By Mark P. Dangelo
It was the Bible that said it was a “foolish man who built his house on the sand.” For nearly 75 years, a patchwork of regulatory and oversight foundations flexed against macro financial strains — all the while gradually eroding the substrate holding the footings in place.
In 2007, the structural underpinnings linking together complex, arcane, and “innovative” financial products reached a structural failure across globally interconnected financial products. Tens of trillions of dollars have been lost – trillions more to come. Curious, that the government predictions of potential losses just two years ago is now over 30 times its original estimate – and growing.
The architectonic financial disasters have highlighted the shortcomings of many domestic regulatory / oversight bodies each with a distinct role and mission – OTS, FDIC, Treasury, Federal Reserve, OCC, SEC, FHFA, and FINRA. Furthermore, there are other influential committees and organizations which also contributed to recent financial events including FASB, ISAB, IMF, and BIS / BASEL. Finally, there is varying levels of accountability and oversight at the state and local level. And, this is just a thumbnail of the primary committees, special interest groups, associations, and consumer advocacy demands squaring off against the rebirth of financial and mortgage groups (FMG).
Is it any wonder that those who knew the industry systems were able to find the “gray areas” among the eight decades of cumulative, patchwork guidance and committees?
Do We Really Need More Regulations?
With international, federal, state, and local business rules estimated to be in excess of 16,000 discrete regulations, opponents of increased or “super” regulatory efforts ask, “how much more can we viably sustain?” Proponents of more regulation point to, and rightfully so, the recent two-year global financial debacle that has significantly damaged U.S. FMG reputations and cost millions of jobs.
Notwithstanding the polarization discussions, recent unraveling of FMG practices clearly highlights: a) gaps in regulatory coverage and approach, b) too many conflicting and historical rules, c) political opportunists, d) lack of enforcement, e) failure to understand regulatory implications, and f) unfocused and fragmented statutes and g) regulators disassociated with today’s market’s (e.g., product offerings, unassigned risks, interconnected systemic fault lines, system risk of innovative complex instruments).
It is this latter challenge, unfocused and fragmented statutes / regulators, that has negatively influenced the loss of brand name icons during the last 12 months – conservatorship, bankruptcy, acquisition, and on-going “assistance” (including TARP, TALF, TAP). As the current and former Treasury Secretary have stated, the foundational architecture of regulation and oversight requires significant rebuilding. However, can nearly 500 elected officials in Washington come together for material revisions or will political expediency and retribution contribute to cosmetic spackling of a condemned structure?
The Truth of the Matter
Many argue and even condemn the performance of the various regulators and their agencies. But is this really warranted? The GAO issued a statement on March 18, 2009, “Review of Regulators’ Oversight of Risk Management Systems,” and implied that many weaknesses were proactively identified – but the regulators were unable to knit them effectively together to determine the potential magnitude of the forthcoming situation.
Yes, we could therefore blame the regulator and demand a “pound of flesh” as some hearings have deemed appropriate. Yet, we should also ask where were the media hungry analysts and economists who now parade themselves on national cable programs? Where were the management teams that paved their own road to ruin? Where were the auditors and “think tanks?” Where any of these groups less culpable than the others? Let us not forget Congress and those in elected offices in the various states and municipalities. Where was their outrage and proactive solutions before the foundational sands eroded away? Are new regulations really just about the appalling behavior and greed of corporate executives averaging over $8 million a year in total compensation?
So, let’s ask a pertinent question as the pitch forks and clubs are taken out of the closets. “Would any amount of regulation, outside of FMG advanced nationalization, really have stopped this decay and catastrophic failure from transpiring?” Did the world governing bodies and agencies, and not just American ones, step up and say anything material before the FMG structures were beyond repair? Everyone has blame when it comes to regulation, governance, and oversight.
Likewise, if draconian and socialist regulations are to be avoided, we need to proactively incorporate the solution sets into the on-going operational and risks processes within the enterprises. Whereas governance and oversight is important, the lack of robust internal controls aligned with risk-adjusted principles cannot be left to chance. Using an analogy, think TQM (Total Quality Management) for regulatory compliance.
As we have subtlety acknowledged, regulators and auditors are implicitly chartered in helping assess and promote improvements with statutory guidelines, internal control compliance (e.g., COSO), technologies and best-of-breed adaptation. But in their defense, what happens if they are deceived, face “budget / engagement” cutbacks, or conspiracy? Fundamentally, only if organizations accept internalization of statutes and controls ethically (i.e., adhering to the spirit of the regulation and not just the letter of the law), can the investor and public (e.g., moral hazard avoidance, TBTF) trust be regained.
Pragmatic Next Steps
Creating a new regulatory framework and underlying architecture is hard work. There are lots of “jurisdictional wars” yet to be fought by those seeking glory and self importance. Whatever the outcome, simplicity of approach coupled with adaptability of regulatory principles must rule the outcomes.
Technological solutions and data reuse will be equally important as part of capturing, storing, and purging data at its source. Discrete metrics used to measure adherence or conformance, will be rolled into cohesive and interlinked analytical dashboards that assess the implications both in forward and reverse along the custody or lifespan of the process and FMG instrument.
Compartmentalization and reuse of self-contained front and back-office sub-processes (and associated technologies) will yield interoperability benefits that not only meet an administrative duty, but offer competitive, market, and profit advantages previously unrecognized. Innovation and money will flow to patch a corporate void created by new regulatory alignments and responsibilities – far beyond mere form completion, reporting, or vendor promises.
While cohesively knitting a fabric of efficient and effective regulations is a multi-year initiative, what is complicating the discussions today are those that “talk past each other,” and the various groups striving to transform financial survival into personal gain. To achieve new, pragmatic, and adaptable regulations, a top-to-bottom review of roles, responsibilities, coverage, principles, and jurisdiction must be undertaken. Dogmatic beliefs must and will be put down.
Even as several Congressional committees are all striving to be the “quarterback” of regulatory reform, it is unlikely that any existing group or department is up to the immediate and on-going reformatory challenges. A new, innovative series of iterative approaches must be adopted.
So as Congress and the public think retribution, there are far greater challenges that are before the American and International community – 1) a multi-year holistic, comprehensive rework of regulations that will deliver meaningful insight and oversight, 2) adherence to principle driven governance to meet unforeseen “innovations,” 3) promote national economic growth while avoiding protectionist regulations, and 4) the proper assignment of risk and rewards to meet ethical, capitalistic goals.
