Summers on Regulation: What Larry Left Out

After listening to Larry Summers on the topic of Financial Regulation at the Council on Foreign Relations, I had a vague sense of unease. Larry is an uneven speaker – at times he sails along smoothly enough, but at others he sounds stressed, as if he were choosing his words too carefully or forcing them out. For my part, I felt that there was something missing: I didn't hear what I wanted to hear. So when the WSJ published Larry's prepared remarks, I read them over to see if I had missed something. Then I turned to a recording of Larry's speech, from CNBC, meanwhile following along the prepared text. My conclusion: Larry missed something, fairly important.

Here is the portion he severely truncated:

Over-the-counter derivatives, for example, have largely existed outside the regulatory framework despite their explosive growth in recent years. Such markets should be regulated (in new ways) and monitored:

• To prevent them from posing new systemic risks,
• To promote the efficiency and transparency of those markets,
• To prevent market manipulation, fraud, and other market abuses, and
• To ensure that they are not marketed inappropriately to inexperienced parties

The bulleted points didn't make it into the as delivered remarks. Because the regulation of CDS to prevent specifically fraud, abuse and manipulation is extremely important to securing an orderly market and level playing field for small investors such as myself, its omission is troublesome. The wording is familiar, and appeared in Geithner's proposal for the regulation of financial markets.

How much should I be reading into the omission?

Earlier in his remarks, Larry made a big point of observing that a redactor had added the word “virtual” to the text, garnering subdued laughter from the audience. So trivial changes to the prepared remarks were important enough to Larry that he chose to comment on one.

As far as including or leaving out Geithner's opinions, Larry obviously wanted to show he agrees with Tim, as he cites the following with approval:

As Secretary Geithner has said when asked what’s most important for financial stability, “The three most important things are capital, capital, and capital.” Looking forward, we intend to address capital adequacy in the financial system as a central element of the Administration’s reforms.

Tim doesn't usually express himself in platitudes, like reworking the old real estate comment about location, location, location. Phrases like “fraud, abuse and manipulation” are more Tim's style. But apparently not Larry's...

I heard a lot of stress in Larry's voice when he got to the part about derivatives. There are those who accuse him of being the architect of our current financial woes, due to his involvement with the Clinton administration at the time the Commodities and Futures Modernization Act - CFMA - was passed. That is the act that gave us Enron and exempted CDS from regulation, and may be viewed as the source of two of the financial crises Summers alludes to in his remarks, including the most recent one, which nearly led to a Depression.

The Obama administration will have greater success in bringing about appropriate regulation of the financial markets if Larry Summers is given a smaller role: or better yet, relegated to the sidelines.

Comments

[Henry Buttal:]

Hi Tom,

I am going to respectfully disagree with your opinion of Summers' role here.

While I share your concerns over the redacted comments in italics above, I am more concerned that the Obama administration does not appear to be valuing Summers' skills and opinions that highly.

While Summers' may at times be guilty of hubris, one thing he can never be charged with is being unwilling to speak his mind. He is arguably the smartest and most experienced finance guy the Obama Whitehouse has. The administration has managed an endless stream of photo ops, whistle stops, and teleprompted press love ins. And yet, even with all this visibility, we haven't really seen or heard from Larry Summers until now. I expect the frustration you are hearing is from his marginalization within the administration.

Jun 13 09:53 AM

[CautiousInv...:]

Presently trading of CDS and several other exotic instruments are traded over the counter with little disclosure and transparency.

The present argument is whether (1) trades should be executed through "clearing houses" or exchanges and (2) customized products, such as those written by AIG, should stay off the radar screen.

The New York Times has been following this story and the direction of this legislation; it has reported the largest banks and brokers have banded together to form a lobbying alliance to keep the business as profitable as possible by pushing for trades to go through clearing houses and to allow customized products to go unreported.

The bankers want a unit of ICE, which would be overseen the NY Federal Reserve, to clear the trades while some in Congress are pressing for greater reform and are arguing that the Chicago Mercantile Exchange, which would be overseen by the Commodity Futures Trading Commission, offers more transparency and is a more established venue for trading derivatives. Further, the CME would limit customized products more so than would ICE.

Geithner, of course, has yielded to the wishes of the banking community and has proposed that CDS derivatives be traded through ICE; I am not aware of any specific proposals made by Summers but should he press that trades be cleared through ICE it would be a “tell” that he is more interested in bank profitability than he is in true financial reform.

Jun 13 10:10 AM

[HarryHope:]

Too true but let's not forget as Treasury Secretary in 1999 Summers played a decisive role in pushing through the repeal of the Glass Steagall Act of 1933 that was instituted to guard against just the kind of banking abuses taxpayers now are having to bail out.

The guy has a track record of economic failure starting from when he was as advisor to Reagan.

Jun 13 10:28 AM

[joebhed:]

WE CRASHED THIS BUS, SAID LARRY.
"dON'T NEED TO GET TOO SPECIFIC ABOUT HOW OR WHY SHE LEFT THE HIGHWAY.
wE NEED TO MAKE SURE THAT THE NEXT BUS CAN STAND THESE SHARP CURVES IN THE ROAD

Jun 13 12:33 PM

[Wisdom vs. ...:]

Our economy is more regulated now than it has been since 1986, yet we still have "crises." The only way you can prevent "crisis" is by preventing change, and change is good. AIG mis(under)priced insurance. It is that simple; AIG did not create the non-creditworthy home buyers market. Anyone who thinks this was preventable, by anyone other than the Congress that created the problem, is just silly. You can talk CDS until you are blue in the face and it will still not be an important factor in the current recession. Without all those homes and mortgages (and mortgage-supported consumer spending) there would have been no crash, just continued slower growth. More regulation would not have prevented this nor will it in the future

Jun 13 01:32 PM

[Leftfield:]

Now that so much more in our economy is government work, a look at their standards for leadership is important. Larry Summers, such a bright guy, so honest too, I'm sure, has a track record that Geithner can only aspire to, Summers is a chief architect of the repeal of Glass Seagall and the Enronization of our economy. Geithner had lesser roles.
Car Czar is a 31-year-old campaign worker. Several other industrial appointments are equally mind-boggling. Their track records will likely be merely miserable rather than catastrophic; they don't have the training of a Summers, a Reich or a Rubin.
I've spent a lifetime kowtowing to government taxes and requirements at huge expense in many ways and expecting there was legitimacy to it. But they want me to trust them, not my lying eyes far too much. This is getting to be too much for me to swallow; where are most Americans?

Jun 13 01:36 PM

[Tom Armistead:]

nO, WHAT LARRY SAID WAS WE HAD A FOREST FIRE.
dON'T NEED TO LOOK FOR THE CIGARETTE BUTT THAT STARTED IT,
tHERE WAS TOO MUCH TINDER IN THE FOREST...sTUFF HAPPENS...


On Jun 13 12:33 PM joebhed wrote:

> wE CRASHED THIS BUS, SAID LARRY.
> "dON'T NEED TO GET TOO SPECIFIC ABOUT HOW OR WHY SHE LEFT THE HIGHWAY.
>
> wE NEED TO MAKE SURE THAT THE NEXT BUS CAN STAND THESE SHARP CURVES
> IN THE ROAD, AND TO DO THAT WE NEED

Jun 13 03:00 PM

[Tom Armistead:]

Summers has been a mover and a shaker, he makes things happen, he has been where it was at, in with the in crowd, during 1994 there were 4 separate efforts in Congress to bring the CDS menace under control before the conflagration that incinerated the financial system, but he thwarted them all.

Definitely a dynamo, hope he can invigorate the Obama administration's approach to regulation and bring it up on par with what the Bush administration was doing...

I am truly sorry if that subjects you to more taxation and interference from government but that's the way the cookie crumbles.

On Jun 13 01:36 PM Leftfield wrote:

> Now that so much more in our economy is government work, a look at
> their standards for leadership is important. Larry Summers, such
> a bright guy, so honest too, I'm sure, has a track record that Geithner
> can only aspire to, Summers is a chief architect of the repeal of
> Glass Seagall and the Enronization of our economy. Geithner had lesser
> roles.
> Car Czar is a 31-year-old campaign worker. Several other industrial
> appointments are equally mind-boggling. Their track records will
> likely be merely miserable rather than catastrophic; they don't have
> the training of a Summers, a Reich or a Rubin.
> I've spent a lifetime kowtowing to government taxes and requirements
> at huge expense in many ways and expecting there was legitimacy to
> it. But they want me to trust them, not my lying eyes far too much.
> This is getting to be too much for me to swallow; where are most
> Americans?

Jun 13 03:09 PM

[Tom Armistead:]

Larry addressed that issue in the question and answer, Glass Steagall had nothing to do with it. Per Larry, AIG was an "independent" insurance company, and Bear Stearns and Lehman were "independent" banks,,,the independent part I think was independent from regulation...so it follows that there was nothing that contributed to the whole set of problems that banks in insurance had anything to do with it.

I think the same could be applied to any institution that wrote CDS, they were all "independent."

On Jun 13 10:28 AM HarryHope wrote:

> Too true but let's not forget as Treasury Secretary in 1999 Summers
> played a decisive role in pushing through the repeal of the Glass
> Steagall Act of 1933 that was instituted to guard against just the
> kind of banking abuses taxpayers now are having to bail out.
>
> The guy has a track record of economic failure starting from when
> he was as advisor to Reagan.

Jun 13 03:15 PM

[joebhed:]

My humble apologies.
I have no idea how that happened, and I can only hope it will not happen again.
That was from me, not Larry Summers.
But maybe it should have been from Summers.

Financial calamities are not easy to regulate out of existence because nobody has YET analyzed what happened, and without KNOWING what happened, how do you know what needs regulating, and how.

We have heard that the whole problem was not illiquidity, but that illiquidity was the symptom of the problem.
The problem has been best described as insolvency.
But, insolvency of WHAT exactly.

This short read on "How Debt Money Goes Broke" identifies the 'Achilles Heel" of the debt-money system and defines for me the solution - a new money system.
www.financialsense.com...

Jun 13 03:16 PM

[joebhed:]

thanks for that LOL.


On Jun 13 03:00 PM Tom Armistead wrote:

> nO, WHAT LARRY SAID WAS WE HAD A FOREST FIRE.
> dON'T NEED TO LOOK FOR THE CIGARETTE BUTT THAT STARTED IT,
> tHERE WAS TOO MUCH TINDER IN THE FOREST...sTUFF HAPPENS...

Jun 13 03:18 PM

[Tom Armistead:]

It would be impossible for them to marginalize him enough to render him harmless - he is a defnite danger to regulatory reform, a mole from the days of Reagan/Bush laissez faire and do-nothingism.


On Jun 13 09:53 AM Henry Buttal wrote:

> Hi Tom,
>
> I am going to respectfully disagree with your opinion of Summers'
> role here.
>
> While I share your concerns over the redacted comments in italics
> above, I am more concerned that the Obama administration does not
> appear to be valuing Summers' skills and opinions that highly. <br/>
>
> While Summers' may at times be guilty of hubris, one thing he can
> never be charged with is being unwilling to speak his mind. He is
> arguably the smartest and most experienced finance guy the Obama
> Whitehouse has. The administration has managed an endless stream
> of photo ops, whistle stops, and teleprompted press love ins. And
> yet, even with all this visibility, we haven't really seen or heard
> from Larry Summers until now. I expect the frustration you are hearing
> is from his marginalization within the administration.

Jun 13 03:18 PM

[Tom Armistead:]

Liquidity becomes a problem anytime water is used to extinguish a conflagration, there is more water damage than fire damage.

The point is, when the system is flooded with cheap money, it becomes so difficult to earn a decent rate of return that the only way to do it is to apply massive leverage in order to increase returns. That and/or gaming the system...

But we still need a Committee to Investigate the Causes of the Disaster...


On Jun 13 03:16 PM joebhed wrote:

> My humble apologies.
> I have no idea how that happened, and I can only hope it will not
> happen again.
> That was from me, not Larry Summers.
> But maybe it should have been from Summers.
>
> Financial calamities are not easy to regulate out of existence because
> nobody has YET analyzed what happened, and without KNOWING what happened,
> how do you know what needs regulating, and how.
>
> We have heard that the whole problem was not illiquidity, but that
> illiquidity was the symptom of the problem.
> The problem has been best described as insolvency.
> But, insolvency of WHAT exactly.
>
> This short read on "How Debt Money Goes Broke" identifies the 'Achilles
> Heel" of the debt-money system and defines for me the solution -
> a new money system.
> www.financialsense.com...

Jun 13 03:29 PM

[The Geoffster:]

Under the McLaren Act, Congress punted the regulation of insurance to the states. Underwriting CDS is the writing of insurance but it was written by an AIG subsidiary in London. Nevertheless, many of the contracts were written on U.S. based risks and state laws may well have been violated. This is what Elliot Spitzer was onto when he was AG of NY.

Jun 13 04:45 PM

[Leftfield:]

Yes, Elliot Spitzer. Odd how he was removed just as Wall St. started imploding.

Jun 13 05:20 PM

[The Geoffster:]

news.morningstar.com/a...

Jun 13 06:43 PM

[Henry Buttal:]

Tom,

I am going to again offer a slightly different view. I agree that Summers is a Wall Street guy, and was disinclined toward regulation. However, he was not alone in this. The Clinton administration was an active participant in loosening standards, as was Greenspan. And let us not forget Congress refusing to acknowledge the concerns of the Fannie Mae and Freddie Mac auditors and inspectors. Summers won't discuss the past, not only because it probably isn't over productive, but also because a candid review would involve criticism of the current powers.

As has recently been demonstrated, the current administration isn't any fonder than the previous of regulations and Inspector Generals, even if involved in the original sponsorship of the regulation.

Jun 17 10:28 PM