Tuesday, February 8, 2011

What coersion, regulated fraud, incentivised and legalized corruption and socialized markets look like...

...They look like our markets and our crises.

I hear so many people blaming the lack of regulation for the financial crisis. In NO report do I see any acknowledgement of the regulatory procedures that would have eliminated the threat. The recent financial crisis commission came out with its report and it blame everyone - with the exception of corrupt legislators and socialized markets.

The real issue, regardless of what William Black says about regulation, is not simply better or more regulation - is incentive and risk. Now don't get me wrong, I have a lot of respect for William Black and I post a lot of his video's and contributions on my blog. However, he consistently focuses on one component of the problem.

The real problem that we have is not all that different from Madoff. If Madoff could somehow come up with a product that looked legitimate, smelled ok and was remotely marketable then people could be incentivized to sell it - which he did rather well. What we forget in the financial markets as a whole, is that agencies like Fannie Mae, Sallie Mae, Freddie Mac, FHLN, FDIC were all put in place under the auspices of the Fed and designed to encourage complacency and create a new risk paradigm so that market participants could be encouraged take risks they normally would not have. There is nothing like a Government mandated backstop to get people to change their business methods. In this case, the government and the Fed has known for a long time that they need to create a vast amount of new debt money in order to keep the system afloat. They accomplished this through government guaranteed credit, risk less markets, new instruments such as derivatives and peddling these methods to the rest of the world such as Europe. Mark my words, the EURO was a huge achievement for the Fed and was specifically designed to help with the reckless debt money expansion that they have been on a tear with and continue to this day.

The reality is that Agency debt instruments were insured and underwritten by government bureaucrats who worse than not having proper skills or motivations also got paid tremendously well for illogical and insane accomplishments. Just look at Franklin Raines of Frannie Mae. Under his leadership, he used complex derivative transactions which they could not obviously understand to manipulate the balance sheet and get paid large bonuses. Additionally, their mandate was certain to make them take on the manufacture of financial products that encouraged banks to sell to their hearts content and the government to take on the risk. The reality is that Sub-prime was NOT created by the banks, it was created by the Fed and the government as a way to increase the size the debt money system which was necessary in order to prevent its collapse. No bank in their right mind would have made these types of loans without the specific endorsement and example from the government. Most important they wanted to get stuff off their books and on the governments books. In the end, however, many people believed so strongly in the socialized marketplace as backstopped by these agencies and the government itself, that they did hold securities on their books that they would never in their right minds would have considered in real market and risk system.

Indeed, self preservation is a very good regulator, but it can not compete with a far worse corrupter which is legal, legislated and induced fraud that encourages malinvestment and rewards by orders of magnitude aberrant risk taking over reasonable risk taking.

End the fed...they are up to their old tricks and those stand the same chance of working now as they did in response to the previous bubbles.
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