Can We stop the Next Madoff or the next AIG?

I know you think I spend a lot of time obsessing on financial market regulations. Part of this obsession is an occupational hazard, but a good deal of it has to do with how close I am supposed to be to cashing in on a well-earned retirement while rectifying my retirement savings with the worst decade of stock returns ever. So, here I am referring to Bloomberg again.

This time the person of interest is Mary Shapiro and the regulator is the SEC. Yup, I’m off the Fed for at least one thread. The article today is Wall Street Waits as SEC Fails to Bring Madoff-Inspired Reforms. I’m trying to fight off my gut feeling that everything’s been a Ponzi Scheme recently while writing this particular thread. Still, I have to feel a bit admiration for Shapiro who has probably walked into the nation’s most neglected regulator since the Bush decade of corporate decadence made it the rubberstamp of millionaire investment bankers.

Shapiro’s really been putting in the hours. Here’s one of the things that’s been tops on my list as an academic that researches financial economics, the ratings agencies, as well as the one market that really came apart at the seems last year, that for money market accounts which are more depository and less speculative than the current rules recognize.

The SEC is reviewing public comments on the still- unfinished credit-rating rules, which would require companies such as Moody’s Investors Service and Standard & Poor’s to disclose how much revenue they get from their biggest clients and subject their employees to the same liability standards as auditors.

Schapiro also has yet to complete work on rules for money market funds. After last year’s collapse of the $62.5 billion Reserve Primary Fund, the Obama administration called the industry a “significant source of systemic risk.” SEC commissioners plan to vote next year on a proposal to force funds to hold a bigger share of their assets in investments that are easy to liquidate.

Still there is so much work to be done to get the entire regulatory scheme into the 21st century that you have to feel like she has a Sisyphean task ahead. Hedge funds have been pressing hard to avoid any curbs on short-selling. Naked Shorts have frequently been a source of great volatility in markets. She’s also seeking more authority to run more comprehensive examinations of the holders of the nation’s largest accounts. That’s not buying her many fans on Wall Street and the lobbyists have, of course, have managed to stall some of those attempts.

All and all, anything that leads to increased translucence and standardization of processes reduces information asymmetry and lets the public know about their investments is a good regulation. This type of regulation actually increases the functioning of the market rather than burdens it. Hopefully, the Democrat congress will see more benefit to updating the regulation of financial markets than it’s republican predecessors. Still, the intense involvement of the financial community in the Obama campaign was hard to miss and the distinct lack of support for tougher regulation is hard to miss. The financial lobby has deep pockets and broad influence in the nation’s capitol.

Some of the toughest battles over regulation have to do with giving stockholders more influence over Board of directors with their role of setting executive pay and perks. The U.S. Chamber of Commerce, a powerful lobby, hates these efforts.

The U.S. Chamber of Commerce, which represents more than 3 million companies, called the SEC plan “unworkable” in an August letter. The nation’s largest business lobby has also been discussing with Gibson, Dunn & Crutcher LLP attorneys a strategy for suing the SEC, said Tom Quaadman, a Chamber executive director.

By September, Schapiro’s staff began telling investors that the so-called proxy-access rules wouldn’t be in place for 2010 director elections. In October, the SEC publicly announced the delay.

Schapiro said the SEC still hopes to approve the rule in the first three months of 2010. “It’s a pretty profound change to the fabric of corporate governance,” she said in the interview. “We need to do it carefully and thoughtfully.”

Her agenda has sometimes been driven by political pressure, said James Angel, a finance professor at Georgetown University in Washington who has served as an adviser to stock exchanges.

One of the most interesting portions of this article was the interplay reported between Congress and the SEC. You may want to read that portion alone. Here are two noteworthy efforts by Barney Frank and Charles Schumer.

The effort to curtail short-selling, in which traders borrow stock and sell it, hoping to profit by replacing the shares at a lower price, followed lobbying from Democratic lawmakers after the Standard & Poor’s 500 Index fell 19 percent in the first two months of the year.

Representative Barney Frank, chairman of the House Financial Services Committee — the SEC’s overseer in the House — announced Schapiro’s plans for her at a March 10 press conference. The Massachusetts Democrat said he was “hopeful,” after speaking with the SEC boss, that she’d reinstate the uptick rule “within a month.” The SEC in 2007 had scrapped the rule, which required investors to wait for the price of a stock to rise before executing short sales.

In July, the prodding came from Senator Charles Schumer. The New York Democrat urged Schapiro, a political independent, to ban flash orders, which such trading venues as Direct Edge Holdings LLC were using to take market share from NYSE Euronext.

They’re also seeking to give the SEC authority over derivatives which have been the estranged stepchild of regualtion for some time now.

Traders use the mostly unregulated contracts to speculate on everything from interest rates to oil prices, and companies use them to protect against losses. Obama administration officials say a lack of transparency in the $605 trillion derivatives market exacerbated the credit crisis and contributed to the near-failure of American International Group Inc., once the world’s biggest insurer.

Under lawmakers’ plans, banks and investors would trade contracts on regulated platforms that are monitored by the SEC and Commodity Futures Trading Commission. Having won the battle to share oversight of derivatives with the CFTC, Schapiro now must prove that her agency can manage the new responsibility. In preparation, she has hired economists and former Wall Street traders to add market expertise to an agency staff made up mostly of attorneys.

I’d like to think that Shapiro, Frank, Schumer and the Justice Department will work this year on ending the mishmash of old regulations and no regulation that has characterized the century so far. It’s probably no coincidence that the unraveling of most of the banking laws meant to stave off a Great Depression happened prior to the Great Recession. That’s not saying that we need to re-erect the old laws word-for-word. It simply means that we need to recognize that financial markets are somewhat like football games. The work a lot better when you can watch the re-plays and see all the angles of the plays, and when there’s an agreed upon set of rules that every one knows and follows. It also helps to have a set of really good referees to watch the players and enforce the rules and that’s where the FED and the SEC come in. Financial regulation shouldn’t be a burden to any market participant. If anything, regulation should provide a playing field where every one can enjoy the game. Especially, those of us that either rely on the game for our living or our retirements. The country can’t afford another decade of lost returns.

Joblessness is slowing but looks longlasting

I was pouring over the jobless numbers this morning with my students. The overall numbers suggest that we’re no longer hemorrhaging jobs and that some employers maybe considering some hiring. There is one number in there that I found really disturbing. This is what I read this morning at MarketWatch which is where I always go to get short, precise updates of financial/economic data.

Still, a record 55.1% of the unemployed have lost their job permanently, a sign that the labor market is undergoing structural changes as well as a cyclical downturn.

Paul Krugman has an interesting graph up at his blog at NYTIMES as well as a warning that the move from 10.2 % unemployment rate to 10% may cause policy makers to lose their sense of urgency.  This graph is the projected unemployment being used by the FOMC.  You can see that they are still expecting a rate above the NAIRU until the end of 2012.  Looking at the number I found on structural unemployment, the joblessness rate may peak soon, but I doubt it will come down quite that fast.

Structural unemployment comes from the most toxic of all possible sources of joblessness.  It basically means there’s a mismatch between job skills of job seekers and jobs available.   Christine Romer, economic adviser to POTUS, points to the numbers as “hopeful”. (Why do I get the willies now whenever I see that word come out of the White House?) You can see the definite trend towards moderation of joblessness in the graph she’s posted there.  The other good news in the numbers is that the number of temp jobs available continues to be on the rise.  This is usually a precursor to permanent hires.

Additional issues that I see with the rate can be found again in the unspun numbers back at MarketWatch.

The employment participation rate fell to 65% from 65.1% as the labor force dropped by 98,000. The employment-population ratio was steady at 58.5%.

The unemployment rate fell for most major demographic groups. For whites, the rate fell to 9.3% from 9.5%. For blacks, the jobless rate dropped to 15.6% from 15.7%. For Hispanics, it fell to 12.7% from 13.1%. For men, it was 10.5%; for women, 7.9%; for teens, 26.7%.

First, we continue that Black and Hispanic Americans continue to bear the brunt of the bad job market.  Both Asian and White Americans continue to have the lowest rates as well as the best rate of improvement. This is also a really bad job market for young folks.  Women continue to hold onto their jobs more then men.  Again, a lot of this is due to the vast difference in wages paid to women.  We tend to be hired on the cheap.

The other curious piece of information is that the employment participation rate continues to go down.  This could be for several reasons.  Discouraged workers and long term unemployed people could be giving up.  It could also signal a return to school or early retirement.  This numbers deserves some exploration.  I’m hoping some labor economists dig into it further.

The NY Times today emphasized a bit more of the good news in the numbers.

Still, the November jobs report was more encouraging than most forecasters had expected. Apart from the unexpectedly small number of lost jobs, there was a surge in the hiring of temporary workers and the workweek lengthened, suggesting that thousands of workers on shortened schedules got some or all of their hours restored.

Although average hourly pay for most workers rose by only one cent, to $18.74, average weekly earnings rose smartly to $622.17 from $618.09 — reflecting the increase in hours, which employers coming out of a recession often do before hiring more people.

Since I’m not a labor economist, I have to say that a lot of what I feel right now about this report comes from my gut more than anything, but I’m personally worried that we’re seeing a large number of people that will be left on the sidelines during the next upswing.  I’m still not seeing any kind of emphasis on job training or re-schooling of people in some key industries that seem to be undergoing permanent downsizing.  Primary among these folks are those associated with the automobile manufacturing industry but it seems that drugmakers may be putting chemists into that category also.  I keep getting the feeling that the approach right now is to just send every one back to nursing school. Some how, I don’t think that’s going to be a long run solution to the problem.  Perhaps green technologies will use some of these folks into new fields, but I’m not overly optimistic.  I’m also pretty certain that we can’t turn them all into teacher and sales clerks at Walmart either.  So, this gives me some concern.  Again, I’m a financial economist not a labor economist, but I just believe that we need to get on top of this fairly quickly or we’re going to see a lot of middle aged, unemployed workers with no place to go that don’t have the luxury of going back to college.