Financial Reform


In a free-market society it is critical that risk takers be allowed to profit from the risks they take.  But they need to also absorb the costs of those risks.  Other people should not bear the brunt of these risk either directly (via government bailouts) or indirectly.  Indirect subsidy of risk can take many forms.  Recently we saw investment bankers enriching themselves with short-term profits created by taking poorly calculated and irresponsible risk while our society paid the cost of those bad bets in the long term.  Society has paid by suffering economic stagnation, unemployment and growing government debt caused by repeated use of massive government bailouts to prevent a banking collapse which would have caused massive wealth destruction.


The many causes of the financial crisis are well-known.  We saw Wall Street banks selling CDOs on mortgage sub-prime while extorting the ratings agencies to provide AAA ratings on these worthless securities while at the same time taking short bets against these same instruments! The market created in these opaque CDOs allowed mortgage brokers to sell option-ARM loans to people (with 2nd loans to cover down-payments) and then to offload all the risk onto investors and/or Freddie-Mack and Fannie-Mae and ultimately the tax-payer.  We saw companies like AIG selling credit-default swaps on these CDOs at levels they couldn't possibly afford to cover. All along, quarter-by-quarter, these clever financiers were raking in the money while the world's economies became more and more unstable. Then, when the house-of-cards collapsed, our government came in and bailed these so-called free market advocates out at the cost of trillions of tax payer dollars and our children's futures. I don't recall them saying, "no thanks, we took the risks we'll pay the price since this is a free market." Even as people were losing their homes and their jobs because of Wall Street, the Wall Street employees were still pulling in multi-million dollar bonuses (and they still are).


We must immediately enact substantive financial reform to prevent such financial shenanigans from ever threatening the world economy again.  We should:


  • Place limits on leverage of 5-to-1 (20% capital reserve requirement).  This will require global cooperation to prevent investment firms from simply performing the operations in countries without these restrictions.  Recall that in the immediate aftermath of the financial meltdown, Europe wanted this kind of restriction but America --- under the influence of the Investment Bank lobbyist --- rejected this and other financial reform proposals.
  • Reinstitute Glass-Steagall (investment banks cannot trade for their own profit using customer deposits).
  • Institute clawback provisions on short-term profits and bonuses for Wall Street Executives (and executives of other major institutions engaged in the creation and selling of financial instruments).
  • All derivative instruments should be sold on open exchanges where counter-party risk and fair market valuation can take place. 
  • Any form of insurance, including credit-default swaps, should be sold only up to the value of the underlying assets.  People should not be allowed to buy insurance to speculate on, and therefore accelerate the likelihood, of financial collapse.  Imagine if people could be fire insurance on your house!
  • Stabilize markets against high-frequency traders by requiring all bids or offers to last for at least one second.


These and other financial reforms are badly needed to restore balance and stability to the world economy.