CompliancEX

Banks Must Add $47 Billion in Trade Capital, FSA Says

By Caroline Binham for  Bloomberg, December 10, 2009

U.K. banks must find as much as 29 billion pounds ($47.3 billion) of additional capital by 2011 to put against their trading books under proposals published by Britain’s financial regulator.

Today’s proposals by the Financial Services Authority to strengthen balance sheets would also limit the amount banks and building societies can lend to any single borrower, and tighten rules on what counts as capital. The proposals come in response to changes to European Union rules covering bank capital, one of which is still being debated, the FSA said in a statement.

“The wide range of changes address some of the lessons learned from the financial crisis,” the FSA said. More capital will have to be put aside “to ensure that a firm’s assessment of the risks connected with its trading book better reflects the potential losses from adverse market movements in stressed conditions.”

Lawmakers and policy makers worldwide are grappling with how to overhaul regulation in the wake of the worst financial crisis for a generation. FSA Chairman Adair Turner said in a March report, which was largely endorsed by both the U.K. government and the Group of 20 Nations, that banks would have to put more capital aside and have tighter liquidity rules.

While Turner is against a legal split between banks that take customer deposits and those that trade on their own account, he has said making banks put more capital against risky trades will make certain investments economically unviable.

Proprietary Trading

He told lawmakers as early as February that banks would need to hold several times more capital in “revolutionary” changes to regulations that would lead to the downsizing of proprietary trading.

Proprietary trading is when a bank or financial institution trades securities and other financial instruments with its own money rather than for its customers.

The FSA said today that on average, firms will have to put aside 119 percent more capital against their trading books.

With the overall extra capital, including trading books, needed by banks standing at 33 billion pounds, annual ongoing costs from today’s proposals for firms could total 6 billion pounds, the London-based regulator said. The trading capital proposals would cost banks with “significant” trading books about 1.4 billion pounds a year, the FSA said.

Reducing Costs

“Affected firms may seek to reduce or change the composition of their trading-book assets, thus giving rise to a smaller increase in capital requirements, which would reduce the costs,” the regulator said.

The FSA said that its reforms will help prevent future crises and could boost the U.K. economy by 4 percent of gross domestic product, or 50 billion pounds. The agency’s consultation on the proposals ends in March 2010 with rules taking effect in January 2011.

“Our biggest issue relates to the implementation date, which we think is premature,” said Simon Hills, executive director at the British Bankers’ Association. “A 2012 implementation date would seem to be much more pragmatic and allow alignment with Basel and give banks time to adjust their capital and systems and controls accordingly.”

Basel, or the Basel Committee on Banking Supervision, sets minimum capital rules for banks worldwide.

Skin-in-the-Game

Banks also would only be able to invest in securitizations in which their originator had kept an economic interest of at least 5 percent, a so-called skin-in-the-game. They will have to also undertake significant research into the loans behind the securities before investing, or risk “heavy capital penalties,” the regulator said.

A lending cap would limit to 25 percent of overall lending capital the amount banks can loan to a single borrower, under the proposals.

There will be more stringent rules on what can be counted toward capital buffers, the FSA said. Hybrid capital, which has elements of both debt and equity, must be able to absorb losses for it to be counted as part of a bank’s tier 1 capital ratio, a key measure of banks’ strength. Core tier 1, a subset of that, is mainly shareholder equity.

Lloyds CoCos

Banks would have three “buckets” that would limit the amount of different types of hybrid capital they can hold within tier 1 to 15 percent, 35 percent and 50 percent respectively, the FSA said. The biggest bucket would be limited to hybrid capital that would convert to equity at an emergency trigger point.

Lloyds Banking Group Plc, in which the U.K. government owns a 43 percent stake, is bolstering its capital to avoid the U.K.’s Asset Protection Scheme, which would have increased the government’s stake to about 62 percent and cost the bank 15.6 billion pounds in fees. The bank is issuing $13 billion of enhanced capital notes, also known as contingent convertible securities, or CoCos, that become equity if the bank’s core tier 1 ratio drops below 5 percent.

The FSA said last month Lloyds’ CoCos could be treated as hybrid capital.

 

Mark Cuban granted discovery request in aftermath of insider trading case

By ERIC TORBENSON for The Dallas News, December 9, 2009

Mark Cuban's claim that the Securities and Exchange Commission filed suit against him for personal reasons will get another day in court.

U.S. District Judge Sidney Fitzwater last week granted Cuban's attorney's request for discovery in the aftermath of the insider trading case filed by the SEC.

Cuban (above) wants to prove the SEC maliciously filed the case against him. That would enable him to recover his legal costs.

The SEC said in court filings that it filed its case on sound law after investigating Cuban's actions related to Mamma.com.

Cuban sold his stake in the search engine after learning of a new stock offering that would have diluted his holdings.

Fitzwater threw out the case because the SEC failed to prove Cuban had entered into a binding contract not to trade his shares despite learning insider information about Mamma.com's plans. Cuban contends the SEC knew its case was flawed but filed it because of a grudge against him.

The SEC has declined to re-file against Cuban, though it still may appeal the ruling.

Cuban's attorneys will get limited right to discovery, as will the SEC. Cuban will have until Feb. 1 to make his case.

Cuban had previously said that e-mails from Jeffrey Norris of the SEC questioning Cuban's patriotism were behind the civil suit's filing, a claim the SEC has denied.

 

Regulators Plead Poverty

By Bill Singer for Forbes, December 8, 2009

Let me take you back to the doom-and-gloom days of December 2008, when the world's financial markets were crashing amid fears of a global economic meltdown. The Dow Jones Industrial Average was trading in the 8,000s but was heading into the 6,000s by March 2009. Talk about panic mode.

On Dec. 3, 2008, I wrote a blog titled: SEC Open Letter: Don't Lay Off, Don't Cost Cut. That story was prompted by former SEC Chairman Christopher Cox's November 2008 warnings to Wall Street that imposing cost-cutting on compliance would likely result in violations. In ominous language, Cox said, "There will be no favor granted because a company made a cost-cutting decision to minimize their compliance budget. That's because now and always, the interests of investors are inextricably linked to strong compliance."

On the heels of Chairman Cox's tough talk, the SEC issued an open letter on Dec. 2, 2008, to the CEOs of public firms, which contained this observation: "While many firms are considering reductions and cost-cutting measures, we remind you of your firm's legal obligation to maintain an adequate compliance program reasonably designed to achieve compliance with the law."

Such high-minded, flowery talk always plays well, and in those dark days, well, there wasn't much that the regulatory community was doing besides talking the talk. While it may have been a better idea for Wall Street's cops to have done something approximating their job for the prior decade, by year-end 2008 it was all too little, too late. By then, all the supposed watchdogs were trying to shift the blame to a predecessor or claim that they had done the best they could. As is too often the case, the chorus was a rising swell of “not my fault.”

In the midst of the finger pointing, the Financial Industry Regulatory Authority (FINRA) announced something that was just so bizarre that it still ranks among the more bone-headed actions of those dark days. In late November 2008, in the face of all the SEC's apoplexy about compliance staffing levels and budgets, FINRA asked 300 of its senior staff (about 10% of its staff) to take voluntary early retirement. In commenting on FINRA's cost cutting, I called it pretty much as I saw it: "Some might see hypocrisy in the comments and conduct of our market regulators. Some might see yet more examples of the historic mentality of do-as-I-say-not-as-I-do. Others might see the unending exasperation of regulators who continue to step on each others' toes while comically regulating (or failing to do so) with all the apparent efficiency of the Keystone Kops."

Frankly, for all my vitriolic sarcasm, I was truly puzzled by FINRA's proposal--not just because it was a public relations nightmare for then-CEO Mary Schapiro, but because it seemed idiotic to cripple the organization by getting rid of its most veteran regulators when their expertise was most needed. Of course, there was that other nagging question: How could the self described “independent regulatory organization empowered by the federal government to ensure that America's 90 million investors are protected,” lack sufficient funding to, well, you know . . . protect those 90 million investors?

If you go here and here you can take a look at an unofficial FINRA salary survey. A rough guesstimate is that average regulatory salaries at FINRA seem to be about $80,000 to $100,000, give or take. Let's just guess that more veteran regulators earn about $120,000 a year--of course, we're talking about the grunts who actually do the work, not the senior executives who delegate but get the glory. So what was the cost to FINRA of chopping off some 300 senior salaries? Well, just using my best guess, let's say about $30 million. Quite a savings. But was it a false one--and at what hidden cost?

The Investment News just ran a very disturbing investigative report titled: FINRA execs pocketed millions in '08, while SRO was in the red: 13 current or former regulators made more than $1 million, tax returns say; Former chief administrative officer Michael D. Jones made $4.4 million. The article states that in 2008, when FINRA lost $696.3 million, it spent some $13 million on salaries for just 13 of its heavy hitters. Two things got my attention: One, how the hell does a regulator lose $696 million; and, two, 13 regulators each earned at least $1 million in a year when life as we knew it ended on Wall Street? Among the more troubling findings were that, "SEC Chairman Mary Schapiro, who received $3.3 million last year as FINRA's chief executive officer, is paid $162,900 to run the government agency. Earlier this year, she received another $7.2 million from FINRA as part of her accumulated retirement-plan benefits."

It has gotten even more bizarre. Amid opulent pay packages, over-the-top buyouts and downright questionable management of funds, FINRA has reportedly set aside $1 million for lobbying efforts on Capitol Hill. What's $1 million worth these days to a regulator? How about one senior executive's annual compensation--or perhaps an entire year's salary for a dozen or so of the hardworking men and women who do the nuts and bolts of regulation. I'm sure there are those who will justify FINRA's million dollar lobbying--of course, there are always such apologists.

The regulators plead poverty to the investing public and Congress, but they are awash in luxurious pay packages. We are warned that regulators are grossly underfunded. Taxes must be increased. Fees raised. Services cut. Meanwhile, can anyone break a million dollar bill?

 

Wall Street's Favorite Democrat Melissa Bean Aims To Weaken Current Bank Regulation

By  Mike Elk for the Huffington Post, December 9, 2009

Here she goes again: Wall Street's favorite Democrat, Rep. Melissa Bean, D-Ill. (above), is once again shilling for the banks.

As I wrote back in October, Bean misrepresented the views of financial watchdog Elizabeth Warren in arguing that states should not be able to set tough laws against the banking industry.

Now Bean is offering an amendment to the bill that would authorize the creation of a Consumer Financial Protection Agency and institute other key reforms that would weaken the ability of states to regulate banks. Lauren Sanders, managing attorney, National Consumer Law Center, explains to me in an email:

The amendment gives the [Office of the Comptroller of the Currency] and [the Office of Thrift Supervision] expansive new powers to preempt state consumer protection laws, far beyond what they currently have. The amendment also makes every CFPA rule and every federal consumer protection statute that the CFPA will administer a ceiling as to banks, even in many areas of state law that are not currently preempted, including Equal Credit Opportunity Act; Fair Debt Collection Practices Act; Fair Credit Reporting Act, Real Estate Settlement Procedures Act, and Graham Leach Bliley Act's financial privacy rules

In layman's terms, Bean's amendment guts the current regulatory framework in which states play the role of the local cops on the beat. It's like moving all of the country's fire departments to Washington. We need regulators out on the front line who can respond quickly to problems before someone's house is burned down by a liar's loan or an entire economy is burned by risky investments.

As Melissa Bean's own attorney general Lisa Madigan of Illinois has argued, not allowing states to impose tough regulations on the banks was one of the reasons for the financial crisis:

Federal laws have frequently stymied state reform efforts. These laws preempted states from regulating certain risky loan terms and features. It was precisely these types of features that led to widespread abuses in the mortgage lending market. State attorney generals saw the abuses of prepayment penalties, which often locked burrowers into unaffordable sub-prime mortgages. Yet federal preemption barred the states from enacting tougher laws to address these abuses, even as applied to those entities we regulate.

We need states to be cops on the beat watching the banks. So why in the world is Bean trying to disarm the police so necessary for protecting Main Street from Wall Street?

It's because the three-term Illinois congresswoman and leader in the New Democrat Coalition has pocketed almost $2.2 million since she's been in Congress from the banking and financial services interests she oversees as a member of the House Financial Services Committee, according to the Center for Responsive Politics, including $338,125 so far this year.

Wall Street Democrats like Bean are currently flooding the House floor with amendments favorable to Wall Street to the House financial reform bill.

We shouldn't stand for Democrats doing the work of Wall Street when they are supposed to be doing the work of the American people. We need to get our cops back on the beat protecting Main Street from Wall Street.

 

Financial Oversight: We’re Still Waiting, Mr. President

By Stanley Kutler for TruthDig, December 9, 2009

Even if President Barack Obama doesn’t deliver the change he promised, at least he could restore basic oversight in key financial areas.

The need was highlighted by a story out of Cleveland last week. On Friday, Federal Deposit Insurance Corp. regulators seized the AmTrust Bank, the fourth-largest U.S. bank or savings institution to fail in 2009. The AmTrust debacle—the FDIC had dutifully guaranteed the bank’s deposits at a cost of more than $2 billion—vividly reflects the Obama administration’s steadfast commitment to the status quo.

Founded in 1889 as the Ohio Savings Bank, the company eventually morphed into a prominent player in northeastern Ohio, along with the National City Bank, which was seized by the FDIC a few months before the action against AmTrust.

During the wild speculative days of the late 1980s and the 1990s, and as banking regulations were overthrown, AmTrust expanded beyond its Ohio settings into southeastern Florida and Arizona, which proved fertile grounds for selling dubious mortgages and other investments.

Regulators periodically questioned some AmTrust practices, but apparently the bank had enough political influence during the Bush administration to keep the overseers at bay. On Dec. 5 The Wall Street Journal reported that the FDIC had been poised to seize the bank week earlier. After the FDIC finally acted, the New York Community Bancorp bought AmTrust at a much lower price than it would have fetched a year earlier, when the feds already recognized the bank’s precarious status.

AmTrust joins the legions of banks that abandoned any notion of prudence, once the financial community’s First Commandment. The bank’s troubles stemmed from ill-considered gambles in the housing market. It ventured into new geographic markets, offered aggressive mortgage and construction lending and racked up mind-numbing losses in derivatives that dominated its unbalanced sheets.

AmTrust did not receive funds from the Troubled Assets Relief Program (TARP) in 2008 or 2009. Without assistance such as its larger rivals received, AmTrust could not extricate itself from a mountain of bad debts. It apparently was not too big to fail.

President Obama and his advisers now have had more than a year since the election to devise programs needed to prevent another financial meltdown. The buccaneers of the financial community simply remain free to restore the disaster from which they were rescued with taxpayers’ money.

We have a “regulation czar,” but so far we have no new regulations. Treasury Secretary Timothy Geithner and the White House’s chief economic adviser, Larry Summers, have proposed some new laws, but we can expect little from those with a track record of enabling the bad policies and actions of the past three decades.

Senate and House bills offer a modicum of new regulation, but the legislative measures are floundering, damned for proposing too much or not proposing enough. Restoring the government regulation that both enabled and watched over the nation’s prosperity since 1945 appears as remote as gaining meaningful health care reform.

How do you achieve regulation when the leading players are the recipients of campaign backing from those they are supposed to regulate? Sens. Max Baucus, Christopher Dodd, Charles Grassley and Richard Shelby, the chairs and ranking committee members charged with effecting such reforms, rank among the top recipients of campaign contributions from those they are supposed to regulate. Surely, some bad joke is being played on us.

President Harry Truman, in his famous 1948 campaign, never hesitated to strike a partisan chord; appeasing opponents was not his style. He lit into the 80th Congress, his favorite adversary, saying that “the biggest lobby in the history of the country was at work [in that Congress] and they accomplished their purpose, they did.” You could not, he continued, expect Republicans to “come out in the open” and acknowledge their masters. “You’d take them out and hang them if they did.”

Today’s Democrats, as well as Republicans, openly serve their campaign paymasters, whether in the financial industry or the health industry, and Obama is no Harry Truman when it comes to taking on Congress and special interests. Change has left the room.

 

Britain to Levy a One-Time Tax on Banker Bonuses

By LANDON THOMAS Jr. for The New York Times, December 9, 2009

The chancellor of the Exchequer, Alistair Darling, announced a one-time tax on bank bonuses Wednesday, part of the government’s effort to shore up the still-weak British economy.

Banks will be charged a 50 percent tax on 2009 bonuses of more than £25,000, or $40,800. It will be imposed on the pool of bonuses paid by a bank, rather than individual payments, and it will be paid by the bank — not by the recipient of the bonus. It will take effect immediately and will affect banks’ 2009 profits.

The levy represents the most direct attack on bank bonuses anywhere in the world. All banks in Britain – including the London-based subsidiaries of foreign banks — will be affected, whether they took government funds or not.

“Last year banks made £80 billion in losses,” Mr. Darling said during a pre-budget speech to Parliament that was frequently interrupted by howls of protest from members of the opposition Conservative Party. “But if they insist on paying substantial rewards, I am determined to claw money back for the taxpayer.”

The tax measure was the highlight of a push by Mr. Darling to persuade voters in Britain, as well as investors at home and abroad, that the Labour Party has the ability to tackle Britain’s budget deficit, which at 13 percent of gross domestic product is among the highest in Europe.

In his speech, he said his government aimed to more than halve the deficit by 2013 through tax increases and sharp spending cuts.

His strong words on cutting the deficit come against a backdrop of increasing investor unease about the ability of governments everywhere to address deeply imbedded debt problems.

In Greece, where a new Socialist government is struggling to prove it is serious about reducing a deficit that in proportion to its economy is similar to Britain’s, the cost of insuring Greece’s sovereign debt continued its recent rise Wednesday.

The same was true in Dubai, where there is an increasing fear that other government-controlled entities beyond the troubled conglomerate Dubai World will have to restructure their debts.

“The markets will be skeptical” of the British measures, said Simon White, a partner at Variant Perception, a research house based in London. “The numbers are minimal compared to the scale of the deficit.”

Mr. White pointed out that the current yields on government debt, commonly known as gilts, do not reflect the real levels of risk related to Britain’s public finances.

The British government has paid out £1 trillion in support of its hobbled banking sector, a sum that underscores the financial sector’s large contribution to the overall economy.

When times were good, the Labor government paid little heed to the rich sums being earned in the City of London, the financial district, given the large tax contribution that financial firms made — 43 percent of corporate taxes in 2007.

But the collapse in bank profits has led to a precipitous drop-off in tax receipts at a time when public expenditures are being extended to combat a recession that is among the longest in Europe.

In his speech, Mr. Darling outlined a raft of austerity measures, such as capping public sector pensions and wage increases that will hit core members of the Labour Party constituency in order to appease the increasingly restive holders of government bonds, who are likely to sell their gilt holdings at the slightest sign that the government is not committed to cutting its deficit.

The move to tax bonuses largely contradicts a core plank of the Labor Party’s policy crafted by politicians like Peter Mandelson, the powerful business secretary who along with former Prime Minister Tony Blair fought hard to make Labor a business- and finance-friendly party.

Now, Prime Minister Gordon Brown has reverted to a style of class-based electioneering.

For example, in a move that harkened back to the hard-left politics of the Labor Party in the 1970’s, he derided the private school background of David Cameron, his conservative rival.

The tax on bonuses, however, is not without precedent. In 1981, the British government under Prime Minister Margaret Thatcher imposed a one-time tax on bankers, who were making large profits thanks to the high interests rates that prevailed at the time.

Twenty-eight years later, it is a Labor government taking the same approach, although now it is the low interest rates coming from aggressive central bank action that has led to what many see as unseemly banking profits.

To a large extent the levy underpins a quite broad understanding here – even among those generally sympathetic to the industry — that bank profits this year were largely subsidized by the government due to historically low interest rates.

“I think banking has become a truly parasitical business,” said Andrew Hilton, who runs CSFI, a research center that focuses on financial issues. “Bankers these days borrow money at 30 basis points and lend it to the government at 300 basis points and then they go play golf.”

In a speech this week before a group of bankers and lawyers, Mr. Darling said that bankers needed to be able “to look their neighbors in the face” and explain why they deserved such sums at a time when their fellow citizens are suffering.

At the center of the bonus debate is Royal Bank of Scotland, which after a recent capital injection is now 84 percent owned by the government. This week, the British Treasury announced that it would reserve the right to veto an increase in the bank’s bonus pool to an estimated £1.5 billion and that no executive at the bank paid over £39,000 would receive a discretionary cash bonus. Instead, they are to receive deferred stock.

The Treasury has said that these steps are justified, given the large taxpayer stake in the bank. But for many within the bank, and shareholders as well, the veto threat is seen as political meddling that will impair the bank’s competitiveness because top-flight bankers might leave — a predicament similar to the one facing Citigroup in the United States, which also took billions of dollars in U.S. government funds to shore up its finances and has yet to pay it back.

Short sellers have targeted shares of R.B.S. lately, driving them down about 14 percent in recent days.

This week, Robert E. Diamond, the head of Barclays investment bank and traditionally one of the highest-paid bankers in London, warned that a bonus tax could spark an exodus and hurt the City’s reputation as a leading financial center.

But with even the traditionally banker-friendly Conservative Party lashing out at the bonus culture and anti-banker sentiment growing, political momentum for the tax seemed almost unstoppable.

 

Lobbying Against Reform

By Thomas Cooley for Forbes, December 9, 2009

We are now in the midst of a very important national debate. This is not the breathless hype of 24-hour cable news--it's for real. Nothing less than the future of our financial system is at stake. Will we be beset by frequent crises, like the one experienced last year that paralyzed the financial system? Or will we address the underlying flaws in a thoughtful way that mitigates the possibility of future meltdowns?

If the lobbyists and the financial institutions that employ them have their way, we will come out of these debates doing business as usual. They have a vested interest in avoiding change. By the time the next crisis is upon us, they will have retired from the field of battle, leaving taxpayers and policymakers to ponder yet another attempt to solve the problem.

This week, the House will begin debating ‘‘The Wall Street Reform and Consumer Protection Act of 2009’’ and the Senate will begin marking up the “Restoring American Financial Stability Act.” Each of these bills addresses the problem of reforming the regulatory system. Both cover many areas of substance: consumer protection, systemic risk regulation, compensation, over-the-counter derivatives, ratings agencies, etc. And there is much substance in the proposed regulations. The question is--how much of the substance will survive the political lobbying process?

By early November, more than 1,500 lobbyists had registered with Congress to work on the new rules to limit financial risks and impose stricter consumer protections. Those are only the ones who registered as lobbyists; there are many other industry representatives who didn't. The financial services industry is estimated to have spent more than $220 million before the legislative push even began.

Legislators have heard from small community banks and large Wall Street banks, as well as from insurance companies, credit card companies, retailers, car dealers, telephone companies, real estate companies, credit unions, mutual funds and hedge funds. In short, an army of lobbyists all looking out for some narrow special interest. Change is fine--as long it impacts the other guy, the other industry, the other business model.

Their fingerprints are all over the resulting legislation. To take just one example, consider the Consumer Financial Protection Agency present in both the House and Senate Bills. If designed and executed correctly, without adding unnecessary bureaucracy--certainly a big "if"--this has the potential to be useful. Just to be clear, it won’t do anything to prevent future financial crises. (Contrary to the motivating language, it had relatively little to do with the recent one.)

Nevertheless, responsibility for consumer protection is scattered throughout all the existing agencies and as a consequence has fallen between the cracks. There's no doubt that many consumers have been battered by bad decisions (that they made) about mortgages, credit card debt, auto loans and so on. There is no doubt that these bad decisions were driven by some very unscrupulous business practices. The level of financial literacy among U.S. households is shockingly low and, at a minimum, addressing that problem would be a worthy outcome.

What are the major financial decisions made by households? The purchase of durables like automobiles and appliances, the purchase of homes and retirement planning. But the house bill H.R. 3126 exempts financing provided by automobile dealers, any person regulated by the Securities and Exchange Commission, any person regulated by a state insurance regulator, smaller banks and credit unions (those with $10 billion or less in assets), mortgage, title, credit insurance, real estate brokers and agents, attorneys and most retail transactions involving credit. The Senate proposal has fewer carve-outs but does exclude small banks and credit unions, merchants, retailers and other non-financial institutions that extend credit to consumers. So who is left to regulate? By the time the lobbyists have finished their work, the legislation seems pointless--and that, indeed, is the point at hand.

It looks as though the lobbyists have done a pretty good job of ring fencing the legislation but just in case, the U.S. Chamber of Commerce stepped in as well. In their own words: “ The U.S. Chamber and more than 2,100 chambers of commerce, associations, businesses and individuals from around the country sent a letter to all members of Congress last night underscoring their opposition to H.R. 3126, the Consumer Financial Protection Agency Act (CFPA). In it they expressed strong concern over the proposed CFPA legislation for not adequately addressing the failures within existing regulatory agencies. Instead, it would create a new and massive government bureaucracy that would reduce consumer choice, stifle innovation, and restrict access to credit just as we are beginning to see signs of an economic recovery.” How very public spirited of them to point this out.

Much more is at stake in the proposals to address systemic risk and the regulation of the large financial institutions. This is what brought the financial system to the brink. The public, the business press, the bureaucrats and the politicians are all making a lot of noise about consumer protection, compensation, the Federal Reserve. This is mostly a side show - a diversionary tactic.

To understand what really concerns them, consider the following excerpt from a letter sent by the Business Roundtable, the lobbying group of CEO’s to the lawmakers:

“We are writing to express serious concern about legislation that would give the federal government the authority to pre-emptively break up large financial institutions. … Large financial institutions provide unique and significant value to firms engaged in the international marketplace. The sheer size of credit large financial firms can deliver, the array of products they can offer and their geographic reach are critical to business operations and, therefore, contribute importantly to economic growth and job creation. If large firms were dismantled, these products and services simply might not be available."

What they fear more than anything else is losing access to the tremendous money pump they have at present. The large complex financial institutions, in case you haven’t noticed, are making money hand over fist. They are greatly enabled this by the fact that they have a very low cost of funds. Why? Because they have unpriced too-big-to-fail guarantees and access to the Fed. This means taxpayers are underwriting the low internal cost of funds that these firms have. They can turn around and invest these in their own proprietary trading, hedge funds and asset management businesses--things they're afraid of losing. It is far more important to them than consumer protection or guidelines on pay.

President Barack Obama promised us a Washington in which lobbyists and special interests had much less power. In which thoughtfulness and long-term strategy were more important than politics and expediency. We all agreed that these were worthy goals.

So, what happened?

 

Corporate Governance: Don't Rush Reforms

By Frank Aquila for Businessweek, December 9, 2009

The last decade has been an economic perfect storm. Things got off to an unpleasant start with the bursting of the dot-com bubble. The Enron/WorldCom/Tyco scandals followed close behind. The past few years have featured the subprime mortgage crisis and the credit crunch precipitated by the Lehman Brothers bankruptcy. For equity investors pummeled by losses, this has been a decade to forget.

When bad things happen, human nature yearns to identify and punish whoever is responsible. Seeking protection, we also want to fix things so that such problems never occur again. However, this can be a bit like generals fighting the last war: Legislating a "one-size fits all" solution in response to a particular economic situation is rarely effective at preventing future, largely unpredictable problems. If it were otherwise, the Sarbanes-Oxley legislation enacted in 2002 would have eliminated all problems in corporate governance, financial controls, and disclosure.

That hasn't happened. Sarbanes-Oxley has not, as many predicted when it was enacted, eliminated all corporate ills. While the legislation certainly did not create the subprime mortgage crisis, it unfortunately did not prevent it. In fact the subprime meltdown and its aftereffects may well be the best testimony that even the most comprehensive revision to American corporate governance in more than a generation could not repeal the economic cycle or pop the next "bubble" before it burst.

The reality is that no set of corporate-governance mechanisms could have forestalled a crisis of the magnitude or complexity of the one we have experienced.

U.S. DIRECTORS ACT FOR SHAREHOLDERS

What is corporate governance and why should we care about it? In modern capitalism there often is a distinct separation of ownership (the shareholders) from control (the board of directors and senior management) of the business enterprise. Corporate governance defines the relationship between the shareholders and the managers. The willingness of investors to purchase a corporation's shares is based not only on the performance of the business, but also on the trust in that corporation created by effective corporate governance.

In the U.S., the cornerstone of corporate governance has long been reliance on the board of directors to act on the shareholders' behalves to supervise and direct the management of the corporation.

Corporate governance is not designed just to avoid the next financial disaster. Effective corporate governance is also good for business. Academic studies have consistently shown that companies with independent boards of directors produce greater returns on shareholder equity, achieve higher profit margins and return more capital to their investors than competitors without independent boards. The shareholders of Enron learned the hard way that weak corporate governance can facilitate an environment in which fraud and mismanagement can occur.

James Wolfensohn concluded when he was president of the World Bank that "the governance of companies is more important for world economic growth than the government of countries." Simply put, well-governed companies deliver better results.

A CORPORATE-GOVERNANCE FREE-FOR-ALL?

We have seen a steady stream of corporate-governance reform proposals in the last several years. Some are worthy, some are bad, and a few are distinctly misguided. While many of these proposals focus on increased shareholder influence over corporate policy, many focus on political "hot button" issues such as social responsibility, global warming, government influence, and political contributions.

As we consider various proposals and their proponents, a few observations become increasingly clear. First, corporate governance is now merely a catchphrase used to promote and justify a relatively broad range of restrictions and requirements on the U.S. private sector. Second, the constituencies that are staking a claim to the "corporate-governance" turf are extraordinarily diverse, with varied agendas. Whether we agree or disagree with their proposals or subscribe to their agendas is largely irrelevant.

So another round of corporate-governance reform is likely inevitable. It has long been the premise of American capitalism that profit and return on investment to shareholders are the primary indicators of the success of a business enterprise. Guided by this thesis, corporate-governance mechanisms have been, and should be, designed to increase the likelihood that the corporation will create value for its owners.

Strong corporate governance is essential to achieving shareholder value and sustainable economic growth. To be effective, a balance must be found that gives weight to the legitimate interests of all stakeholders. Few businesses can achieve long-term profitability and growth if they are at war with their employees, consistently violate the law, or are in conflict with the communities in which they operate. This does not mean that the employees, the government, or local communities necessarily have a formal role to play inside the boardroom. Rather, the board of directors needs to take into account the interests of these constituencies and achieve a balance which will likely create long-term growth for the corporation.

SHAREHOLDER VALUE AND ECONOMIC GROWTH

Certain basic elements of corporate governance appear to work across industries, geographies, and circumstances. The independence of a majority of the board and accurate, transparent public disclosure are key in almost all circumstances. If a majority of the directors of the board of a public company is independent and faces no impediments to making fully informed and disinterested decisions regarding the company, the best possible results are likely to be achieved. An independent board of directors—coupled with accurate, clear, public disclosure—has consistently provided shareholders with the most effective protections.

To implement changes that go beyond the basic principles that have worked so well would risk losing focus on the role of corporate governance and indeed, the role of the corporation in our society. The farther corporate governance strays from these core principles, the less likely it is that directors and the corporations they oversee will be able to achieve their fundamental mandate of increasing value for shareholders and providing economic growth for society as a whole.

Corporate-governance reform is coming, but any "reform" that fails to recognize the ideals that have made American capitalism the global symbol for prosperity and wealth creation will most certainly fail. As any doctor will caution, the first rule is do no harm. We can only hope that legislators, regulators, and shareholders remember that rule.

 

Ponzi scheme with Napa ties costs investors $200+ million

By BEN FOX for the Associated Press, December 9, 2009

Losses by investors in the Caribbean-based Millennium Bank are more than triple what U.S. authorities initially projected and little is likely to be recovered, a court-appointed receiver says in a new report on the case.

Millennium and its affiliates took in more than $246 million since 2006, receiver Richard Roper said in an update filed in a federal court in Texas. The total includes supposed gains from allegedly fraudulent certificates of deposit rolled over by investors into new investments, but a breakdown wasn't given.

Roper also had bad news for the more than 800 investors, reporting that months of selling assets and searching for bank accounts has yielded only a small percentage of the missing millions.

What will be available to pay claims will be far less than expected, he said. "Indeed, investors stand to recover little cash, if any, on their investment," he said in the report, filed with the court Friday.

The U.S. Securities and Exchange Commission had said investor losses totaled at least $68 million when the agency filed suit in March alleging that William J. Wise (above) and several associates -- including a Napa woman and her family -- ran a Ponzi scheme through the bank, based in the eastern Caribbean nation of St. Vincent and the Grenadines.

Lawyers for investors had predicted the total losses would grow higher.

Keith L. Miller, an attorney in Boston, said he represents more than 180 people whose losses alone exceeded $90 million. Most he said were modest investments by people who thought the offered rates of 6 percent to 10 percent on the bank's CDs were not out of line.

Wise, a Canadian attorney who was based in Raleigh, North Carolina, was the alleged architect of the scheme, working with associates in Napa.

Kristi Hoegel, 34, of Napa, is named in the SEC complaint along with a half dozen other suspects, including Hoegel’s parents, Jacqueline and Daryl Hoegel of American Canyon, and a brother, Ryan Hoegel of Lincoln, a town northeast of Sacramento.

Authorities allege none of the invested money was actually invested, as promised by the bank's representatives, but instead was used to pay earlier investors or was spent by Wise and the other participants in the scheme.

According to the SEC, Wise allegedly received $12.3 million, while Kristi Hoegel received $965,000 and her mother obtained $854,000, based on its initial investigations earlier this year.

Wise, who has not responded to the SEC's allegations in court, could not be reached for comment. He has apparently left the U.S. amid an FBI investigation into the alleged scheme, Roper said in court papers.

Last month, the receiver auctioned off property seized from Wise and his family in North Carolina, generating more than $750,000.

 

Ron Paul’s Fed-Bashing Wins Over Lawmakers Wary of Bank’s Power

By Catherine Dodge for Bloomberg, December 9, 2009

For U.S. Representative Ron Paul, the ninth time may be the charm.

After fighting for decades to increase scrutiny of the Federal Reserve or abolish it, the Texas Republican’s proposal requiring audits of the central bank’s interest-rate decisions is getting traction.

The long-shot 2008 presidential candidate whose anti-tax, anti-government politics struck a chord with a swath of voters is again channeling public frustration with big government, bailouts and rising federal debt. And as Paul trains his sights on his favorite villain, the Fed, many in Congress are listening.

“We live in the age of the people demanding more transparency, and that came out of the failure of Congress to monitor the bailouts,” Paul, 74, said in an interview. “I was able to tap into that.”

Paul’s message, once delivered mostly from the political margins, has found broader acceptance as many lawmakers blame the Fed for failing to curtail excesses that led to the financial crisis.

These lawmakers say that as the Fed’s role has expanded, it hasn’t sufficiently accounted for putting taxpayers’ money at risk, including aid to companies such as Citigroup Inc. and American International Group Inc., both based in New York.

“He’s ready with an argument that fits the moment,” said Bruce Buchanan, a political scientist at the University of Texas in Austin. “It’s an argument that used to seem extreme, but now seems reasonable given the view the Fed contributed to the financial meltdown by failing to exercise due oversight.”

House Debate

The House is to start debate today on broader legislation overhauling U.S. financial rules. Included in it is Paul’s proposal to remove the shield on congressional audits of monetary policy.

Fed Chairman Ben S. Bernanke, at a Senate hearing Dec. 3, said Paul’s proposal could subject the central bank to political pressure and undermine its credibility.

“My fear is that if we were to take what might be perceived as an unpopular step, that Congress would order an audit, which would be a way, essentially, of applying pressure,” he said.

The Fed also faces scrutiny in the Senate. Banking committee chairman Christopher Dodd, a Connecticut Democrat, is sponsoring legislation to strip it of authority to supervise banks and protect consumers.

White House spokeswoman Jen Psaki declined to comment on Paul’s amendment. More than 300 House lawmakers, a majority of the chamber’s 435 members, have signed on to back it.

Good Timing

Representative Mel Watt, a North Carolina Democrat, said Paul “found a good political time to try to do this because everybody is somewhat disenchanted with the Fed.” Watt was among those opposing Paul’s proposal when it passed the House Financial Services Committee.

Watt said he hopes that if and when the House bill on financial regulation is merged with a Senate version, “we’ll find our way back to a better” approach than Paul’s to dealing with Fed scrutiny.

Paul’s plan faces resistance in the Senate. Senator Judd Gregg, a New Hampshire Republican, vowed to block any measure containing it.

No Debate

During his 11 House terms, Paul has introduced legislation to abolish the Fed six times and to conduct the audits three times. Until now, none was even debated in committee.

“I’ve been speaking and writing on this subject for more than 30 years, but there was a time when hardly anyone cared what I had to say,” Paul wrote in his latest book “End the Fed.” “The economic crisis has changed everything.”

Paul, who ran for president in 1988 as the Libertarian Party candidate, also advocates a return to linking the dollar to gold.

Representative Brad Sherman of California, a Democrat who supported Paul’s amendment in the Financial Services Committee, said his position isn’t an endorsement of Paul’s broader views.

“If you left it up to Ron, he’d convert the Fed building into residential condos.” Sherman said. “His amendment is far less radical than his rhetoric.”

AIG Factor

Financial Services panel chairman Barney Frank, a Massachusetts Democrat, said the Fed’s failure to place compensation restrictions on AIG, the insurer bailed out by the U.S. government and later vilified by Congress over bonus payments, fueled momentum for Paul’s amendment.

Paul’s stance on many issues goes beyond the Republican mainstream. He has proposed scrapping the income tax and sees no federal role in education or health care. He opposed the Iraq war and the Patriot Act, which gave law enforcement greater latitude to investigate terrorism.

“I am very, very confident that the message of freedom and limited government and non-interventionist foreign policy is the right way to go, and I think people like to hear that,” Paul said.

A retired obstetrician, Paul practices what he preaches. He refuses his congressional pension and didn’t allow his five children to take federal student loans.

Paul’s views drew enthusiastic crowds during his 2008 presidential bid, in which his campaign treasury outpaced higher-profile candidates. Paul raised $34.5 million, more than double that collected by now-Vice President Joe Biden in the Democratic presidential race.

Paul said that while his audit proposal has advanced beyond his expectations, he doesn’t see smooth sailing ahead.

“I just can’t imagine the president being allowed to sign a bill like that,” he said. “He would hear too much about it.”