Wednesday, June 6, 2007

The Outrageous Lie That Is "Market Discipline"

American regulators once again thumbed their noses to their EU counterparts and rejected calls for stricter regulation of the hedge fund industry. In a statement yesterday to a monetary conference Fed Chairman Ben Bernanke said: ''We believe the first line of defense in ensuring stability in the hedge fund sector is via market discipline.''

Well, pardon my naivete, but I take that to mean that hedge funds (and everyone else) should also be allowed to fail when they screw up - regardless of size. That's what market discipline is all about: if you are naughty, Mr. Market takes a switch to your bottom and gives you "a thumpin' ", to quote none other that G.W. Bush. But does that happen? Oh, no...that would be irresponsible, it would risk systemic failure... by golly, some filthy rich people could even become plain dirty rich people. Greenspan engineered LTCM's bailout years ago and the hedge fund industry got the message lightning fast: the bigger and riskier your bets, the better your chances of governmental assistance and munificence. Ditto for everyone else in the financial betting parlor, too: has anyone peeked at the off-balance sheet items of the major commercial and investment banks lately? As in multi-trillion$ in new derivative positions, in just a few years?

So, as it stands right now, market discipline is a bald-faced lie, a practical oxymoron that has been understood by the whole financial industry to be the rallying cry for "do as you please and worry not, taxpayer money will save your bottom - if you are big enough." Worse than that, the presumption of bailouts (today it's called the "Paulson Put") has resulted in a whole range of risky positions, speculative strategies and huge leverage, combined with a sentiment of apathy towards volatility.

Until and unless regulators let a big fund/bank/etc. go under - if it comes to that, of course - by saying: "What are you calling me for? I'm the government, not the hedge fund mutual aid society. Call your investors and your banks", I will treat "market discipline" as the shortest of jokes - and, at this point, a most irresponsible policy.


  1. There's lots of talk about market discipline and other synonyms when the market is going up. But since the masters of the universe understand what is going on, they are able to leave J6P holding the bag when the markets turn (witness sub prime mortgages), then congress calls for boo hoo bailouts.

  2. Hi hellasious,

    It is a pleasant surprise to find a few voices in America on the right side. We know fairly well what the outcome will be.

    Thank you for posting. I'm supportive but won't argue to-day (always difficult for me in English).

    The whole issue is about people getting rich at the expense of others.

    Just plain sad to-day.


  3. I would think the current subprime mortage blowout would be a real life example of derivatives gone bad but I can't fathom from the press how the industry is handling all the defaults.Are there a lot of back door dealings or will the true risk takers please stand up?

  4. Dear anon.

    The real risk takers are the holders of all the mortgage-backed securities that include sub-prime loans. If you have followed my postings several weeks back, you are aware of how even the riskiest of loans can be transmuted into AAA bonds by virtue of slicing them into tranches via optimistic default assumptions.

    Rating agencies are still holding the line on CDO downgrades, since the legal procedure for mortgage defaults is lengthy - unlike, say, corporate debt which is very fast.


  5. Too big to fail... What worries me is that some of these funds have gotten so big that they CAN'T be saved. The street has a tendency to view the FED as an omnipotent entity. It's not. Perhaps they once were, or nearly were, because they were the biggest organization on the block they could enforce a diktat. Now they're just one of many forces that influence the dollar. Hubris and ignorance are a dangerous combination. Interesting times ahead.

  6. Syria to End Dollar Peg, 2nd Arab Country in 2 Weeks (Update3)

    By Zainab Fattah and Matthew Brown

    June 4 (Bloomberg) -- Syria became the second Middle Eastern nation in two weeks to say it will dump its currency's peg to the dollar to curb rising import costs and inflation.

    The country will link the Syrian pound to a broader range of currencies starting in the middle of July, central bank Governor Adib Mayaleh said.

    ``The decision is final,'' he said in a phone interview from Abu Dhabi. ``This will help stabilize the Syrian pound and bring down inflation.''

    The shift away from the dollar among Middle East countries is a sign of the waning attraction of the currency for central banks around the world. The dollar made up 64.7 percent of global foreign-exchange reserves in the fourth quarter, down from 65.8 percent in the prior three months, International Monetary Fund data show. The euro's share was 25.8 percent, the highest since its 1999 debut.

    Syria is broadening its peg after the country's currency was dragged lower against the euro by a 10 percent slide in the dollar last year, pushing up the cost of imports from Europe. Kuwait switched to a basket of currencies on May 20 because of gains in consumer prices, which are also accelerating in the United Arab Emirates and Qatar.

    ``The weaker dollar is fueling inflation,'' said Dorothee Gasser, an analyst at ING Bank in London. ``We see the U.A.E. as the next possible shifter.''

    Who's Next?

    The U.A.E. dirham slid 0.01 percent to 3.6727 against the dollar today, the Qatari riyal gained 0.01 percent to 3.6392, and the Saudi riyal was little changed at 3.7504. The Syrian pound was unchanged, according to data compiled by Bloomberg.

    Syria will tie its currency to so-called special drawing rights, certificates issued by the IMF that represent a basket of currencies including the dollar, euro, yen and U.K. pound.

    Mayaleh said today that the pace of price gains in Syria may slow to 8 percent this year, from 10 percent in 2006, because of the decision.

    U.A.E. Prime Minister Sheikh Mohammed bin Rashid al-Maktoum said on May 22 that the country would keep its link to the dollar, even after inflation quickened to 10.1 percent in 2006, from 7.8 percent the year before.

    ``Inflation is a risk for all these countries and allowing their currencies to appreciate versus the dollar is one way to address that,'' Jon Harrison, an analyst at Dresdner Kleinwort Group Ltd., said in London.

    `We're Technocrats'

    Qatar's consumer price index leapt 14.8 percent from a year earlier in the first quarter of this year, from 12.8 percent in the prior three months.

    Rising costs in the U.A.E. and Qatar are ``a clear call for currency revaluation,'' Serhan Cevik, a London-based economist at Morgan Stanley, said in an e-mailed research note last week.

    Syria, under fire from the U.S. for alleged support for terrorism, said in July last year it planned to dump the dollar peg by the end of 2006 to reflect closer trade ties with Europe.

    The Central Bank of Syria had converted half its currency reserves to euros, Mayaleh said last July. The reserves, including gold, totaled $4.1 billion at the end of 2005, according to the U.S. Central Intelligence Agency.

    Mayaleh said today the switch in the peg would contribute to investment growth and ``there's no political reason'' for ending the dollar link. ``We're technocrats,'' he said. Reuters earlier today cited Mayaleh as saying that previous plans to end the dollar peg had been held up.

    The IMF based the valuation of SDRs as of Jan. 1, 2006, on a weighting of 44 percent for U.S. dollars, 34 percent for euros and 11 percent each for the yen and U.K. pound.

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