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Four steps to financial sanity
Four things President Obama could do to create a sense of social responsibility in the financial markets.
Barack Obama has taken office at a critical time in U.S. history. We’re fighting two wars and facing what the new U.S. President and others have called the biggest financial crisis since the Great Depression. Stock markets have collapsed more than 50 percent from peak to trough in most parts of the world. But the meltdown began in the U.S., and at least part of the solution must come from here. Below are some of my ideas, drawn from years as a student of the financial markets and as a socially responsible investor, about how to return some sanity to financial markets.
1
Re-regulate
There’s a difference between making money and stealing it. Recent events, like the uncovering of what I view as criminally sloppy ratings of credit default swaps (financial mechanisms designed to transfer the risk of default on certain types of securities), have underlined that difference. The tide of financial deregulation that began 30 years ago must be reversed. More open and transparent reporting by companies and more aggressive enforcement of existing regulations are step one.
2
Rein in private equity and hedge funds
Hedge funds and private equity funds are largely unregulated and their managers can do a variety of things that ordinary investors can’t like borrow 20 times as much capital as they raise. Though they maneuver in ways that are frequently risky and lacking in transparency, fund managers have been allowed free rein because they cater to supposedly sophisticated investors with high net worth. But “sophisticated” investors don’t always exercise good judgment.
The U.S. Securities and Exchange Commission (SEC) has a mandate to protect investors, but in this case it has walked away from any responsibility toward the ultimate investors, who include pension fund beneficiaries and other members of the general public. The SEC also has a mandate to protect the general public from market abuses. It isn’t particularly relevant to those who were harmed by the actions of hedge funds and private equity funds that these funds’ investors were sophisticated. Those of us who were innocent bystanders need greater protection from such “sophistication.” The SEC must develop reporting mandates, capital requirements and strict governance standards, including independent directorships, for hedge funds and private equity funds.
3
Deter speculators
Only when speculators are driven from the market will real investors dare enter: investors interested in the earnings and long-term prospects of companies, not in what their stocks will do in the next few days or weeks.
To help deter speculation, one easy first step would be to reinstate the uptick rule, which allows an investor to sell a stock short only when its price is rising. (Short selling is a practice through which an investor makes money if the price of a stock goes down.) The rule was in force for decades and prevented short-sellers from pushing stock prices down for profit. The uptick rule was reversed in July 2007, leading to a huge jump in this form of speculation. The President could also tax gains made from short-term stock trading at an extremely high rate, eliminating this damaging way of operating by making it unprofitable, or he could end the practice of announcing each quarter’s expected earnings. The earnings guidance game reinforces the emphasis on short-term profit that has done so much to unbalance the markets and the economy.
4
Emphasize the beneficiary
“Fiduciary responsibility” has been a familiar excuse for money managers and speculators who seek the greatest profits for their clients without considering that those clients need a clean planet and a just society if they’re to enjoy those profits.
President Obama should start in two ways. First, he should direct the Financial Accounting Standards Board, which regulates accountants in the U.S., to review its standards for what information is “material.” The current system allows most environmental and social risks to go unreported, enabling fiduciaries to ignore them. Second, Obama should revisit the Employee Retirement Income Security Act (ERISA), which governs a wide range of employee benefit plans. He should ensure that the standards guiding ERISA fiduciaries take into account the overall well-being of the beneficiary.
Amy Domini is the founder and CEO of Domini Social Investments, and author of several books on ethical investing.
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While this article raises some interesting points i would like to stretch the imagination. In the process i want to keep in mind Einstein’s classic definition of insanity – doing the same thing over and over again and expecting different results.
Indeed these are incredible times…of opportunity. The marketplace yearns for new direction.
Even this year’s World Economic Forum recognized the failings of our financial institutions as a failure of values. Regulation is then used as a tool to change course. Beyond that more substantive adjustments to the very foundation of market concepts are needed. In my view values cannot be regulated. Morality cannot be regulated. Ethics cannot be regulated. In my idealistic naivety i always thought a primary role of government was to look beyond monetary profit motives and act on the best interest of the whole for the present and future generations. Thus a government can provide incentives. A government can fund prototype programs. A government can be the exemplar. I find there to be no shortage of alternative ideas from which to draw upon. These ideas just need a little boost.
For example, a point alluded to at the Forum was to differentiate between what brings true value versus what is sheer money. Given the power of taxation to drive incentives a government could tax on this differentiation. For those whose motive is monetary gain, their tax level would be 50%+. For those whose motive is as an investment to support an idea, their tax level would drop to 0% when held over 20 years. (These are just benchmarks to get the ball rolling.)
Reactions to the current climate frequently make reference to a small group of individuals which ran rough shod over the financial system, yet say nothing of those who were glad to swap their holdings (even 401ks and homes) from one instrument to another to catch the high tides (to ‘make money’), ignoring completely the impact of such actions on the companies and neighborhoods trying to use the capital marketplace to fund their passions and ideas. In addition Wall Streeters, including its Speculators, are an interesting lot. There is a skill in what they do and instead of slapping on the wrist those who perhaps used that skill to its fullest, i would like to see that skill redirected. For example, Mr. Madoff could be placed in charge (well, co-charge with oversight) of developing and promoting a micro investment instrument which is measured on a ‘Gold Star’ system as opposed to $. Such a system would recognize and reward those very values and principles which the World Economic Forum deems missing from the equations. Can you imagine Wangari Maathai’s tree planting program established as a ponzi pyramid scheme in which the number of trees planted increased exponentially as one climbed the pyramid.
And of course, to truly get beyond these recurring scenarios of greed infestation, we need to recognize that the Speculators, Hedge Fund Managers, Traders, et al who have gone awry still represent only some of the variables in the equation. In my opinion we need to carefully weigh our own motivations when we transact with money in all of its engagements. In this regard Pres Obama can best act as exemplar in orchestrating his own dealings with money. (Sadly, it would seem the orchestra is stuck on the same boring tune…playing to an empty house…literally.)
That said, this so called ‘free market system,’ labeled Western Capitalism, has generated some amazing accomplishments. There is an energy in this system which has incredible value. For one, it has been a motivator of unbelievable innovations. Personally, i don’t want to simply discard the values hidden within it. So perhaps our focus needs to be on integrating true value into the system. For example, if we placed all the resources of the World into a global depository network, a company which used these resources would have to report a withdrawal from this network. For example, a company which decides to build a new office in a rural farm region has just withdrawn farmable acreage from the depository as well as several trees, a disruption to air quality, changes to the eco-water distribution, etc. All this and the company hasn’t even broken ground for its new facilities. However, if it took an existing abandoned facility and converted it to energy neutral, created neighborhood garden plots instead of parking lots, collaborated with local human resources, created products with positive ratings on the cultural/social scale (as measured by a network of local residents), enhanced a modified version of Bhutan’s Happiness Index, etc., etc., it would be adding to the global depository. All of these activities would translate to the financial statements of that company and thus would be reflected in the bottom line profit.
We still maintain the concept of profit as a motivator and metric but the definition is completely overhauled to integrate those true value concepts. It is a win-win scenario.
Look at the amazing technological innovations originating from even just one tech oriented institution. I particularly like the example used by Dr. Horst Störmer in his talk on NanoScience. In looking at the evolution of the transistor, he asks us to imagine this same rate of change for the car. It becomes obvious that the car of today is not much different from the car of a hundred years ago. I take this a step further and ask, where are those same revolutionary innovations (as the transistor) in our institutional structures? Clearly the ideas are there. Where is the courage? Where is the initiative? (Refer back to Ode’s article this month, The Swiss Solution.)
What amazes me is that with all of the new ideas coming out of the tech fields, with all of the philanthropic endeavors, with all of the cash rich niches in the marketplace, and with the heightened receptive state of the population to dramatic progressive changes,… with all of these factors why doesn’t even just one of these groups create that state-of-the-art financial statement which truly integrates value at every step of the company’s Life cycle, perhaps even leaving an inheritance to the Global Depository at its Life’s end (sort of where the oil-driven combustion-engine-based car industry is right now)??? Wouldn’t such a tactic in today’s environment create a huge marketing advantage?
Without elaborating on the details of such an argument, i question whether the benefits of ‘economies of scale’ have outlived their usefulness. Perhaps the age of mega is passé. Perhaps we need to measure new ideas by a micro and local standard. Such concepts were the very basis of my proposal to the Obama Administration as an alternative to the mega-bailouts. And such was the very basis of my proposal to the Bush Administration and the UN when they were at a loss for alternatives to the Iraqi situation prior to ‘Shock and Awe.’ Such proposals advocated policies that empower on the local and at the micro levels. The internet provides an outstanding platform for such a global application. Yet the mega concept still holds – mega bailouts, mega wars, mega oil, mega stores, mega farms, mega pharma, mega hospitals, mega health care… I have heard an axiom on Talk Radio which perhaps needs to be added to the Einstein rule of thumb: if it’s too big to fail, it’s too big to exist.
These are at minimum what i expect to be considered by a forward-thinking leader, such as (if i dare be so bold to classify him as such) Pres. Obama (and his staff). These concepts are what begin to formulate when we change our mindset, the key word being ‘we’. Such policies are only going to be effective, if the populace begins to step up to the plate and take responsibility for its destiny. Participation at all levels is key. Policies need to encourage and protect such measures.
Absolutely, there will be naysayers. Which is when i gain encouragement from a comment passed on by Robert Kennedy - You see things; and you say, ‘Why?’ But I dream things that never were; and I say, ‘Why not?’.
I certainly do not want to diminish the points you raise in your article. You present some fascinating food for thought and that in and of itself is important in spurring the conversation. But the 4 points are tweaks to a system that is greatly in need of and more than ready for a major overhaul. We have the technology. We have the skills. Do we really have to wait for a complete collapse (and invariably a state of martial law, and we know whom that would protect) to … in hindsight wish, if only we had ____________?
posted by HoaryMarmot on 5/ 8/2009 2:15 am