Lean, Mean Privatization.. Is Bloating the Parts of Government We Aren't Supposed to Trust

We seem to accept the privatization of state action for a few reasons.  First, whatever democratic legitimization enjoyed, however tenuously, by bureaucracy is amply replaced by "market" and "neoliberal" (laissez-faire) legitimacy. Uunder the aegis of the (neo)liberal paradigm, market actors are what the state is supposed to protect.  They, as individuals or as amalgamations of individuals, are the source of state legitimation - it is their votes that make us accept state power.  So to the extent that they can perform (for themselves?) what the state was otherwise doing , it's a good thing.

Second, giving as much freedom to market actors as possible is supposed to enhance the wealth of society in general.  In other words, markets are good -quite apart from democracy, rights and liberalism - insofar as they make us all materially better off.  Thus, privatizing defense, medical, penal, military and other services encourages the kind of growth that "lifts all boats."

Finally, privatization is supposed to be cheaper.  Cheaper means more tax dollars saved, which means more personal freedom for tax-paying citizens to do what they want with their own material resources.  This too, in addition to enabling liberty, also has a utilitarian function: it helps growth.

But if we drill down a little, we begin to see the slippery logic.  If government responsibilities are delegated to some, but not to all, individuals, we're in a position where the few are making decisions for the many.  This invokes the inherent paradox of democracy - how can, in situations where our desires are not unanimous, we justify government in a truly liberal society that values individual freedom above all other things?  (see, e.g., Kelsen)  Viewed in this light, privatizing certain functions of the welfare state (as they do here in New York City) appears no more legitimate than letting "some unelected government bureaucrat" do it.   Or, more simply - the undemocratic exertion of power is made no more democratic through delegation to a private actor.  At least with the 4th branch of government, we can vote yay or nay to congressmen who promise to oversee the bureaucracies.  With companies, we're not even allowed to know who owns them, nevermind how they run their business.  In fact, it's been argued that Vice President Cheney wanted to privatize certain defense activities precisely to keep them secret and away from public oversight.

Secondly, the logic does not account for the fact that the companies to which we delegate government functions are themselves not "individuals," but instead organizations structured through centers of command and control.  "This is not a democracy!" are words spat out by many a boss.  

The legitimacy of corporate action, therefore, depends entirely on whatever "market" legitimacy they might have.  In other words, their ability to encourage growth and to put money back in the pockets of taxpayers is their only saving grace.

Of course, research is emerging that shows that privatization isn't always cheaper.  Reference the recent debates in healthcare.

Regardless, another (perhaps more important question) is whether market legitimacy outweighs our other values.  Or, more specifically, to what extent is market legitimation inherently (and practically) incompatible with those values?  Recent debates regarding the privatization of intelligence, national security, and prisons seems to indicate that privatization might actually bloat, not slimline, the kinds of state action that the Bill of Rights was supposed to put the kybash on.  How could anyone realistically doubt that adding the profit motive to the national security apparatus would inevitably encourage that apparatus to spy on us at an heretofore unimaginable scale?  Or that accepting for-profit prisons might have had something to do with the fact that we have more prisoners than ever, and more so than any other western country?

Privatization and liberty may prove to be fundamentally incompatible.

Schumpeter, the State, and Funding Economic Evolution

In Schumpeter's Capitalism, Socialism and Democracy, we are presented with a vindication of sorts for certain forms of "anticompetitive behavior."  Unless firms can leverage their market power (e.g., to set rather than to accept prices) to extract profits, they will not be able to make the kind of investments necessary to bring about meaningful economic evolution.  Ultimately, it is not the "micro" level price-competition that yields the technological innovation that keeps the economy growing (and therefore improving everyone's living conditions), but rather the monopolistic/oligopolistic buying up of patents, bundling, etc. that funds things like trains, electricity, and the internet.

In the end, then, this kind of behavior is not, for Shumpeter, "social waste," but absolutely necessary for capitalism to work as we want it to.  To make us all better off, at least materially speaking.

Setting aside for the moment that "social waste" can be fairly attributed to situations where capitalists (and their employees) are spending their blood, sweat and tears working tirelessly, endlessly, and desperately -- to prepare for the day the next Facebook, Apple, or whatever comes along to put everyone out of business -- even in conditions of perfect competition and economic equilibria...

And setting aside for the moment that (as Schumpeter recognizes but then dismisses) firms can seek funding from sources other than retained earnings (bank loans, bonds, equity markets, for example)

And also setting aside the fact that I don't know of any evidence that firms couldn't save the requisite funds to invest in new technology if they were forced to do business on more competitive terms....

And further setting aside for the moment that supply-side economics is not exactly uncontested (see, e.g., Keynesianism, or Apple's stock buy-back and dividend programs)

A new paper from EPI points out that it is the government, using tax dollars, and not price-setting business enterprise, that often creates the kind of transformative technology that triggers growth.

So, I suppose I shouldn't cry over the judgment against Apple for fixing the prices of eBooks.

And maybe we don't need companies like Apple to Fund the Future.

Finding Hobbes in Adam Smith -- and the Stylized Neoclassical World View

A wonderful little debate (and here and here ) is currently taking place (and thanks to Prof. Mark Thoma for broadcasting it) among some greats of the History of Economic Thought.  Profs. Brad DeLong (Berkeley), Jeff Weintraub (Penn) and Gavin Kennedy (UCL) consider the impact of Adam Smith's purported failure (Weintraub) to incorporate into his seminal economic theory the fact that human beings do not, in fact, inevitably arrange their behavior according to self-interested exchange relationships.

Of the three stylized classifications of social organization offered by Smith in the Wealth of Nations (exchange relationships, charity, and command-and-control-style power), Smith primarily analyzes economic growth (and political economy generally) in terms of free market "equilibria"(and the impact of state action/collusive group behavior) on that equilibria, rather than the possibility that we might form other sorts of productive arrangements.   The implications are profound -- what might we have missed, over the past 250 years, had Adam Smith suggested that we might do something else - and do it not because it's the "right" thing to do, but because we're naturally rigged to do so?

I want to comment here on a single point that was brought up - that, in the context of exchange relationships, modern economists view themselves as "Lockeans" rather than "Hobbesians."  For example, Prof. Delong writes:

As I wrote back in 2012, your average economist is not a "Hobbesian" believing that humans are motivated by self-interest, but rather a "Lockeian", respecting others and their spheres of autonomy and eager to enter into reciprocal gift-exchange relationships, both one-offs mediated by cash alone and longer-run ones as well:

First, your standard economist is not "Hobbesian". He does not enter a butcher's shop only when armed cap-a-pie and only with armed guards, fearing--as a Hobbesian would--that the butcher will not sell him meat for money but will rather:

*knock him unconscious, * take his money, * slaughter him, * smoke him, and * sell him as long pig.

A Hobbesian does not buy and sell goods and services in mutually-beneficial Pareto-improving exchange relationships. A Hobbesian finds the biggest bad-ass in the neighborhood, and swears liege homage to that bad-ass in return for that bad-ass's promising not to kill him.

Your standard economist is, rather, a "Lockeian"--presumes that there is an underlying order of property and ownership that is largely self-enforcing, that requires only a "night watchman" to keep it stable and secure.

Now it is true that your standard economist is a largely-unreflective Lockeian: does not inquire why one trades rather than takes, affects the tough-guy pose that it is only the repeated-game nature of economic interactions that keep us from always winding up in the bad cell of the prisoner's dilemma, and adopts the reductio that humans are narrowly self-interested only in material acquisition (in order to strengthen the case that the social apparatus of voluntary market exchange produces good outcomes--to make the point that even private vices produce public benefits if they are constrained by the market). But that the standard economist is a largely-unreflective Lockeian does not mean that they are a Hobbesian.

I don't know if I agree that Hobbes can be written off so completely within economic thought - If the various human relationships stylized by Smith as exchange, charity, and command-and-conrol can be understood as standing on a sliding scale (and I do think there is evidence for this in Smith's text - e.g., his reference to the collusion of guilds, differential bargaining power between entrepreneurs and workers, corporations, etc., all of which incorporate elements of command-and-control within exchange relationships), then economics begins to incorporate elements of Hobbes. 

Under a Hobbesian viewpoint, people use the power they find to hand to get what they want. Sometimes all the "power" they have is to convince another an exchange is in their self interest. Sometimes...more is available. It's just that within organized political bodies (unlike Hobbes' state of nature) robbery is not *always* the smartest option. Nevertheless, human beings, with their self interest being what it is, sill seek "power after power" using the tools available, making a judgment call about what kind of power can best be used to accomplish their aims.  Indeed, Hobbes postulated the very formation of a state based on rationality - his absolute monarch was the product of his own kind of cost-benefit analysis: we get more from agreeing to a police state than from battling it out among ourselves. The "rule of reason" suggests that we do so.  So, there is no reason to expect that, under Hobbes' line of thinking, we wouldn't (shouldn't) make the same kind of calculation on a more micro scale.  Regardless, we still, in Hobbes' state, put locks on our doors -- in the event someone still think it's worth the risk to steal from us.   And I haven't noticed recently that anyone is removing the deadbolts from their apartment doors here in Manhattan.

 It's thus not obvious that non (physically) violent exchange enters a realm different from what Hobbes would anticipate. In other words -- if we can understand "power" as including, among other things, our ability to acquire an item that someone else wants and to convince them that exchange is beneficial, then Hobbes slips in quite easily in, for example, situations of unequal bargaining power.

One (of several) problems we now see within economics, I'd argue, is that economists fail to recognize just how very Hobbesian they are. If they called a duck a duck, they would recognize that certain "anticompetitive" behavior (such as, for example, the kind vindicated by Schumpeter, i.e., price fixing, long term contracts, buying up of patents, etc) is not just a manifestation of Smithian/Lockean exchange, but also mixed up with social and market power. That is Hobbes. 

To say it is not Hobbes, I suspect, may work to prevent an honest discussion about what our world really looks like and whether it is something we really want. We start thinking in terms that presume a background of equal exchange, autonomy, and liberty.  But last I checked, equal exchange, autonomy, and liberty -- in so far as we actually have them -- only came about after hundreds of years of bloody revolution.  To assume them away seems an egregious error in thinking.

The overall point is very well summarized in John Weeks' new book, The Irreconcilable Inconsistencies of Neoclassical Macroeconomics: A False Paradigm:

In the European Middle Ages the dogmas of the Catholic Church enforced daunting barriers to scientific inquiry. The pernicious effect of neoclassical economics is worse. It is a virus of the mind. Once implanted in the mental processes, it systematically destroys the ability to conduct rational thought. Its intellectual method does not reveal underlying truths and relationships. Quite the contrary, it renders the complexities of life into ahistorical trivia obscured by cabalistic mathematics.

The Social nature of human existence is rejected by the neoclassicals in favor of the absurdity that each person is an isolated individual, stripped of the inter-personal responsibility that makes people human. ‘Individuals’ are driven by pure personal greed, defined as ‘rational’ behavior. This irresponsible greed allegedly results in the general welfare. It is difficult to imagine a doctrine more flagrantly in the interest of the rich. (pp. 2–3)

Or, perhaps, by the inestimable John Kenneth Galbraith:

In wielding power – in making economics a non-political subject – neoclassical theory destroys the relation of economics to the real world. In that world, power is decisive in what happens. And the problems of that world are increasing both in number and in the depth of their social affliction. In consequence, neoclassical and neo-Keynesian economics regulates its players to the social sidelines. They either call no plays or use the wrong ones. To change the metaphor, they manipulate levers to which no machinery is attached. (John Kenneth Galbraith, Annals of an Abiding Liberal, (New American Library, New York 1980)

(Thanks to Wesley Marshall for pulling these quotes)

Hedge Funds Going Public

Oh, boy.

Hedge funds, i.e., multi-billion dollar investment firms created just to sell exotic stuff to institutional and very rich individual investors (you can't sell such things to the general public, see), are themselves going public.

This means that management won't be on the hook when that exotic stuff makes losses -- rather, those losses will be spun off to shareholders.  I expect that the hedge fund management, meanwhile, will get fixed salaries on top of bonuses for profits made.

This presents something of a moral hazard, to say the least.  This is the now-familiar "private gain, public losses" problem.  Otherwise known as "betting with someone else's money, but keeping the winnings."  Or, as known by more serious writings, "excessive risk-taking."

Theoretically, hedge funds can sell exotic assets, i.e., assets that are non-public and therefore not subject to the SEC's reporting and transparency requirements, to institutional investors and rich people because those folks are savvy enough investors to watch out for their own interest.  At least according to the law.  So issuers cooking up these assets don't need to publish their financial statements (and prepare them in accordance with GAAP), nor distribute 10-Ks and 10-Qs to the market.  

Of course, these investors didn't do such a bang-up job avoiding the subprime mortgage-based assets.  They have their own moral hazards to deal with -- nevermind that anyone might be ill-equipped to deal with the kind of complexity that characterizes capital markets lately.

And nothing's changed to expect they'd do a better job in any other new-fangled, and risky, security to spin around the market.

Add on top of that the hedge fund's reduced incentives to monitor risk itself, due to going public.

I sure hope your pension fund isn't a one of these hedge funds' clients.

Goldman's Diverse Shareholders

Goldman, it seems, is about to shed the last vestiges of its old partnership form.

The New York Times suggests this might be good news, leading to increased transparency as the firm prepared more thorough 10-Ks and 10-Qs for its shareholders.

One could also argue, of course, that the removal of the last 5-10 guys with any "skin in the game" as far as the success in the firm will only increase its risk-taking activities.

Partners tend not to gamble with firm assets, because losses come out of their own pockets.

On the other hand, directors, executives and management who get paid base salaries and bonuses based on profits (with no downside for losses, other than the loss of bonuses) might be more willing to wager the house on the dream of a hefty short term profit.

Of course, this all depends on the fact that Goldman couldn't figure out how to spin-off risk to a bunch of chumps to begin with.

It's good to be a middleman.

Schneiderman Exploits Civil Discovery

It can't be anything other than good news that NY AG Eric Schneiderman picked up the ball that now-governor Cuomo dropped.  He's started to investigate (again? finally?) Wall Street's involvement in formulating toxic mortgage loan portfolios.

Yet, it's not the government that's actually doing its job.  It's the government free riding off the lawsuits brought by institutional investors against big banks for selling them crappy pooled loans:

“Part of what prosecutors have the advantage of doing right now, here as elsewhere, is watching the civil suits play out as different parties fight over who bears the loss,” said Daniel C. Richman, a professor of law at Columbia. “That’s a very productive source of information.”

For anyone out there complaining that American culture is too litigious -- well, it's not like the cops on the beat are doing their job.  Someone has to.

Meanwhile, one can see the power that ordinary folks have because of their pension funds.  It is without a doubt that Schneiderman had a fire lit under his butt by these funds -- and not by anyone else.

Citizens United Fallout: Will Shareholders Step Up to the Plate?

And will Congress help them?

Yesterday in the NYT, a former Vanguard chairman stressed the necessity that shareholders, in the wake of Citizens United, really begin to assert themselves when it comes to corporate political speech.

It's not surprising this kind of comment comes from Vanguard -- it, unlike other private fund managers, operates more like a credit union than like your typical wall street investment bank. Not to do a corporate plug but, if you're lucky enough to have money to invest for retirement, Vanguard, unlike most money managers, is more likely to take your concerns seriously.

Anyway, institutional investors, using their new powers of proxy access, can submit bylaw proposals requiring, for example, that corporations seek the approval of a majority of shareholders before contributing corporate assets to political campaigns.  This sort of reform pulls the rug out of under (at least partially) Citizens United -- in the end, it's the actual people who decide what kind of speech they make.

The problem is, of course, is that it's difficult to get your Fidelity Funds investment manager to get off his tush to represent shareholders actively.   Either he doesn't care, has too short term of an an attitude, or is more worried about pissing off the same corporate management he relies upon to hire him to run its employees' retirement funds.

And, according to this NYT piece, these sorts of managers represent about 70% of American shareholdings.*

But not all institutional investors are so lazy.  Public union pension funds regularly submit bylaw proposals to change corporate policy.

So what makes public union pension funds so different?

First: they're not governed by the part of Taft-Hartley that requires that employers get equal (or greater than equal) say on pension fund investment practices.  Needless to say, this makes it a lot easier for public union funds to swing their weight around on the policies and practices of the companies in which they invest.

Second, public union employees tend to be more aware of where their collective money's going.

These observations give us some simple how-tos to encourage the shareholder franchise in American politics.

First: repeal that part of Taft Hartley.

Second: Promulgate more robust disclosure laws that require fund managers to reveal to their beneficiaries what they're doing about political spending -- and other investment policies.  This movement is already well underway in Europe.

Third (and a little pie-in-the-sky): start educating people regarding the role corporations play in their life -- if they realize that their choices are equally, if not more constrained, by the actions of companies as they are by the actions of government, perhaps they'll take their franchise rights more seriously.

* Note: no one, as far as I can tell, has ever done a serious and comprehensive study on the type and size of various different kinds of investors, both institutional and individual, what kinds of companies they invest in, and what kind of policies they pursue in connection with their shareholdings.  And I've already asked the folks at OECD.  Any ambitious grad students out there???

Today I asked a electrical workers' union member, who's actively involved in a local chapter of a national socialist party, why his union didn't pay more attention to what its pension fund was doing and think more about what it could be doing.  He responded:

I know we own a big chunk of blue cross.  But they haven't done shit for us.  Our benefits keep getting worse.   Our pension fund managers don't do shit and then the union bureaucracy.  And then we also own a big chunk of the philly inquirer -- brilliant investment, that, in this internet age.

Two points here.  One: American unions don't pay enough attention to a source of power and leverage they already have -- the tens of billions of dollars of corporate equity they own.  This could be made even more powerful if there's a movement to get rid of the part of taft-hartley that lets corporate execs have a hand in fund management.

Two: How to handle the perverse incentive of owning a company and wanting to make a profit from it --- while still staying true to labor reform?  Making profits as a shareholder, after all, can mean cuts to wages and benefits.

Legal Personalities and Evildoers

There isn't any bourgeoisie anymore.  If there ever was.  It is the corporation that uses capital now.  And those companies are owned by diversified shareholders -- who often include among their ranks the workers themselves. 

Except "ownership" isn't really the right word.  Diversified shareholders don't look and act like owners.  They don't use their property, don't monitor it, and, in fact, don't really care much what happens to it, so long as they get dividends and can sell their shares for a profit.

In fact, it's fair to say that no one really owns the corporation.  The people who run the corporations, meanwhile, the managers and directors, well, they get paid wages, too.  And the people who decide where capital gets allocated -- they're on wall street, and have motives altogether different than whether a particular business succeeds or not.

So who's the bourgeoisie, then? 

When one goes to think about a Marxist kind of political economy, one has to remember Marx's most important point -- it's concentrating on dialectic relationships.  it's concentrating on materialist history. 

It's the economic system, not the evil, amorphous, unidentified "theys."  It's the social and economic forces that lead to the formation of corporations -- which are, in their essence, social and economic relations among workers and among capital providers (who are, in this age of public corporations, also workers).

So why do socialists hold up banners screaming in outrage that "GE paid no taxes!!!" when GE isn't, in fact, a real person.  It's a group of people doing stuff in concert, hopefully to make a profit.  This entity that didn't pay taxes, well, it's just a social machine.  A machine that hires workers. And pays dividends to its shareholders -- who are also workers.

Rather, what is more despicable about corporations is that they make public messes and they don't pay for the clean up.  Those costs are distributed among all of society, while the profits are kept by the corporation's specific constituencies -- workers, executives, shareholders, and creditors.

The activists, however, aren't the only people who like to personify business organizations.  Our laws treat corporations like they're people, too.  They enter into contracts and they pay taxes.  Recently, our supreme court even granted them free speech rights.

It's time to get back to the nuts and bolts.  We all need to acknowledge what's really going on, so we have a prayer of changing things.  This means we can't string up some goldman sachs insider trader and stone him and call it finished business.

This goes much deeper.

It's illegal for everyone to steal bread...

... but you never find any rich folks in jail. 

Thus, a law perceived to be neutral, e.g., against the stealing of bread, actually hammers down on certain people harder than others and fails to take into account the mitigating circumstances that would lead most people, on further reflection, to conclude that the stealing of bread by poor people ought to be decriminalized or, at the very least, carry punishments less severe than we are wont to apply. 

It's been argued that this aspect of our legal order reflects and mitigates class conflict.  Specifically, its implementation illustrates class conflict (only poor people go to jail) while, on its face, it appears completely neutral (it's not a class thing, it applies to everyone equally).  Thus the law, because of its superficial neutrality, serves to quell moral outrage at the disparate way we treat rich people and poor people.

Well, that's a bit drastic -- there's not some cabal of evildoers sitting around a board table on the 100th floor of some high rise plotting this stuff out.  But there's something to it.

For example.  This phenomenon reveals itself most explicitly when we consider that rich folks who steal stuff -- by peddling assets worth pennies for thousands -- usually get away scott free.  They certainly don't go to prison.  Why's that? Well, the law against stealing stuff doesn't apply to what they're doing.  The laws that apply to this kind of behavior are embedded into our labrynthine codex of securities regulation.

This tendency to apply the same legal standard to vastly different circumstances, or to apply different legal principles to similar circumstances, depending on what those circumstances happen to be and who they happen to most often -- also reveals itself in the securities fraud context. 

In plain vanilla commercial litigation, breach of disclosure cases are more common than Applebees chains in strip mall suburban communities.  In these cases, where one company buys another, there's usually a claim that the seller breached its represesntations and warranties about its financial condition.

Usually there's nothing very nefarious going on.  Usually, there's no outright fraud.  Sure, you get seller representatives "spinning" bad situations, and perhaps not emphasizing the weaker part of their business.  Inevitably, however, when the buyer finds out that its new company isn't as spiffy as it thought it would be, it sues to get some or all of its money back.

It's sort of the same thing as a consumer going to the grocer's to buy a diet drink that promises to remove the extra bags on the saddle.  When, lo and behold, not all the bags are gone after a few weeks, the consumer marches back into the store, with guns blazing and trumpets sounding, to waste a good part of the weekend afternoon stewing in a customer service line. 

But really, no one ever expected the bags to really disappear. 

So it is in deal litigation. Except that in the M&A case, the buyer hires an army of pricy lawyers and spends a couple million bucks litigating the deal before courts.

And courts and the law expect commercial parties, like the diet drink consumer, to figure out what kinds of representations are just commercial fluff and spin, and which are supposed to be hard facts.  You can't lie about those hard facts -- especially if you warranted, in your contract, that you provided all of them, and all of them accurately. 

Does this work the same when it comes to misrepresentation in securities fraud cases?

Well, the courts certainly think it does.  So you get shareholders and bondholders suing because their broker sold them a bunch of toxic assets.  And you get courts saying, well, so long as those brokers didn't make any hard promises and turned over all their balance sheets, you're on your own when it comes to protecting your interests.  you've got to do your own due diligence to figure out if it's a good deal.  The only caveat: the broker can't outright lie.  But they don't have to point out for you the weak parts of their P&Ls for you.

It seems logical or, at least, consistent. 

Until one considers that investors, in reality, trust their brokers to fish out good deals for them. Add on top of that the fact that the "investors" are really just a bunch of working stiffs who rely upon their investment managers to do a good job avoiding risk and fishing out productive investments.  Of course, those managers -- who get paid via bonuses based on short term performance -- perhaps don't pay as much attention to what they're buying with other peoples' money as they ought. 

And suddenly the "buyer beware" mentality, when it comes to securities fraud, maybe isn't such a neutral and objective rule.  The "buyer" -- the auto factory worker with the pension plan -- physically *can't* beware.  He likely doesn't know that his pension fund was even looking to buy anything.  And the two intermediaries standing between him and the bad investment deal -- the broker and the investment manager -- aren't "bewaring" either. 

And "buyer beware" works only if there's a buyer actually, um, capable of "bewaring."

So, just like a law against stealing bread, the law that governs mispreprentation and disclosure cases reflects something about our society.  Its implementation harms working stiffs more than it harms corporate M&A counterparties, and thus reflects a difference between the way our society values workers versus corporations.  And its superficial neutrality -- applying equally to both securities fraud cases and to M&A litigation -- mitigates that tension.

Cracking Down on Collective Bargaining - Institutional Investor Style

After Dodd-Frank's corporate governance reforms, it appears that the opposition to governing corporations in the interests of anything else except short term profits and executive insiders isn't content to merely challenge the SEC's proxy access rules before SCOTUS.

Now, a movement to reign in proxy advisory firms. 

Institutional investors like pension funds hire these companies to monitor corporate performance and to provide advisory services on upcoming shareholder votes.  As most institutional investors are heavily diversified (often required by law to be so), they need this sort of service to do their jobs properly.  Think of it as enabling collective action.

Certainly, reforms that require these advisory firms to be transparent and to refrain from entering into conflict-of-interest transactions (when they're hired by a firm who invests on its own behalf, as well as by the firm's own investors) make sense.   After all, it makes sense for Moody's and S&P, who get paid by the very same firms whose securities they are rating.

The thing is: oversight failure over Moody's & S&P leads to unacceptable systemic risk.  People bought AAA rated securities toilet assets on Moody's good recommendation.

Riskmetrics, ISS et al don't tell investors to buy trash.  They don't tell investors how to invest their funds.  Rather, they tell investors where executive compensation is out of whack, when getting rid of a staggered board would make sense.  Their services, in other words, are to help investors after they've bought securities.

So it would make sense, given their different purposes, that they would be subject to different regulations. 

Don't let the hubbub coming out confuse you.  Advisory services aren't the same villain as the credit ratings agencies.  And so they should be punished as if they are.

The other governments we should pay attention to

FT Editorial Page:

Shareholder values

How shareholders choose to vote is above all a private matter. Investors are free to tell the companies they own to pursue goals besides profit. One goal can be concern for safety and the environment: complaints from faith-based and other investors in BP have grown louder since the Deepwater Horizon explosion and oil spill. Another is fair pay: the Church Investors Group wants pay ratios between top executives and the lowest-paid tenth of employees to fall below 75 .

Is such shareholder activism also in the public interest? It could be. If more owners thought, like some faith-based investors, that they had a duty of stewardship, they could provide a useful check on managers. No lofty motives are needed for this to be in the interest of shareholders, whose money is after all the first to be lost to overly risky strategies or to remuneration that extracts more value from a company than it adds.
Whether it is good for society at large, too, depends on what shareholders use their activism for and to what degree they succeed. As to the former, taking a stand on executive pay is a healthy change from the usual apathy. Depending on the warmth of relations between executives and pay committees, “pay for performance” often turns into pay without the performance. Incentives are easy to game and can undermine people’s intrinsic motives for doing a good job.
If more institutional investors join the activist game it could even have an effect. Crude caps on pay multiples may not be the best solution. But they would hardly scare executives away. Most institutions are “universal investors” and if the same rules apply to all their holdings, managers feeling under the thumb would have nowhere else to go. Unless it is where ethical investors fear to tread: tobacco, alcohol and pornography. Perhaps it is all a divine plan to put greedy executives on the wages of sin.

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So, Carl Levin's Read Michael Lewis

Today's FT reports that Carl Levin's senate investigation committee is referring a few cases to DOJ for prosecution.  Namely, cases based on the fact that banks like Goldman and Deutsche were selling toxic assets while at the same time going short on those assets.

It reads straight out of The Big Short.  With even a shout-out to Greg Lippman.

Good to know that the Senate investigations' committee is has just as many investigative resources as a single author.

Auction-Rate Securities Settlements - Paying off the Richies, but not Your 401(k)

Another comment on the Morgenson/Story piece in today's NYT:

In one of the SEC's rare prosecutions of the shenanigans leading up to the financial crisis, the SEC extracted compensation from banks that hoodwinked investors into buying "acution-rate securities" by promising that they were liquid and safe.  But only for retail investors, i.e., investors rich enough to trade on their own accounts.  The rest of us -- anyone with a pension fund or 401(k), got screwed:

But Mr. Alvarez suggested that the S.E.C. soften the proposed terms of the auction-rate settlements. His staff followed up with more calls to the S.E.C., cautioning that banks might run short on capital if they had to pay the many billions of dollars needed to make all auction-rate clients whole, the people briefed on the conversations said. The S.E.C. wound up requiring eight banks to pay back only individual investors. For institutional investors — like pension funds — that bought the securities, the S.E.C. told the banks to make only their “best efforts.”

This shift eased the pain significantly at some of the nation’s biggest banks. For Citigroup, the new terms meant it had to redeem $7 billion in the securities for individual investors — but it was off the hook for about $12 billion owned by institutions. These institutions have subsequently recouped some but not all of their investments. Mr. Alvarez declined to comment, through a spokeswoman.

Perhaps the SEC was hoping the pension funds would fulfill their fiduciary duties and sue these banks themselves for securities fraud.  We should look forward to a wealth of new caselaw in the coming years.  

Financial Crisis Prosecution: Elephants in the Room, Farting yet still invisble

The NYT's Gretchen Morganson and Louise Story posted an "expose" today about the embarassing dearth of financial crisis criminal prosecutions.  Pointed is their description of the cosy, crony-capitalistic structure of banks and other financial isntitutions and the so-called regulators that ostensibly babysit them -- as well as their identification of the anti-regulatory cultural consciousness that herded regulators into inaction.

The  excuse offered up by regulators that has the most purchase, though, is the fact that even should they get money from these companies, that money would come straight out of the accounts holding taxpayer-funded bailouts.  Or, worse yet, would undermine financial stability.

Even if that's true and salient -- which assumes, of course, that financial engineering, especially to this degree, has some sort of overall social benefit:

Clawing back the hefty paychecks of the individual financial executives, traders, and dealers wouldn't implicate such issues.  And they're the individuals whose risky behavior the regulators are supposed to regulate to begin with.  Financial institutions aren't just some giant non-human hive-mind that has a life of its own.  It's the people working for them that do the bad things.

Moreover, the law does not limit fraud actions to corporate behavior.  The individuals involved in the fraud, theoretically, are liable too.  In fact, corporations only face liability for fraud because the law holds them, as employers, vicariously liable for the acts of their employees. 

Certainly, the securities laws don't offer the same kinds of claims as plain vanilla common law fraud -- execs, for example, aren't always individually liable for misstatements in the company's 10-Ks -- but there are other tools in the toolbox.

Meanwhile, wall street pay is through the roof.  Still.