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Obama Announces "New Rules" To Address Financial Crisis

Politics / Credit Crisis 2009 Jan 26, 2009 - 07:00 AM GMT

By: Mike_Shedlock

Politics

Best Financial Markets Analysis ArticleAs part of his rescue plan, Obama Signals Tough Restrictions on Banks in Rescue Package .

President Barack Obama signaled that he would toughen restrictions on and oversight of banks as part of a fresh plan to aid the battered industry.Obama blasted the banks yesterday over reports that they've spent money renovating offices after receiving billions of dollars from the government and vowed they would be held accountable for any aid they receive in the future.


The tough talk seemed designed to build support for a rescue plan that aides say Obama will roll out soon by reassuring lawmakers and voters that the administration will keep close tabs on money it hands out. Pressure for a plan is building after the Standard & Poor's 500 Index fell for the third straight week, in part because of concerns about the health of the banks.

White House press secretary Robert Gibbs said the president has directed his advisers to come up with new restrictions on the second half of the $700 billion financial-rescue plan, saying the money won't go to “line the pockets of people” who've gotten financial assistance.

Senator Bill Nelson, a member of the Finance Committee, said he talked yesterday with Geithner and was told the administration would increase oversight of the TARP money. “I have received direct assurances today from the nominee for Treasury secretary that he will support disclosures and transparency including for money already spent,” Nelson, a Florida Democrat, said yesterday.

Obama Plans Fast Action to Tighten Financial Rules

The New York Times goes into greater detail in Obama Plans Fast Action to Tighten Financial Rules .

Officials say they will make wide-ranging changes, including stricter federal rules for hedge funds, credit rating agencies and mortgage brokers, and greater oversight of the complex financial instruments that contributed to the economic crisis.

Broad new outlines of the administration's agenda have begun to emerge in recent interviews with officials, in confirmation proceedings of senior appointees and in a recent report by an international committee led by Paul A. Volcker, a senior member of President Obama's economic team.

A theme of that report, that many major companies and financial instruments now mostly unsupervised must be swept back under a larger regulatory umbrella, has been embraced as a guiding principle by the administration, officials said.

Officials said they want rules to eliminate conflicts of interest at credit rating agencies that gave top investment grades to the exotic and ultimately shaky financial instruments that have been a source of market turmoil. The core problem, they said, is that the agencies are paid by companies to help them structure financial instruments, which the agencies then grade.

“Until we deal with the compensation model, we're not going to deal with the conflict of interest, and people are not going to have confidence that the ratings are worth relying on, worth the paper they're printed on,” Mary L. Schapiro said in testimony earlier this month before being confirmed by the Senate to head the Securities and Exchange Commission.

My Comment: Finally!!! I have been harping about this forever.

Please see Time To Break Up The Credit Rating Cartel . The big problems are 1) government sponsorship of the ratings agencies and 2) The way the agencies made money.

It seems as if at least one of those problems will be fixed.

Timothy F. Geithner, the nominee for Treasury secretary, made similar comments in written and oral testimony before the Senate Finance Committee.

Aides said they would propose new federal standards for mortgage brokers who issued many unsuitable loans and are largely regulated by state officials. They are considering proposals to have the S.E.C. become more involved in supervising the underwriting standards of securities that are backed by mortgages.

The administration is also preparing to require that derivatives like credit default swaps, a type of insurance against loan defaults that were at the center of the financial meltdown last year, be traded through a central clearinghouse and possibly on one or more exchanges. That would make it significantly easier for regulators to supervise their use.

“I believe that our regulatory system failed to adapt to the emergence of new risks,” Mr. Geithner said in a written response to questions that was made public on Friday by Senator Carl Levin, Democrat of Michigan. “The current financial crisis has exposed a number of serious deficiencies in our federal regulatory system.”

Other elements of the regulatory overhaul, such as the requirement that hedge funds register with and be more closely supervised by the S.E.C., would mark a sharp departure from the policies of the Bush administration. Many hedge funds now voluntarily register and subject themselves to some regulation, but the Bush administration opposed attempts to make registration and tighter oversight mandatory, even though that was proposed by William H. Donaldson, a chairman of the commission appointed by President George W. Bush.

My Comment : The Hedge Fund model is dying, primarily on its own accord because of excessive fees and lockup restrictions preventing withdrawals. Hedged funds in general claimed to be able to make money in any market climate and most failed miserably. It was a huge mass of roll the dice with massive leverage using OPM. Other people's money. Incentives were such that it spawned recklessness.

However, to expect the SEC to do anything that makes any sense is a bit farfetched. It was the SEC that created the rating agency model that blew up and it was the SEC that ignored Madoff. All in all, Hedge funds at least outperformed the S&P 500 and the amazingly bullish buy and hold nonsense heard nearly everywhere on Wall Street. Hedge funds are mostly being used as a scapegoat.

But other proposals the Obama administration is preparing to make, like tighter federal regulation of mortgage brokers, had been recommended in Mr. Paulson's blueprint.

Officials said some credit default swaps with unique characteristics negotiated between companies might not be able to trade on exchanges or through clearinghouses. But standardized or uniform ones could.

“We want to make sure that the standardized part of those markets move into a central clearinghouse and onto exchanges as quickly as possible,” Mr. Geithner testified. “I think that's really important for the system. It will help reduce risk and the system as a whole.”

The new trading procedures for derivatives could also enable regulators to impose capital and collateral requirements on companies that issue credit default swaps that would make them safer investments. American International Group, one of the largest issuer of such swaps, never had to post collateral and nearly collapsed as a result of issuing a huge volume of such instruments that it was unable to support.

My Comment : Nearly collapsed? AIG did collapse and it should have been allowed to go bankrupt. The reason it was bailed out is counterparties like Goldman were on the other side of the swaps. Taxpayers essentially are bailing out not only AIG, but Goldman, and anyone else involved in those swaps.

Officials said the plan may include a broader role for the Federal Reserve in protecting the economy from companies whose troubles pose systemwide risks, as the report issued under the leadership of Mr. Volcker, a former Fed chairman, has proposed. The report was issued this month by a subcommittee of the Group of 30, a not-for-profit body of senior representatives from various governments and the private sector. The group's members include Mr. Geithner and Lawrence H. Summers, the director of the White House National Economic Council.

My Comment : This is the Fed Uncertainty Principle corollary number two in action.

Corollary Number Two : The government/quasi-government body most responsible for creating this mess (the Fed), will attempt a big power grab, purportedly to fix whatever problems it creates. The bigger the mess it creates, the more power it will attempt to grab. Over time this leads to dangerously concentrated power into the hands of those who have already proven they do not know what they are doing.

Administration officials have begun to study ways to control executive compensation.

For example, they are preparing proposals to limit executive pay at companies that receive money under the bank bailout program. In response to written questions by Senator John Kerry, Democrat of Massachusetts, Mr. Geithner said that in such circumstances the administration was planning to set a limit and that any compensation over that amount would “be paid in restricted stock or similar form that cannot be liquidated or sold until government assistance has been repaid.”


“Excessive executive compensation that provides inappropriate incentives,” Mr. Geithner said, “has played a role in exacerbating the financial crisis.”

The most hilarious video I have seen in a long time on YouTube covers much of the above. I highly recommend playing it for a laugh. However, I issue a big warning in advance: Very harsh language throughout.

By Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

Click Here To Scroll Thru My Recent Post List

Mike Shedlock / Mish is a registered investment advisor representative for SitkaPacific Capital Management . Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction.

Visit Sitka Pacific's Account Management Page to learn more about wealth management and capital preservation strategies of Sitka Pacific.

I do weekly podcasts every Thursday on HoweStreet and a brief 7 minute segment on Saturday on CKNW AM 980 in Vancouver.

When not writing about stocks or the economy I spends a great deal of time on photography and in the garden. I have over 80 magazine and book cover credits. Some of my Wisconsin and gardening images can be seen at MichaelShedlock.com .

© 2009 Mike Shedlock, All Rights Reserved

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