Is the EESA enough?
When on October 3 the US Congress enacted the Emergency Economic Stabilisation Act 2008 that piece of legislation had "crisis" written all over it. And yet its passage did not quell arguments about to what extent the US government should have assumed...
When on October 3 the US Congress enacted the Emergency Economic Stabilisation Act 2008 that piece of legislation had "crisis" written all over it. And yet its passage did not quell arguments about to what extent the US government should have assumed that level of "bailer out" status.
Over many years students commencing financial studies have been taught that "acting as lender of last resort" is one of the typical functions of a central bank. In a crisis, or even in less hard times - students were taught - the central banks move in and operate in a way that suggests to depositors that banks would not be allowed to fail because of runs started by panic... and in so doing prevent or reverse the panic.
That approach over time evolved into a much more discreet and tempered stance that such is not an absolute maxim, and that, yes, there can and will be situations needing - in the national interest - that certain institutions be allowed to go under, and this in the interests of the totality of the country's financial system.
That, however, was not the end of systemic evolutionary thinking. As the financial world became ever more complicated in terms of institutional specialisations, products, and regulatory approaches, and as the real economy too went through its own specific forms of crises, there very quickly evolved a "too big to fail theory" which - willingly or unwillingly - entrenched itself into the mindset of institutional owner-managers, many of their customers, and the regulators too. Such institutions simply could not, and would not, be allowed to go under.
Norton (2000) describes these ever expanding and diversifying institutions as a "new corp of banking institutions" which has caused the development of a dominant trend in international bank regulation and supervision that separates them into their own class, and in a subtle manner shifts precisely such regulation and supervision towards more of a "functional self-regulatory" framework.
Was this "too big to fail" approach responsible for the US coming up with a law that has as its core a Troubled Asset Relief Programme (TARP) which makes it the most significant economic intervention by the federal government since the Great Depression? Under the law the Secretary of the US Treasury is authorised to purchase residential and commercial mortgage loans, mortgage-backed securities, and several other forms of obligations which would have been created before March 14, this year (described in the law as "troubled assets", Sec. 3(9)) from financial institutions. The list of these institutions includes banks, savings associations, credit unions, security brokers or dealers, insurance companies, and others (Sec. 3(5)). And the main objective behind such purchasing is that of restoring liquidity and stability to the national financial system.
Nothing in the Act itself says or suggests why it is only assets issued on or before March 14 that are covered by its provisions. Around the end of April many were still thinking that the scale of losses and the economic fallout from the credit crunch would not be turning out to be as bad as feared by some, and that sub-prime losses could actually be less than originally envisaged. By the last day of March - just in time to avoid an announcement on April Fool's Day - when Treasury Secretary Paulson unveiled the Bust administration's complex proposal for reform, things were in fact already really bad, and fully justified for example was the Institutional Investor's forecast that this would be a "year-long crisis in developed markets".
There are another three important dates in the Act. The first is November 16 by which time the US Treasury Secretary has to establish programme guidelines and mechanisms for this purchasing of troubled assets, and for the methods to be used in the pricing and valuation of these assets. Then there is the interesting date of December 31, 2009 which is the date up to which federal deposit insurance will provide cover on citizens' bank deposits up to an extended amount of $250,000, i.e., from the present $100,000. And - given the characteristics of this crisis - many are in fact already asking what will really be happening in the FDIC after that date. It's not as far as it might seem
The third important date in this EESA is also December 31, 2009 but this time this is in respect of that being the date when the secretary's authority for the purchase and insuring of the troubled assets covered by the Act comes to its end, (Sec 120(a)). There is, however, a provision that general authorities under the Act could possibly be extended until October 3, 2010.
A characteristic public blunderbuss on most radio and TV programmes which I have followed during this crisis has been aimed at the big pay-off cheques which top brass in failing institutions can walk away with in terms of their work contracts. Well this Act now imposes limits on the compensation of senior executives of institutions that participate in the TARP. The Act empowers the US Secretary to set appropriate standards for executive compensation and corporate governance for the top five highly-paid executives of such companies. (Sec.111(b)(3). Golden parachutes will be prohibited.
Many US accountants will, in the circumstances, feel relieved that the EESA provides in Section 133 for what has been interpreted as the eventual possibility of selectively suspending the provisions of FAS 157 that generally requires mark-to-market accounting of securities and other assets. The FASB's September 30 statement on the subject of value accounting had already gone some way towards satisfying the anger of many who were in fact blaming this accounting standard as fuelling the current economic crisis, and one would be not at all surprised if alternative accounting standards to FAS 157 will soon be forthcoming.
Will these, and the many other interesting provisions of EESA 2008 - which space does not allow me to deal with - all work out? EESA is backed by a $700 billion bank rescue package. But whether that is enough or not remains in fact a key question. One estimate which I have read marks the real need for overcoming all the public and non-public financial sector's needs as being closer to $ 1.8 trillion. Given also the non-financial sector (the real economy)'s current situation the simple question may then well arise: is the US still a successful capitalist economy? Does it have the wherewithal to get through this impasse? Be it by Obama, be it by McCain, the post-Bush cleaning up that needs to be done is enough to send shivers down any politician's spine.
• Dr Consiglio teaches banking regulation and international banking law in the department of Banking and Finance at the University of Malta.
Over many years students commencing financial studies have been taught that "acting as lender of last resort" is one of the typical functions of a central bank. In a crisis, or even in less hard times - students were taught - the central banks move in and operate in a way that suggests to depositors that banks would not be allowed to fail because of runs started by panic... and in so doing prevent or reverse the panic.
That approach over time evolved into a much more discreet and tempered stance that such is not an absolute maxim, and that, yes, there can and will be situations needing - in the national interest - that certain institutions be allowed to go under, and this in the interests of the totality of the country's financial system.
That, however, was not the end of systemic evolutionary thinking. As the financial world became ever more complicated in terms of institutional specialisations, products, and regulatory approaches, and as the real economy too went through its own specific forms of crises, there very quickly evolved a "too big to fail theory" which - willingly or unwillingly - entrenched itself into the mindset of institutional owner-managers, many of their customers, and the regulators too. Such institutions simply could not, and would not, be allowed to go under.
Norton (2000) describes these ever expanding and diversifying institutions as a "new corp of banking institutions" which has caused the development of a dominant trend in international bank regulation and supervision that separates them into their own class, and in a subtle manner shifts precisely such regulation and supervision towards more of a "functional self-regulatory" framework.
Was this "too big to fail" approach responsible for the US coming up with a law that has as its core a Troubled Asset Relief Programme (TARP) which makes it the most significant economic intervention by the federal government since the Great Depression? Under the law the Secretary of the US Treasury is authorised to purchase residential and commercial mortgage loans, mortgage-backed securities, and several other forms of obligations which would have been created before March 14, this year (described in the law as "troubled assets", Sec. 3(9)) from financial institutions. The list of these institutions includes banks, savings associations, credit unions, security brokers or dealers, insurance companies, and others (Sec. 3(5)). And the main objective behind such purchasing is that of restoring liquidity and stability to the national financial system.
Nothing in the Act itself says or suggests why it is only assets issued on or before March 14 that are covered by its provisions. Around the end of April many were still thinking that the scale of losses and the economic fallout from the credit crunch would not be turning out to be as bad as feared by some, and that sub-prime losses could actually be less than originally envisaged. By the last day of March - just in time to avoid an announcement on April Fool's Day - when Treasury Secretary Paulson unveiled the Bust administration's complex proposal for reform, things were in fact already really bad, and fully justified for example was the Institutional Investor's forecast that this would be a "year-long crisis in developed markets".
There are another three important dates in the Act. The first is November 16 by which time the US Treasury Secretary has to establish programme guidelines and mechanisms for this purchasing of troubled assets, and for the methods to be used in the pricing and valuation of these assets. Then there is the interesting date of December 31, 2009 which is the date up to which federal deposit insurance will provide cover on citizens' bank deposits up to an extended amount of $250,000, i.e., from the present $100,000. And - given the characteristics of this crisis - many are in fact already asking what will really be happening in the FDIC after that date. It's not as far as it might seem
The third important date in this EESA is also December 31, 2009 but this time this is in respect of that being the date when the secretary's authority for the purchase and insuring of the troubled assets covered by the Act comes to its end, (Sec 120(a)). There is, however, a provision that general authorities under the Act could possibly be extended until October 3, 2010.
A characteristic public blunderbuss on most radio and TV programmes which I have followed during this crisis has been aimed at the big pay-off cheques which top brass in failing institutions can walk away with in terms of their work contracts. Well this Act now imposes limits on the compensation of senior executives of institutions that participate in the TARP. The Act empowers the US Secretary to set appropriate standards for executive compensation and corporate governance for the top five highly-paid executives of such companies. (Sec.111(b)(3). Golden parachutes will be prohibited.
Many US accountants will, in the circumstances, feel relieved that the EESA provides in Section 133 for what has been interpreted as the eventual possibility of selectively suspending the provisions of FAS 157 that generally requires mark-to-market accounting of securities and other assets. The FASB's September 30 statement on the subject of value accounting had already gone some way towards satisfying the anger of many who were in fact blaming this accounting standard as fuelling the current economic crisis, and one would be not at all surprised if alternative accounting standards to FAS 157 will soon be forthcoming.
Will these, and the many other interesting provisions of EESA 2008 - which space does not allow me to deal with - all work out? EESA is backed by a $700 billion bank rescue package. But whether that is enough or not remains in fact a key question. One estimate which I have read marks the real need for overcoming all the public and non-public financial sector's needs as being closer to $ 1.8 trillion. Given also the non-financial sector (the real economy)'s current situation the simple question may then well arise: is the US still a successful capitalist economy? Does it have the wherewithal to get through this impasse? Be it by Obama, be it by McCain, the post-Bush cleaning up that needs to be done is enough to send shivers down any politician's spine.
• Dr Consiglio teaches banking regulation and international banking law in the department of Banking and Finance at the University of Malta.