A biblical lesson for today's bankers
Just as Joseph stored food ahead of a drought, banks should build capital for lean times.
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This led, in present times, to the widespread development of fancy new financial instruments that have added to the seriousness of the present bust in the economic cycle. "The credit cycle has to be resisted," White cautions.Skip to next paragraph
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Unfortunately, he notes, Mr. Greenspan and others in the United States warded off vigorous regulatory attempts to dampen the credit boom, holding that the free market decides on values and on buying and selling decisions.
"But sometimes the market does get carried away," he warns. "It is the job of the authorities to maintain some order." They have to lean against tendencies toward asset bubbles and deteriorating credit standards.
But White doesn't see such prudential measures as easy. Financial institutions usually have major political clout and tend to resist any rules that lessen their immediate profits. So regulators must have the will to take a "rule-based regulatory approach."
As for dealing with the "toxic waste" in financial derivatives, "We have to clean them up," says White.
One idea being floated to stop that problem from happening again comes from Harald Malmgren, an economic consultant in Washington. He suggests that the Securities and Exchange Commission require all forms of securitized debts be standardized. They should have "a serial number, name of issuer, and adequate explanation of contents so as to identify the issuer in the event that civil or criminal liability is brought into question," he writes in an e-mail.
Benjamin Friedman, a Harvard University economist, suggests tighter regulations on investments that banks hold "off their balance sheets." This maneuver currently allows banks to avoid the costly regulatory requirement to keep reserves against possible losses.
If banks have any obligation to stand behind such investments and take them back in a time of trouble, then they should not be allowed to place them off their balance sheet, Mr. Friedman says.
Regulators should be more prompt in investigating and correcting any "systemic risks" taken by financial entities, he adds.
Edward Kane, a financial expert at Boston College, urges Washington to set up a game plan to deal with an infrequent spate of financial insolvencies, much as a fire department drills itself on how to fight a spectacular and dangerous blaze. And he wants more attention given to the incentive system in Wall Street that encourages a get-rich attitude and ignores the extra risks involved.