March 08, 2010
In Praise of the Vague

It used to be the practice at the old Washington Daily News to write things like, “Police identified the murder suspect as Howard Ignoto, of the 1700 block of Maple Street.” If a more precise address turned out to be even a single digit off, a bedridden 90-year-old bishop’s widow would inevitably be living at that number. Our lofty journalistic principle was therefore, “It is better to be vague than wrong.”

The Epicurean Dealmaker suggests following the same principle when it comes to resolution authority to discipline Wall Street houses judged too big to fail, and his reasons are equally practical:

I like the fact that the proposed resolution authority is currently vague and undefined. I think it should be written into law in as vague and undefined a manner as possible. That would make it much more effective in combating the next (inevitable) financial crisis…

For another thing, vagueness will offer regulators discretion.

This will have two salutary effects. It is well known that financial institutions — like sophisticated businesses everywhere — are expert at structuring their business practices to satisfy the letter of the law, while evading its spirit and intent with maximal effect. The more specific laws and regulations become, the easier it is for these institutions and their in-house and outside counsel to find their way around them.

Should legislation authorizing resolution authority be too specific — in the tools, techniques, and processes regulators are allowed to use in identifying and winding down financial institutions in distress — then you can bet your bottom dollar those firms will exploit this fact to skew the game in their favor. In contrast, purposely vague and undefined resolution authority will not offer its potential objects as many preemptive opportunities to evade its intended jurisdiction or consequences.

In addition, regulatory discretion would foster what I would view as a healthy increase in uncertainty among financial institutions and their stakeholders. Should, for example, a regulator have the authority to unilaterally abrogate, modify, or suspend any and all prior contracts or securities arrangements entered into by a financial institution undergoing resolution — as some might suggest — you can just imagine how much more cautious investors, lenders, and counterparties would become in their dealings with any financial institution potentially subject to such a regime in the future.

The cost of funding financial institutions would undoubtedly rise, as investors become sensitized to increased contractual risk. Firms in obvious distress would see their cost of financing skyrocket and their counterparty business dry up, as no-one with a contractual claim could rest assured it would receive exactly what it was otherwise entitled to in a resolution wind up. But then again, firms in obvious distress see that happen anyway. The point is that regulators charged with cleaning up the mess would not have their hands completely tied by contractual arrangements entered into by others when the failing company was healthy…


Posted by Jerome Doolittle at March 08, 2010 01:20 PM
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Sounds like this assumes that government would actively support and require regulators to actually do their job. Hasn't been much evidence of that recently. Thinking that the threat of regulation which is less than a slap on the back of the hand will rein in the greedy on wall street and insurance and the banking industry is rainbow stew material.

Posted by: John Gall on March 8, 2010 3:45 PM

If Hank Paulson, or anybody like him (and there are many) gets such authority I'm agin' it.

If Dennis Kucinich or Bernie Sanders or one of the few like 'em get such authority I'm for it.

But in general, this does seem to make sense, despite the terrible abuse factor that seems to be built into the system.

I'd just add a personal liability clause so if a jury finds that a regulator engaged in conduct that benefits himself or one his former firms, or prospectively for the next 10, 15 or 20 years, one of the firms he has business relations with that financially benefits him or one of his immediate family members, then that regulator and that benefitting firm can be sued personally with the government representing the regulator for free, but with personal liability attaching to the regulator and the firm that so benefits from those actions, but not to the government, including a levy on the regulators government pension or any other assets. This would serve to keep regulators and the firms (and their successors) thus regulated or wound down from engaging in personal or professional business relationships and would keep them estranged from each other for fear of liability for enough time such that neither would dare make promises to the other or play let's make a deal.

This liability provision muddies the water a good bit and some regulators would fear it, but not those who planned to remain in government service for life. Perhaps the regulator could even be offered a guarantee that a government position would always be open to him or her in his choice of regions of the United States for life, with no guarantee of what that position might be but with assurance that if he behaved honorably in his role, he would be given extra benefits for forgoing private sector work.

The provision I added might be unworkable but at least it would prevent the kind of misbehavior that is currently so common.

I well remember Paulson's request for complete immunity from liability for his actions. That was a big clue that Paulson was up to no good and the facts now bear out that was exactly what he was up to. No good.

Posted by: Buck on March 8, 2010 4:09 PM

He's nuts. Vagueness in law does not lead to more prosecutions, it leads to fewer. The legal departments at those financial institutions would be more than delighted to have laws they can run circles around. It would be a regulatory nightmare.

Posted by: karen marie on March 9, 2010 10:02 AM

I'm with Buck on this. We have too many foxes guarding the henhouses. At least we could make the foxes nervous.

Posted by: Joyful on March 11, 2010 5:10 AM
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