Business Law Prof Blog

Financial Crisis Timeline Link

Over at the Akron Law Cafe, law librarian Lynn Lenart has posted a link to a useful financial crisis timeline.

SJP

Conflating Markets and Source Preferences in the Energy Sector

Forbes blog about Business in the Beltway today discusses energy policy, and quotes an energy policy analyst at the Competitive Enterprise Institute, who says the government should get out of energy policy. Although I don't agree fully that such a position is sensible or feasible, the argument starts out reasonably enough. He says the United States should, "Get the government out of the electricity industry." Deregulation is certainly an option, and reasonable people can think that's the best policy.

However, one also needs to keep in mind the issue of stranded costs and who pays them. Utilities have invested money -- often shareholder money -- with an expectation of a return based on the current market structure. Without a process for assessing those already committed costs, it would punish the utilities and their shareholders. Full-scale deregulation might improve the market (and that's a significant "might"), but it's not as simple as just stepping out of the way, as we saw in the 1990s when partial deregulation of the industry took place at both the state and federal levels.

Furthermore, the analyst then goes on to argue that renewable energy incentives should stop. He argues that if people are “so confident that renewable energy can compete on the merit of price of alone, then let’s revoke the mandates.” It's fine to say government should get out of the way, but this implies that oil, gas, and coal companies shouldn't get any incentives, either. It's often forgotten that the incentives in those industries far outweigh renewable industry incentives.

Removing renewable incentives in the name of free markets means we should remove ALL incentives related to energy sources. Only then can we have any idea what "the market" actually wants. Otherwise, this is simply a market-based argument cloaked in a source-based argument (e.g., a preference for coal over wind). And, while perhaps valid, that's a very different argument.

--Joshua Fershee

Do We Need More Bondholder Empowerment?

Prof. Bainbridge offers a nice summary of some of the blogosphere's responses to Dodd-Frank's shareholder empowerment provisions.  The running critical theme is the disconnect between trying to solve a problem of excessive risk-taking in pursuit of short-term shareholder interests by giving more power to shareholders.  Perhaps we should be empowering bondholders instead.

SJP

Prof. Klepper on "The CEO's Boss"

I am posting the following on behalf of Prof. William Klepper.

SJP

Time for a Social Contract and Tough Love in the Boardroom

 It is time to go beyond the employment agreement between a CEO and the Board in Corporate America. Every CEO and his/her board should have a social contract. The first element of that contract is a common commitment to "what they stand for as an organization." In my book, The CEO's Boss: Tough Love in the Boardroom (Columbia University Press, 2010) I provide examples of companies with clear credos, such as the revitalized Tyco which has risen from the ashes as a result of following its social contract.

 But contracts alone are not enough to guarantee satisfactory performance; tough love is needed for a CEO and a Board to be an effective team. The CEO's Boss lays out how tough love in the boardroom may have prevented Lehman's ultimate collapse in the fall of 2008. My Integrated Leadership Model, based on my teachings as a Professor of Management at Columbia Business School, synthesizes the research on an effective CEO's agenda, practices, and style at each phase of the business cycle.

 Finally, the current recession and business failures have brought renewed attention to corporate governance practices. In The CEO’s Boss I tell you how I foresee the relationship between boards and CEO's to be different in the future.

A View from the North on the Housing Market

I'm in Banff for the Rocky Mountain Mineral Law Foundation's Annual Institute (a great program if you're interested in natural resources law and business), and in addition to enjoying stunning views, I have been looking to the local paper and websites to access my news.    

The Globe and Mail's Business website had two story briefs that caught my eye, both of which were U.S.-based stories.  

First, there is a story about U.S. housing construction concerns, which notes that some economists are predicting a "double dip" (that's bad) if the U.S. job market doesn't rebound quickly.  There are some economists who disagree that the situation is that dire, but there's no doubt the market is down following the recent expiration of the federal tax credits for home purchases.

Second, the site reports on the New York Times' coverage of mortgage lenders who are now taking a "conservative view" of potential borrowers who are pregnant.  Lenders are now concerned that the pregnancy indicates that a parent won't go back to work, making the loan too high.  

I'm all for lenders showing some sense and making sure that loan approvals are for realistic amounts, but if some mortgage brokers are using pregnancy as an automatic trigger for disapproval this is a bad idea. It's one thing to be conservative; it's quite another not to do your job of assessing risk.   Beyond the moral and ethical implications, it's bad business.  

Sitting here, looking at the mountains, I can't help but wonder what other ill-founded and illogical fear-driven policies are further slowing the recovery.  

--Joshua Fershee

A new, untested bureaucracy? Oh Lord, I hope so...

The Financial Reform passed despite embarrassingly partisan opposition.  Senator Shelby decried the length of the law (!), the likelihood that American markets would become less competitive, and the creation of "unaccountable" bureacracies."  One would think that a two-year head start at opposition would yield a more meaningful cry of protest.

Clearly, reform was inevitable.  A New York Times piece from last week aptly summed up the era triggering the widespread change as follows:

"Usury laws were set aside. Banks were allowed to expand across state lines, sell insurance, trade securities. The government watched and did nothing as the bulk of financial activity moved into a parallel universe of private investment funds, unregulated lenders and black markets like derivatives trading."

Equally clear is the fact that administrations staffed by both political parties had a hand in the 30-year rush to deregulate.  What has yet to become as manifest is the need for both parties to work together to restore an equilibrium.  Here's a worthy starting point:  Federalizing all mortgage laws (and, in turn, mortgage terms).  The highways of Long Island are littered with billboards STILL proclaiming the availability of "no income check" home loans.  If these precarious practices continue as in the years leading to the Recession of 2008, the electorate won't just be universally accepting Washington, D.C. as a catalyst for change - it shall likely demand a strong government hand in preventing retail lending foolery altogether.

---JSC, 7/20/10   

The SEC and monies for lawyering up...

The year was 1991.  Or 1990.  Anyway, PLI was offering dueling glimpses of the prosecutorial frenzy over insider trading.  The conference's keynote panel featured lawyers for a broker-dealer who argued that a legitimate enterprise had been squeezed into submission by the asset forfeiture provisions of the RICO law; responding prosecutors highlighted wiretaps disclosing boasts such as "Welcome to the world of sleeze."   At the most confrontational moment, a storied SDNY judge took the floor and warned the SEC, "Cool your jets."

It was great theatre, and prescient legal commentary.  For perhaps gone are the days when securities regulators can dance in and out of the dictates of criminal procedure.  Witness a recent SDNY decision, SEC v. FTC Capital Markets Inc, 09 Civ. 4755 (June 29, 2010).  In granting the defendant's motion modifying an SEC injunction to permit an advance of legal fees, the Judge stated as follows:

"This Court concludes that [petitioner's] claim to the frozen funds is governed by the standard set forth in Monsanto and Coates.  [Petitioner] has demonstrated - and the Commission does not dispute - that without advancement of the frozen funds, she will be unable to to pay defense counsel's fees in the criminal action.  Under such circumstances, the Commission is required to demonstrate that the frozen funds are traceable to fraud...Here, there has been no finding that the forzen funds are traceable to fraud..."

In rejecting the Commision's reach for a restrictive standard possibly exceeding precedent (i.e., precluding the release of funds "whether or not the funds are tainted by fraud"), the Judge disregarded the SEC position at oral argument, tersely stated as "As a matter of fact, it doesn't make sense to treat one pile of money different from another pile..."  The decision countered, "In determining whether funds are the proceeds of fraud or are traceable to fraud, however, it may in fact 'make sense to treat one pile of money different[ly] from another pile.'" 

Such judicial brakes do more than "cool the jets" of the SEC:  If the fungible money debate continues and escalates, decisions like FTC Capital Markets (and the aggressive SEC stances therein) may effect 6th Amendment case law in toto.  

---JSC, 7/19/10

   

Studying Dodd-Frank's Haircut

According to an analysis of the Dodd-Frank financial regulation bill (PDF here), the law firm Davis Polk estimates that there will be sixty-seven studies or one-time reports under the legislation. The report also finds that there are twenty-two recurring reports, and at least 243 mandatory rulemakings.  The Davis Polk summary is more than 120 pages in length, giving an idea of just how much there is in the bill.  

I'm fascinate by how many proposed provisions turned in "studies."  Here's a quick look at one study that jumped out at me.  "Sec. 215. Study on secured creditor haircuts." 

(a) STUDY REQUIRED.—The Council shall conduct a study evaluating the importance of maximizing United States taxpayer protections and promoting market discipline with respect to the treatment of fully secured creditors in the utilization of the orderly liquidation authority authorized by this Act. . . . . 

FIrst, have we all become so well-versed in financial jargon that "haircut" doesn't need any explanation? I suppose in context it is fairly clear, and the language has to do with a study, so it's not as though this is a regulation that will be applied to any specific party. Still, would it be so terrible to explain that the study will consider whether the government should retain a certain percentage of secured creditors' claims in times when the government spends funds in a resolution action?

Second, do we really need to study the "importance of maximizing United States taxpayer protections?"  It seems to me that should always be part of the equation. Politicians may disagree about what maximizes protections for taxpayers, but I would hope that would be deemed important all the time.  For example, a "freer-market politician" may argue that providing government funds should be done with limited strings attached because it is more likely to hasten recovery, thus benefiting taxpayers and justifying the expense.  (Note: I say "freer market" instead of "free market" because it seems to me a true free-market politician should oppose a bailout in virtually all circumstances.)  In contrast, a more pro-regulation politician may think significant restrictions on banks and a significant "haircut" (such as treating 25% of secured creditors' claims as though they were unsecured) if the government funds a resolution action would protect taxpayers by promoting market discipline.  Both have legitimate, if not correct, viewpoints, and both hopefully consider what's best for U.S. taxpayers when they choose their positions.  

Ultimately, I suppose more time spent negotiating language on this provision probably wasn't worth it.  I'm just not sure funding sixty-seven studies was either.

--Joshua Fershee