I’m back from a very nice, (mostly) Blackberry-free, family vacation. My wife permitted me only 20 minutes in the morning and 20 minutes at the market close to scan Bloomberg headlines and read news/commentary, so I’m really far behind right now. That's why I just got around to reading Jonathan Weisman and Neil King's article about President Obama's tendency to get down into the details of economic policy in his daily briefings/discussions with his economic advisers. The article has already been discussed in the econoblogosphere, and most people seem to share my view: while informative, the article was surprisingly sloppy for the WSJ news section, and was frequently just wrong. One error in particular really stuck out to me, but I haven't seen anyone mention it yet. Weisman and King claim that Obama became frustrated with his economic team's discussion of derivatives regulation in "early July":

[Rahm Emanuel] says Mr. Obama was frustrated his team wasn't offering up a full range of views on how to approach derivatives regulation. "Get me some other people's opinions on this," Mr. Emanuel recalls the president as saying. "I want more than what's in this room." In the end, the administration tweaked its position on derivatives. In legislative language drafted this week, it is seeking to require financial firms that offer customized derivatives to maintain higher capital cushions.
The problem with this is that the administration has been proposing higher capital requirements for customized derivatives from the beginning—that is, it's been part of the administration's OTC derivatives proposal since the proposal was unveiled in June. The administration's white paper (pdf) on financial regulatory reform, which was released on June 17th, addressed this very clearly:
Counterparty risks associated with customized bilateral OTC derivatives transactions that should not be accepted by a CCP would be addressed by [a] robust regime covering derivative dealers. As noted above, regulatory capital requirements on OTC derivatives that are not centrally cleared also should be increased for all banks and BHCs.
Weisman and King make it seem like Obama's desire to hear outside views on derivatives regulation led the administration to adopt a tougher stance on derivatives regulation in its final proposal. The implication is that Obama's economic advisers (i.e., Geithner) favored a more Wall Street-friendly approach to derivatives regulation, but that Obama was swayed by arguments from outsiders, and ended up going with a final derivatives proposal that's tougher on the Wall Street dealers. That's a nice story (which Rahm probably fed to Weisman and King), but it's simply not true, and they would have known that if they had taken the 5 minutes it takes to read the administration's original proposal for OTC derivatives reform—which is a daunting 2 pages long (see pp. 47-48). If Obama did, in fact, demand a renewed and wider debate on derivatives regulation in early July, that debate didn't lead to any material changes in the administration's derivatives proposal. Brad DeLong's familiar lament seems appropriate here: Why oh why can't we have a better press corps?


Anonymous said...

That is interesting, and I suppose somewhat comforting, to hear that the President does get into the details and wanted to hear a wide range of views. Unfortunately, however, this mentality has not filtered down as there is still an alarming lack of understanding in Washington on the differences between different derivative asset classes and derivative products as well as between speculators and businesses using them to hedge - that is, to REDUCE risk to their business.

JCH said...

I will offer an outside view, or rather, a backside view.

The first regulation should be that any asset-backed financial instruments should be called derrieratives.

RAJ said...

I am a bit unclear on what you represent. Higher capital on OTC derivatives was in the White Paper. Higher than zero.

In the recent work in the legislation it appears that what is included is capital higher on OTC derivatives than on their standardized counterpart. In essence OTC contracts are to pay a slight tax to systemic stability for not migrating to exchanges or central clearing.

The higher relative capital would tend to drive derivative contracts to migrate toward standardization.

It is the higher relative capital that I thought was the change based on conversations and press coverage while you were on holiday.

Economics of Contempt said...


The white paper proposed higher capital requirements for OTC derivatives that aren't centrally cleared (i.e., customized derivatives) than for OTC derivatives that trade through a regulated clearinghouse. In the administration's proposal, an OTC derivative would automatically be deemed "standardized" if it traded on a clearinghouse. That means that a proposal for higher capital requirements on OTC derivatives that aren't centrally cleared than on those that are centrally cleared is, literally, the exact same thing as a proposal for higher capital requirements on customized derivatives than on their standardized counterparts.

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