Yield of Dreams

Greenspan: What’s Wrong With Dodd-Frank, and What Investors Didn’t Know Before ‘08

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Former chairman of the Federal Reserve Alan Greenspan spoke at SIFMA’s annual meeting Tuesday here in New York, providing a light-hearted picture of the U.S. economy, the problems with Dodd-Frank reform, and the mistakes investors made leading up to the financial crisis. The lunch session involved a lot of laughter.

Dodd-Frank is not the answer to the problems with the country’s financial system, Greenspan said. You cannot have financial reform that presupposes forecasts on the part of the regulators. Instead, it would be better to have capital requirements for banks and financial institutions that don’t involve forecasts, but are set.

He’d also like to see all banking institutions (that are in trouble, mind you) go through Chapter 11 bankruptcy. This would clear markets out, he said.

Dodd-Frank was full of sensible recommendations, Greenspan added, but with a number of rules, it just isn’t conceivable to implement them in the time frame given.

Also, Greenspan believes some of the rules don’t recognize the purpose of finance, which is to “direct the savings of society” toward “investments in cutting edge technologies,” which will increase productivity. The “too big to fail” institutions, which Greenspan did not name, are more likely than not misusing the savings of investors.  And the rate of savings flows has slowed down because of that misuse, he said.

Greenspan also pontificated on the’08 market crash.

Asset prices, he said, play a large role in economic forecasts, not as an economic indicator but as a cause of market turmoil. From mid-September 2008 through the next six to nine months, stocks lost $35 trillion of their listed value. It was the first time since 1907 that short-term financial markets broke down.

What happened? Before, there was an awareness that we had fat tails, but “what we never realized was how big that tail could be,” Greenspan said. When you actually trace the tail through beta, the tail turned out to be far larger than anyone predicted.

Why didn’t the markets self-police themselves during the market crash? “We have human nature that could be improved upon.”

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Casting a gimlet-eye on asset management issues.

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