What They Do With Your Money by Stephen Davis & Jon Lukomnik & David Pitt-Watson

Author:Stephen Davis & Jon Lukomnik & David Pitt-Watson
Language: eng
Format: epub
Publisher: Yale University Press
Published: 2016-02-25T16:00:00+00:00

RELEVANT AND UNBIASED INFORMATION

There is a close relationship between accountability and information. Not only do outsiders use the information but the reporting itself changes behavior. If someone has to report every time they do something questionable, they will be far more hesitant to do it in the first place.

How could regulators use information to improve the system? An overarching principle would be to ensure that there is maximum transparency in situations where the system might be abused.

Here is one example. At present we have a huge market in securities known as credit default swaps (CDSs). These are effectively life insurance contracts on a company, which pay out if a company defaults on its debt. Like human life insurance, they can be useful for anyone—say, someone who had lent the company money—who would be in trouble should the company fail. But unlike life insurance, CDSs do not need the permission of the party whose life is being insured. No one knows who holds a CDS or even the exact size of the CDS market. Estimates are in the trillions. Precisely because it is dangerous to allow people with bad intentions to take out insurance on your life, we should at least know who it is who holds a CDS. Having regulators know exactly what CDSs are outstanding and where they are can only help in their efforts to maintain a stable financial system.

Other financial instruments can also, in Warren Buffett’s memorable phrase, become “financial weapons of mass destruction.” Public disclosure of terms and conditions should be a requirement before any financial instrument can be tradable or transferable.38 While CDS terms are becoming standardized, thanks to the International Swaps and Derivatives Association, there is no central clearinghouse of such instruments.39

We could also use information to keep our regulators on their toes. If we want financial markets around the world to be effective, why isn’t there a global rating of regulators? Since investors can be expected to gravitate to the most trustworthy financial centers, such a rating might help create a race to the top, rather than one to the bottom. The Financial Stability Board has already identified “Key Standards for Sound Financial Systems.”40 What is missing is a commitment from the FSB to publish a market-by-market assessment of how well each market adheres to the standards.

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