Once there was a group, established by a society, which was endowed with a high level of respect. Members of this group were fragmented in their beliefs and practiced their craft in accordance with their beliefs. Some, enamored with righteousness and a belief in the primacy of the Church, believed that society’s ills were the work of demons and established laws and rituals to expunge them. Men of high status were called evil and their works questioned. Others, no less righteous, insisted that there were fundamental humours that were required to remain in balance for good health, and periodically vented and tapped these to release them from the body. As may be expected all this venting and tapping had some unintended consequences — the patient died. At some point, around the 1850s, some members of this group stepped back and performed a little critical analysis noting that the patients untreated had as much change of survival as patients treated. This observation led to a complete philosophical paradigm shift. A phrase was taught to all who entered this profession: “Primum non nocere —First, do no harm.” Physicians use this expression to note that human acts with good intentions may have unwanted consequences.
In the last few weeks, various treatments to the illness of the financial markets have been tried. These included federal takeover of Fannie Mae and Freddy Mac (Why are there two of them anyway?), the fire-sale manipulation of Bear Sterns, the abandonment and bleeding of Lehman Brothers, what amounts to the acquisition of AIG, and most recently the promise of some new and radically untried set of procedures. These include the suspension of short sales, the acquisition of asset backed securities by the government, the FDIC like insurance of money market mutual funds, and the opening of FED credit lines to cover corporate paper and short term liquidity needs.
In order to implement many of these policies, the regulatory bodies — the SEC, the FED, the Treasury — need Congressional approval. As any first year economics student is taught, actions and expenditures by the government have attached multipliers and consequences on the macroeconomic landscape, not all of which can be accurately predicted. It would prudent then for Congress to do the minimum necessary to treat the problem. Doctors Bernanke, Paulson and Cox have a prescribed treatment plan — one that doesn’t involve additional economic incentive payments, additional mortgage subsidies, or riders to support venting of additional humours. Congress should realize that these prescriptions are for Main Street and not for just Wall Street.
Keeping the Act to enable these prescriptions to the minimum necessary will surely test the wills of both sides of the aisle. It will be difficult enough to fill in the details without loading up the bill with each party’s pet programs and election-year incentives. And as for the details, a couple of suggestions:
- Let’s go easy on the shorts. Markets work best by including all information and short sales provide a valid channel of information. By all means, lets clamp down on the ‘naked’ shorts, but an accross-the-board ban on shorts is a bad thing.
- If the Treasury is going to buy securitized mortages, CMOs and SIVs, the so-called “toxic paper”, then let’s value the asset on the basis of discounted cash flows and not mark-to-market. Especially when a viable market doesn’t exist. Not only will this eliminate a bad accounting practice, but it will rapidly establish a mechanism for global markets to understand the risk/value of assets already on their books. It will also eliminate the death spiral of under-capitalization, Agency rating downgrades and further capitalization reserve requirements which are weighing down Goldman Sachs and Mogan Stanley. It probably would have helped Merrill Lynch and Lehman Brothers also.
- Providing FDIC-like insurance to Money Markets and Mutual Funds needs to be thought through. We don’t want to make the funds more attractive than deposits and cause a massive unintended shift of capital from the commercial banks. That would just shift the crises from Wall Street to Main Street. Perhaps insurance coverage could be adjusted to equalize over the return on investment on any given instrument — treating deposits and funds equally after weighting.
But most importantly, moderation and minimal intervention.
After all, when the heart surgeon cracks you for that triple bypass, he doesn’t usually divert to perform a liposuction, or have his OR technicians perform a manicure on the patient, no matter how beneficial to the patient’s image. Anything that diverts attention from the heart attack is to be avoided. Perhaps the Congressional motto should be changed to “Primun non nocere”. Congress take note.