It became apparent after the 2008 credit crisis that the financial sector was filled with manipulators who were willing to bypass or circumvent the rules and regulations in place to earn a quick buck. The need to gain a competitive edge meant that traders, market makers, dealers and rating agencies would use any means possible, fair or unfair, to use the rules in their favour.
The aftermath of the crisis and the repetitive studies have shown that there is enough blame to be shared around and all parties had some part to play. This is not new or unexpected. Allow a company to pollute a river in order to make profits, and 10 times out of 10, it would do so. Give them a chance to use cheap labour in the developing countries and chances are that they would have contracted the labourers before you even came to know about the violations of workers’ rights.
The point is not that what these companies did was wrong and should be penalised. Free market economics says that as long as the participants get what they want, they are willing to ignore the consequences that don’t affect them. Hence the indifference of the CEO and high paid executives to the outcry of the average Joes who lost their hard earned savings in the crisis. In this atmosphere, it is the role of lawmakers and financial regulators to step in. Just as they would impose harsher rules and regulations on companies polluting a river or using cheap labour, they should step in to monitor, regulate and implement the rules on people equally. The difference this time is much more substantive as these actors not only pollute the social fabric of the society by carrying out immoral practices; they also destroy the system that sustains them. It is time to punish the people who bite the hand that feeds them and also close down the loopholes that allows them to do so in the first place.
The lethargy and indifference of passing of the actual Dodd-Frank Act in its entirety shows that regulators are also not serious enough to do much about the reform of the financial system. Still, there are steps being taken which show that there is progress being made. The Commodity Future Trading Commission, which never regulated swaps before, passed the actual definition of what a swap is. This might seem like a small step, however, it cements certain definitions and terminologies which can then be implemented in a proper manner. This will allow many of the swap deals to now be scrutinised by the government which was left unchecked. It has to be noted that the CDOs, CMOs and swaps were the key reason for the debacle of 2008 and if this definition had been in place back then, the regulators would have had been able to lessen the impact if not avoid the crisis altogether.
The definition states that interest rate, commodities and other derivatives will now be considered swaps which were not seen as such before. This will put the necessary checks and balances that guide the other markets like collateral requirements, margin calls, and leverage and would also provide protection for the investors like clearing houses. As swaps now become part of the public domain, it means greater transparency and control of the government over the transactions that are carried out every day. These used to be mostly undisclosed before and it wasn’t in the view of the regulatory bodies like they would be from now on.
There are critics who say that the exemptions of swaps for insurance companies would allow the finance industry to still use the system against itself. In addition to that, energy-based companies are allowed to carry out swaps on commodity futures as well which are not investigated or looked into by the regulatory bodies. If this is left to stand, there is room to go around the law again like it was done before. A solution for this is to involve all stakeholders in a dialogue and carry out a dynamic process of trial and error until a middle ground in reached.
Even though there is much to be done, this would be a step in the right direction as lawmakers and regulatory bodies have come together to mend the mess left in the aftermath of 2008. By setting down precise definitions and terms, they would now be able to not only monitor the situation as it develops, but this would also limit the role of the manipulators who try to gain an unfair upper hand in the market.
Zain Naeem is the head of equity research at Maan Securities (Pvt) Ltd. He is a Lahore-based commentator with more than 3 years of experience in trading and research at the Karachi Stock Exchange and Lahore Stock Exchange. He enjoys writing and commenting on the finance front and presenting it to various audiences in different forums. Zain is deeply interested in politics, business and finance and is fascinated at how the three intermingle with each other.