Financial Markets: Regaining Stability/Promoting Innovation

BCLB has responded to the worldwide economic collapse with a project on Financial Market Innovation and Stability that combines academic resources across the UC Berkeley campus with business, professional and policymaking innovators to develop research informed recommendations to protect and enhance financial markets in the U.S. and worldwide. Project outputs have included research into the limits and opportunities to preventing foreclosure of home loans, responses to regulatory recommendations, and community forums in which leading Berkeley professors have informed live and online audiences of the origins and reach of the economic crisis and evaluated the public and private responses to it.

The Great Recession: BCLB Programs on its Origins and Aftermath

As part of BCLB’s project on Financial Market Innovation and Stability the center is collaborating with the UC Berkeley Center on Institutions and Governance (IGov) to co-sponsor a series of panel presentations.  Faculty from across the greater UC Berkeley campus meet to address topics including the origins of the crisis, an analysis of proposals to restructure the financial sector, the role of national and international institutions in returning stability to the system, and the state of the labor market. Video links are available below.

Business & Ethics: Lessons from the Global Economic Crisis, December 1, 2009

Global Unemployment, October 28, 2009

Global Financial & Economic Crisis: What Should the G20 do? March 18, 2009

Good Bank Bad Bank, February 18, 2009

Global Financial Market Turmoil, October 2, 2008

BCLB also organized Boalt Hall Alumni Reunion panels as part of its Financial Markets project.  The presentations examined the causes of the collapse and the process and prospects for rebuilding.

Alumni Reunion Panel, October 10, 2009
Rebuilding the U.S. Financial System: The Causes, Consequences and the Regulatory Responses to the Credit Crisis
Panelists explored the prospects for preserving stability while promoting healthy innovation in the financial sector.  

To view a video of the panel, follow this link.
To view Professor Wallace’s powerpoint click here.
Systemic Risks and the Bear Stearns Crisis by M. Halloran.

Alumni Reunion Panel, September 20, 2008
Financial Market Turmoil
Panelists explored the prospects for preserving stability while promoting healthy innovation in the financial sector.

To view a video of the panel, follow this link.
The papers presented can be downloaded:
Credit Rating Agencies and the ‘Worldwide Credit Crisis’: The Limits of Reputation, the Insufficiency of Reform, and a Proposal for Improvement (summary)
Hedge Fund Regulation: The President’s Working Group Committees’ Best Practices Reports
The SEC’s Proposed Rating Agency Rules: Unresolved Conflicts

Financial Regulatory Reform Legislative Proposals

The global economic collapse has stimulated extraordinary activity in the U.S. Congress as legislators try to prevent a recurrence of the 2008 meltdown. Scores of bills have been introduced in Congress, a few have passed and several sweeping reforms are approaching floor debate. Concurrently with this legislative activity, Congress has heard testimony from business leaders, academics, and many of the nation’s top regulators.  BCLB has compiled links to the testimony and pending legislation and prepared summaries of many of the presentations to Congress. This material is available at the following link:

Financial Regulatory Reform: Legislation and Testimony

Publications and White Papers

Robert P. Bartlett III presented “Inefficiencies in the Information Thicket: A Case Study of Derivatives Disclosures During the Financial Crisis” at the 2010 Annual Meeting of the American Law and Economics Association.

Anita K. Krug comments on the Obama administration’s proposal for the regulation of hedge fund investment advisers in, “The Private Fund Adviser Registration Act.”

Nancy Wallace and Richard Stanton, in The Bear’s Lair: Indexed Credit Default Swaps and the Subprime Mortgage Crisis, discusses the findings of their study of the pricing of ABX.HE indexed credit default swaps on baskets of mortgage-backed securities. This index is the main benchmark used by financial institutions to mark the subprime mortgage portfolios to market but Wallace and Stanton question whether the index is suitable for this important purpose.

Eric Talley and Haas Professor Johan Walden were retained by the Congressional Oversight Panel to asses the stress tests that the U.S. Treasury applied to evaluate the condition of the nation’s largest financial institutions. Their assessment can be found in the Panel’s June 2009 report “Stress Testing and Shoring Up Bank Capital.”

Dwight Jaffee offers a framework and a specific proposal for the re-regulation of key components of the U.S. financial system in the aftermath of the subprime mortgage in “Monoline Regulations to Control the Systemic Risk Created by Investment Banks and GSEs.”

Anita K. Krug discusses the Obama Administration’s proposals on financial regulatory reform relating to hedge funds and other private funds and proposes considerations that should inform Congress’s formulation of policy in “Financial Regulatory Reform and Private Funds.”

Anita K. Krug discusses possible regulatory responses to the Madoff fraud and considers what additional information might be useful to Congress and regulators in formulating that response.

Anita K. Krug evaluates the impact on private investment funds, and the markets generally, of the proposed Hedge Fund Transparency Act of 2009.

John P. Hunt comments on the, “Securities and Exchange Commission Re – Proposed Rules for Nationally Recognized Statistical Rating Organizations.” 

Has securitization caused subprime mortgages to go into default because mortgage servicers cannot modify these loans? Read John P. Hunt’s analysis in his paper, “What Do Subprime Securitization Contracts Actually Say About Loan Modification?” 

Dwight Jaffee and Mark Perlow assess the impact of the Bear Stearns rescue and outline steps to prevent something similar from happening again in “Catastrophe Insurance and Regulatory Reform After the Subprime Mortgage Crisis”

John P. Hunt provides a TARP summary in “A Guide to the Financial Bailout Legislation (The Emergency Economic Stabilization Act of 2008)”

Commentary From the UC Berkeley Campus

Scholars around the UC Berkeley campus have been pursuing research activities related to the international economic crisis and government and private sector responses to it. Collected below are a selection of findings and commentary arising from this work.

J. Bradford Delong, in “The Pricing of “Troubled” Assets,” suggested a methodology that could have been used for pricing assets under the Troubled Asset Relief Program (TARP), with a particular focus on mortgages and collateralized debt obligations.

Barry Eichengreen, in “The Financial Crisis and Global Policy Reforms,” looks at two explanations for the crisis: first, as a result of inadequate regulation and distorted incentives, and second, as a consequence of global imbalances leading to an unsustainable housing and credit boom in the United States.  He then offers suggestions for the design and coordination of national and global policy reforms.

Nichols Gârleanu with Darrell Duffie and Lasse Heje Pedersen provide a theory of “Valuation in Over-the-Counter Markets.”  The authors conclude that in over-the-counter markets illiquidity discounts are higher when counterparties are harder to find, when sellers have less bargaining power, when the fraction of qualified owners is smaller, or when risk aversion, volatility, or hedging demand are larger. 

Carl Landauer, in his commentary “The Regulatory Divide: Unintended Consequences of Global Financial Risk Measures for Emerging and Developing Economies,” observes that in response to the economic crisis international organizations and the advanced economies have adopted risk-mitigation measures that may have the unintended result of disadvantaging emerging and developing economies

Alexi Tchistyi with Barney Hartman-Glaser and Tomasz Piskorski address the design of mortgage backed securities in a moral hazard setting to find the optimal contract between a mortgage underwriter and a secondary-market investor in “Optimal Securitization with Moral Hazard.”

Commentary from Beyond Berkeley

We have found many informative analyses and commentaries on public sector efforts to stabilize financial markets while preserving their innovative and evolutionary potential. A selection of these observations, drawn from BCLB sponsors and others, follows.

In a special issue of The Economists’ Voice, “Financial Market Regulatory Reform,” experts from around the country discuss whether or not financial reform is possible and how it can be effective.

“Economic Stabilization Report: October 22, 2009: Federal Reserve Proposes Guidance on Incentive Compensation”
William J. Sweet, Jr., Skadden, Arps, Slate, Meagher & Flom LLP, October 22, 2009
The article concerns proposed incentive compensation guidelines issued by the Federal Reserve affecting large banking organizations.  The article outlines the objective of the compliance regime and the individuals to whom the regime would apply.

“SEC Proposes Rules to Enhance Compensation Decision-Making Transparency: Increased Disclosure Requirements for the 2010 Proxy Season and Certain Securities Filings”
Joseph M. Yaffe, Skadden, Arps, Slate, Meagher & Flom LLP,  Financial Fraud Law Repor, October 2009
The article addresses proposed changes by the Securities and Exchange Commission affecting corporate proxy statements.  The article concludes that the rules would increase compensation practice disclosure; change the manner in which stock and options awards are reported; increase reporting of the relationship between compensation and risk; and increase required information on compensation consultants.

“US Corporate Governance Today: A Reshaping of Capitalism”
Peter Allan Atkins, Skadden, Arps, Slate, Meagher & Flom LLP,  The M&A Lawyer October 2009
The article addresses the current state of corporate governance, specifically addressing issues of capital sources, risk, the role of directors, executive compensation, and the fundamental purpose of business. 

Recent Developments and Important Considerations for Companies Preparing for the 2010 Proxy Season, Wilson Sonsini Goodrich & Rosati, September 14, 2009
The article outlines recent Securities and Exchange Commission and New York Stock Exchange rule changes, including rules governing broker discretionary voting, proxy access, executive compensation, and corporate governance disclosures, along with guidance on how to prepare conforming proxy statements.  The article also presents current legislative proposals including the Shareholder Bill of Rights Act of 2009, the Excessive Pay Shareholder Approval Act of 2009, the Excessive Pay Capped Deduction Act of 2009, the Shareholder Empowerment Act of 2009, and the Corporate and Financial Institution Compensation Fairness Act of 2009.

SEC Proposes New Rules for Enhanced Proxy Statement Compensation and Corporate Goverance Disclosures, Milbank, Tweed, Hadley & McCloy, July 27, 2009
The article explains proposed Securities and Exchange Commission amendments regarding proxy rules that would increase disclosure of compensation policies, information that contributes to a company’s risk profile, individual equity awards, director and nominee qualifications, leadership structure, compensation consultants, and shareholder voting results.
Department of the Treasury Proposes Executive Compensation Reform,
Wilson Sonsini Goodrich & Rosati, July 22, 2009
The article outlines elements of the Investor Protection Act of 2009 that focus on shareholder say-on-pay requirements and independence requirements for compensation committees.

The Obama White Paper on Financial Regulatory Reform
Milbank, Tweed, Hadley & McCloy,  June 19, 2009
The article addresses the Obama administration’s financial regulatory reform proposals in the context of its consequences for market participants.  The article outlines nearly a dozen consequences including increased capital requirements for derivatives trading and Tier 1 banks, changes in accounting standards, a new Federal regulator, and limits on executive compensation.