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Several weeks after rumours surfaced of a “London whale” taking huge positions, JPMorgan Chase announced it had suffered a $2bn loss on hedging activity that its chief executive Jamie Dimon rightly called “sloppy” and “stupid”. Within days, the $2bn loss was rumoured to have grown much larger, although the bank has not disclosed details.
The US Securities and Exchange Commission and, more oddly, the FBI are investigating the situation. Certainly the SEC has reason to check the bank’s disclosures, but hopefully neither losing money nor stupidity have become crimes.
People have already seized on the incident to call for more regulation, including a tougher “Volcker rule”. Others will no doubt say this shows regulators lack resources to police the system. Maybe when we know the facts we will conclude there are things that can be done better. But “ready, shoot, aim” shouldn’t be our approach. The public deserves better than saddling the economy with rules to pretend we are doing something if those rules won’t work.
A simpler and more effective approach would be a “whale rule” requiring immediate public disclosure – say, within 48 hours – of any whale positions. Positions in US Treasuries should be excluded, but otherwise a linked trading strategy involving a gross position greater than $25bn, perhaps – or even $50bn – would be subject to a public reporting requirement.
Without drowning the market in details of smaller positions (which should remain confidential), a whale rule would give the market details of enormous trades by regulated banks. We do something similar for personal securities trading by officers, directors or 100 per cent holders of listed companies. They have two days to disclose purchases or sales to the SEC.
This should guarantee that CEOs, regulators and investors are aware of huge bets. Not only would investors find out things they should know but the state would not have to hire people to implement more rules.
The Office of the Comptroller of the Currency and the Federal Reserve already have legions of staff posted permanently in the nation’s largest banks with authority to halt any practice they deem “unsafe and unsound”. If the supervisors didn’t react to JPMorgan’s whale, there is little reason to believe that giving the same people more rules to enforce would help.
If government supervisors did try to control things and the bank defeated their efforts, that would be a more persuasive case for stronger rules. But first we need to lift the secrecy surrounding what the supervisors knew and when they knew it. Accountability should be a discipline among regulators, not just among the regulated.
The dangers of over-regulation are apparent from one of the most sweeping increases of regulatory costs and burdens in the Dodd-Frank act. This provision gives the Fed authority to examine and supervise “systemically important financial institutions” (SIFIs) outside the banking system. Though well-intended, this step is likely to prove very costly because it can smother companies under supervisory blankets that will degrade their flexibility and competitiveness.
If the Fed couldn’t stop the London whale inside a bank it knows intimately, what reason is there to think it will do any better spotting, let alone controlling, the risks at General Electric, Fidelity or whatever other companies are ultimately determined to be SIFIs?
Are the costs of increased bureaucracy and moral hazard that Dodd-Frank will cause outside the banking system really justified by more protection for the public? If not, we would gain as much from scrapping the regulation of SIFIs and simply asking banks to hold more capital, be more liquid and diversify more so they can cope whatever happens to a supposed SIFI.
Risk-taking is essential to our economy and inherent to capital markets. Large institutions such as JPMorgan make very large profits and must be expected occasionally to have very large losses. JPMorgan’s capital reserves are there to absorb losses on loans or on transactions, and to some extent that is normal. While it never hurts for the SEC to take a quiet look at a company’s disclosures, large trading losses are not necessarily cause for criminal investigations or a public circus.
The writer is chairman of Breeden Capital Management and was the Securities and Exchange Commission chairman from 1989 to 1993