who exercise the political power in violation of the rights of taxpayers on the advice of financial sector players.
Some believe it is a good idea to mandate that banks develop living wills in the event of their collapse. Clearly not designed to prevent a crisis, as it accepts the premise of a reoccurring crisis, it seems designed to restore market confidence and order in the event of a large failure.
One wonders how often these believers expect dynamic institutions to update their wills, seeing as how their positions are ever-changing, thus potentially rendering a will outdated on a quarterly basis. In the context of a crisis, a will is a comical notion. A company's portfolio and value can change drastically overnight so as to make a will meaningless, and there is hardly time, much less incentive, for a bank to figure out the best way it should be killed.
Another pipe dream involves commissioning experts to survey market metrics to develop objective measures of systemic risk. Presumably, this insight will allow politicians to take preventive actions when such metrics are observed in the future.
Memo to the Good Idea Fairy: The government is the systemic risk. The distressed market metrics are the effect. You cannot override a cause by using said government to apply some kind of force against its effects.
There is also a vague call to fix tax distortions to reduce the tax incentive to securitize, as against holding equity. Accounting rules have already destroyed the incentive to securitize. Reducing securitizations decreases a bank's income, and the raising of capital is precisely what is needed in a crisis. Artificially reducing securitization is also the exact opposite of what is needed to ease a housing bust.
A familiar pattern seems to emerge in the analysis. Every proposed government interference is either irrelevant to prevent a crisis or acts to make it worse, just as the classicists warned. What is needed is less government interference, not more.
The House GOP financial reform proposal, which represents a vast improvement in the quality of GOP thinking since its mindless Sarbanes-Oxley days, is focused and reasonable. It should be the basis of any legislative attempt to answer the financial crisis.
Senate Republicans are in a unique position to squander any goodwill they have garnered over the past year by giving the Democrats the one or more votes they need for their unconstitutional financial power grab. For the sake of everyone directly or indirectly dependent on the financial system, let us hope the Good Idea Fairy does not come near them.
