Preventing the Next Crisis: The Case for Boring Banks
Rep. Brad Miller (D-N.C.), chairman of the House Science and Technology Committee's investigations subcommittee, filed this blog post.
Our subcommittee has championed scientific integrity as necessary to informing public decisions. There is plenty of room for debate about policy implications, but scientific facts should be assessed by scientists without political interference.
If there has ever been a time when we need sound, neutral evaluation of economic facts to inform policy decisions, it is now. Simon Johnson said before our subcommittee today that we have a “desperately ill banking sector,” which is no overstatement. But there has been remarkably little discussion in Congress on the nature of the illness, and the diagnosis matters greatly in deciding the right treatment.
The factual premise of our policy appears to be that our banks are facing a rough patch: Many of their assets are illiquid, we are told, because there are no active markets for the assets and because persnickety accounting rules make the banks appear to be on shaky ground -- but the assets are really just fine, and so are the banks.
But others argue that the core competency of markets is determining value, and the problem with the assets isn’t that they’re illiquid and undervalued but that they’re really not worth much. Some of the people who argue that mark-to-market accounting is the real problem with the banks have in the past genuflected when the word “market” was spoken. (Steve Forbes, are you reading this?)
In his testimony, Dean Baker examined the results of the stress tests and found that the banks really don’t hold that many exotic mortgage-backed securities — a class of God only knows how many bonds based on one of God only knows how many tranches of a pool of God only knows how many mortgages. The banks were selling those, but they didn’t really hold many. What the banks have are whole mortgages, and there is an active market for those. There are regular auctions of non-performing mortgages, which is a classic active market. Unfortunately for the banks, Dean found, auctions of non-performing mortgages bring only about 30 cents on the dollar.
Dean’s findings are consistent with the view of a lot of economists that banks’ assets aren’t undervalued but are dramatically overvalued.
The most interesting question isn’t how we climb out of the hole this time, however, but how to make sure we never let this happen again.
Simon pointed out in his May Atlantic article that just a couple of years ago the same banks that now depend on various taxpayer subsidies to survive were swimming in money — compensation in the financial sector was almost twice what it was for other American workers, and much of that was skewed to vulgar compensation for top executives. Even after all that, the financial sector accounted for more than 40 percent of all corporate profits in America. That’s not a healthy financial system, either, and bouncing from one extreme to the other is especially unhealthy.
Simon urged that banks go back to being utilities, as they were in the 1950s and ’60s, when bankers could make an honest living but didn’t make a killing with insanely risky and often predatory practices. Paul Krugman has said pretty much the same thing. He said we need to make banks “boring again.”
One way to make banks boring is with boring regulations. Property and casualty insurance is all pretty boring. In most states, P&C insurers have to file policy forms with regulators. The regulator makes sure there isn't too much information asymmetry between insurer and customer. And insurers have to report to the government on their actuarial projections, sales and profit figures, and claims experience.
I’m sure banks will say such regulation would stifle great innovations like subprime mortgages and credit card fees.
Property and casualty insurers don’t often become billionaires. They aren’t Masters of the Universe. But when’s the last time you heard a P&C policy called a “toxic asset”?
How do we make sure never to fall into this hole again? Make sure to post your thoughts in comments.
-- Rep. Brad Miller is a Democrat representing North Carolina's 13th District.
May 19, 2009; 8:08 PM ET
Categories: Banking , Regulation
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