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<< Previous   of   Next >>   ADVERTISEMENT   CONTACT THE HERALD Mike Benbow, Business Editor benbow@heraldnet.com   Published: Sunday, September 21, 2008 Private-enterprise fix for bank crisis? By James McCusker Modern market systems can trace their origins to seaborne commerce. And the sea could be a fierce disciplinarian. It had no tolerance for character flaws and delivered severe, even cruel, punishment to the unprepared, the careless, the lazy and especially the arrogant, whose hubris blinded them to the reality of risk. Markets are amazingly similar. The language of the sea continues to salt the rhetoric and the analytical language of today's financial markets. Companies and stock offerings are still launched. Ventures still sink. Bonds are floated; portfolios are sometimes under water. And now, of course, we have bailouts. The latest bailout on Wall Street involves AIG, the insurance and financial firm that was, after all, "too big to fail." The Federal Reserve decided to lend the company $85 billion in exchange for stock warrants that effectively left the government in control of the company and its approximately $1 trillion in assets. There is no real precedent for what has happened over the past months and especially over the past week, and as a result there is not really a term in economics to describe it. Maybe the closest thing would be "involuntary socialism." The federal government, in our name and our interest, now finds itself the owner of the largest home mortgage firms in the world ($1 trillion) as well as a trillion-dollar insurance company. It is difficult to tell which is more remarkable; the size of these operations or the fact that they are now publicly owned enterprises. Along with these two bailouts-takeovers, and the previous commitments in guaranteeing the sale of Bear Sterns to JP Morgan Chase, we also now have the federal government's arranged marriage of Merrill Lynch and Bank of America, a union that creates a huge financial services firm -- our largest retail bank, largest credit-card issuer, and largest retail stock brokerage. The marriage took place because it had to. The feds believed that the failure of Merrill Lynch could set off a chain-reaction in financial markets that could propel us and the world into a major recession, or worse. Still, the end result is that after determining that Merrill Lynch was too big to fail we saved it by converting it into something even bigger -- something Way Too Big to Fail. Without second-guessing the decisions made by the Federal Reserve and the Treasury Department, the events of the past months raise important questions in practical economics, after the dust settles -- after the consolidations, marriages, bailouts and sinkings: Is our economic structure stronger or weaker, more efficient or more wasteful, more competitive or more monopolistic? We can't expect much help in answering these questions from either the campaign-crazed Congress or the presidential candidates themselves. But that shouldn't stop us from thinking about the issues on our own. There are at least three things that we should consider in the wake of this financial meltdown. The first is whether the federal government should be the Grand Exalted Bilge Pump Operator for bailouts or, instead, whether a mandatory, privately-funded insurance fund, along the lines of the Federal Deposit Insurance Corporation (FDIC) should be imposed on the financial industry. The second is the need for a government-funded risk assessment agency that can help both investors and regulators to figure out the exposure of financial firms, large and small, to risk. The complexity of today's financial instruments make that process technically demanding, and the ratings agencies have proved themselves inadequate to the task, quite possibly because of their financial dependence on the firms and the industry they rate. The third is to figure out what the capital requirements really are for firms that combine investment banking, brokerage and banking. If Congress is determined not to restore the Glass-Steagall wall between banks and stock underwriting, the least we can do is to update the regulatory environment needed to ensure the stability of the large financial operations that are, in a very real way, too big to fail. Consideration also must be given to the fact that financial markets are not sacrosanct models of "perfect competition" that we meddle with at our peril. They have always been "markets with asymmetric information," as economists call them. Buyers of securities do not have the same quality or timeliness of information as the sellers. These markets need regulations in order to function properly, just as football needs rules in order to be a sport rather than simple mayhem. Lastly, it would lift America's spirit if the Justice Department were to round up a few of the financial jackasses that brought us this mess and make their lives miserable for a while. It wouldn't change anything, really, but it would sure make us feel better. Sail on. James McCusker is a Bothell economist, educator and consultant. He also writes a monthly column for the Snohomish County Business Journal. READER COMMENTS Be the first to comment. 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