Time to Settle Sovereign Debt’s “Trial of the Century”?

Once again, NML v. Argentina is in the spotlight. Sovereign debt’s “trial of the century”[1] has been the focal point of intense academic and policy debates, prompted a Supreme Court decision, and even triggered a contested default by Argentina in 2014. But the spotlight now points in a different direction. With a newly elected government, Argentina’s decade-long standoff with holdout creditors is set for negotiations—and potentially—a final settlement. In our article, we analyze key economic and legal factors underlying the NML litigation, with a particular emphasis on issues relevant to a potential settlement.

Argentina’s Holdout Litigation

Argentina’s … Read more

Securitisation and Post-Crisis Financial Regulation

There are few types of debt as internationally issued and traded as the debt securities issued in securitisation (in the United States, spelled securitization) transactions. European investors commonly invest in securities issued in U.S. securitisation transactions, and vice versa.

It is generally agreed that securitisation’s abuses contributed to the global financial crisis. Repayment of securities issued in certain highly leveraged securitisation transactions was so sensitive to cash-flow variations that, when the cash-flow assumptions turned out to be wrong, many of these highly rated securities defaulted or were downgraded. That, in turn, sparked a loss of confidence in the value of … Read more

Why Banks Want to Be Complex

The quasi collapse of the global financial system during the crisis of 2007-2009 has triggered an extensive debate about the role of large complex banks. On the one hand, banks are seen as “too complex to fail”, and researchers and policy makers argue that the main danger is that financial institutions and markets are becoming “too big to understand” or “too complex to depict”, and therefore need to shrink and be simplified. On the other hand, bankers argue that caps on bank size are inefficient because both size and complexity help banks diversify risks and innovate to create additional profit … Read more

The Fed’s TLAC Proposal Would Impose the Costs of Resolving Failed Megabanks on Ordinary Investors and Taxpayers

In two previous posts,[1] I described the financial industry’s “single point of entry” (SPOE) strategy for resolving failed megabanks. The SPOE approach – which has been endorsed by the Federal Reserve Board (Fed) and other regulators – could be implemented under the Orderly Liquidation Authority (OLA) established by Title II of the Dodd-Frank Act or under a proposed new “Chapter 14” of the Bankruptcy Code. As I explained in my previous posts and a forthcoming law review article,[2] an SPOE resolution would involve only the parent holding company of a failed megabank and would impose losses only on … Read more

Commercial Bank Regulation and the Investment Banks

The conventional story around the Gramm-Leach-Bliley Act is that it was the final blow in bringing down the Glass-Steagall Act wall that separated commercial and investment banking in 1999, increasing risky business activities by commercial banks and inadvertently precipitating the 2007 financial crisis.  But the conventional story is only one-half complete.  What it omits is the effect of change in commercial bank regulation on investment banks.  After all, it was the failure of Lehman Brothers—an investment bank, not a commercial bank—that sparked the meltdown.

My recent article, Size Matters: Commercial Banks and the Capital Markets, fills in the rest … Read more

Macroprudential Policy: What Does It Really Mean

The global financial crisis forced regulators to realize that traditional monetary measures cannot adequately ensure financial stability. As an alternative, macroprudential policy can complement and supplement monetary policy in dealing with macroeconomic as well as stability issues. Yet the debate on macroprudential policy remains quite obscure for many.

In a recent article just published in Banking & Financial Services Policy Report (a longer version is available here), my co-authors and I provide an overview of macroprudential policy discussion from the fundamental rationales behind such policies to the set of measures currently used. The main messages can be summarized as … Read more

A Plan of Action to Save the Brazilian Infrastructure System

The oil sector is believed to represent approximately 13% of the Brazilian economy. Petrobras, the state-controlled, corruption stricken oil producer and by far the country’s largest corporation, is an important component of the current economic crisis. Due to mismanagement and embezzlement, the company has been forced to cut around 40% of all capital investments projected for this year, and such reduction will cause a 2.4% reduction in the country’s GDP.

Several suppliers, contractors and subcontractors of Petrobras are under investigation in the so-called Operation Car Wash. High executives of the oil producer are believed to have taken bribes for granting … Read more

Student Debt and the Siren Song of Systemic Risk

What are we to make of growing levels of student indebtedness?

On the one hand, commentary in the popular media consistently extols[1] the virtues of investing in higher education, and serious economists back them up.[2] On the other hand, borrowing by students to pay for college has increased dramatically in recent decades, and that debt can be a crushing burden for some borrowers. A greater percentage of borrowers has gone into default in recent years, no doubt slammed by a more difficult economy and higher monthly payment obligations on larger balances. In the context of steadily increasing education … Read more

The Nonprime Mortgage Crisis: Willful Blindness and Positive Feedback Lending

The Wall Street Journal recently reported that federal prosecutors are pursuing criminal cases against bank executives for allegedly selling flawed mortgage securities. The crux of the cases? That the bankers ignored warnings they were packaging too many shaky mortgages into invest­ment securities and failed to disclose the risks to others. The result, they claim, was fraud.

In a recent paper, The Nonprime Mortgage Crisis and Positive Feedback Lending, we collected evidence that the risk of a nonprime housing bubble (not the certainty, but a meaningful risk) should have been obvious to the originators, securi­tizers, rating agencies, money managers, and … Read more

Millstein Governance Forum on December 10, 2015 at CLS

On December 10th, Columbia Law School’s Millstein Center on Global Markets and Corporate Ownership will be hosting its 10th annual Millstein Governance Forum.

For the past decade, the Forum has served as one of the premiere venues for business leaders to engage in debate and dialogue on the effects of developments in the capital market on corporate governance. This year’s Forum will focus on the board-centric model of corporate governance functioning in an array of shareholders. Speakers and panels will explore how changing expectations and dynamics in the capital markets impact the way boards govern.

Along … Read more

Taxes and Ability to Pay in Municipal Bankruptcy

After languishing relatively disused for nearly eighty years, municipal bankruptcy is part of the new normal. The eyes of the nation were riveted on Detroit, and smaller filings across the country have proliferated in recent years. As Warren Buffett has argued, bankruptcy is becoming more legitimate as a way of dealing with municipal financial distress, and we should expect to see more of it.

At the same time that municipal bankruptcy is becoming more common, the image of the typical municipal creditor is changing; the typical creditor may be a retired worker instead of a distant bondholder. In the wake … Read more

PwC highlights Ten Key Points from the Fed’s TLAC Proposal

The Fed proposed its long-awaited Total Loss-Absorbing Capacity (TLAC) requirements on October 30th. As expected, the Fed’s proposal came out tougher than the Financial Stability Board’s (FSB) TLAC standard proposed last year,[1] including limitations on capital distributions and bonus payments, and will likely be tougher than the FSB’s final standard expected next week. In an unusual move, the US issued its proposal before the FSB, suggesting that a consensus could not be reached in line with US regulators’ desire for more stringency.

However, the Fed did not go as far in its quantitative TLAC requirements as some feared it … Read more

The Financial Industry’s Bankruptcy Plan for Resolving Failed Megabanks Would Give Unwarranted Benefits to Their Executives and Wall Street Creditors

In a recent post,[1] I summarized my forthcoming article critiquing the financial industry’s plan for resolving failed megabanks under Title II of the Dodd-Frank Act.[2] My article describes the industry’s “single point of entry” (SPOE) strategy for recapitalizing and reorganizing failed megabanks. I argue that the industry’s SPOE strategy is designed to provide full protection for Wall Street creditors of failed megabanks while imposing the costs of rescuing those banks on ordinary investors and/or taxpayers.

The financial industry has also proposed a new “Chapter 14” of the Bankruptcy Code, which would authorize federal bankruptcy courts to adopt an … Read more

What Kept Pre-Modern Credit Networks Afloat?

Despite having become a cliché, the past is not always a foreign country. When Craig Muldrew wrote in his book, Economy of Obligation, “Increasing consumption and investment in the expansion of production meant that household debt loads grew to levels at which financial failure was an increasingly common experience” (pp. 16-17), he could have been writing about the modern economy. But he was not. He was describing sixteenth-century England. Pre-modern Europe was an economy built on credit. Fiat money did not exist, the supply of specie was insufficient to meet the daily needs of consumers and the trade of … Read more

Was Bernanke Courageous?

As reflected in the title of the new memoir by Former Federal Reserve Chairman Ben Bernanke, The Courage to Act: A Memoir of a Crisis and Its Aftermath, Bernanke clearly believes that he and other Fed policymakers demonstrated exceptional courage in their handling of the 2007-2009 financial crisis.[1] In a new paper forthcoming in Columbia Law Review and available here, I suggest otherwise. I agree with Bernanke that if one narrows the lens to the Fed’s actions after Lehman Brothers failed in September 2008, the Fed and other financial regulators often displayed great courage and creativity and … Read more

Considering the Transformation of the OTC Derivatives Market, 1984-2015

In my recent paper, “Private and Public Controls in the Over-the-Counter Derivatives Market, 1984-2015”, I study how private and public controls operated jointly in OTC derivatives over the period. A main conclusion is that private incentives especially shaped developments in the OTC markets, including after Dodd-Frank in 2010.

The over-the-counter (OTC) market in financial derivatives evolved from the 1980s to 2010 mainly under private controls designed by market participants, particularly the International Swaps and Derivatives Association (ISDA). Banking and other regulators frequently pushed market participants, informally, to remedy emerging problems. ISDA and others responded to these interventions to … Read more

The Swaps Pushout Rule: Much Ado About the Wrong Thing?

A provision of the Dodd-Frank Act popularly known as the “swaps pushout rule” prohibited FDIC-insured banks from entering into certain types of swaps contracts. Congress recently reversed this provision, so that banks can continue trading in these swaps. The reversal provoked an outcry from parties concerned that it would put “taxpayers right back on the hook for bailing out big banks.”[1]

In a new paper, The Swaps Pushout Rule: Much Ado about the Wrong Thing?, we argue that the rule would have done little to protect taxpayers directly from the risks of these transactions. This is … Read more

Failure of the Clearinghouse: Dodd-Frank’s Fatal Flaw?

As is well known, a key feature of the Dodd-Frank Act is the effort to treat swaps more like commodities. In particular, large categories of swaps are to be centrally cleared, replacing the pre-Lehman OTC model with a commodities model that has worked reasonably well for decades.

But the result is to massively increase the importance of the clearinghouses in the global financial system. Clearinghouses are regulated, but given the vital place of clearinghouses in Dodd-Frank, it is surprising that Dodd-Frank makes no clear provision for the failure of a clearinghouse.

Given the key role that clearinghouses will play in … Read more

Bankruptcy in Groups

Group bankruptcies tend to be large (e.g., Global Crossing, Maxwell, MG Rover, Parmalat) and affect a significant number of stakeholders. Business groups constitute a common way for ultimate owners to exercise control over a large number of companies while containing their risk exposure to different parts of the business through limited liability. In countries with underdeveloped financial infrastructures, business groups overcome difficulties in accessing external finance by reshuffling funds within the corporate structure. The bankruptcy of business groups can be extremely complex, especially if the group’s assets are spread over multiple jurisdictions. The nature of business group structure and operations … Read more

Remarks by OFR Director Richard Berner at the Third Annual Workshop on Financial Interconnectedness

Thank you to the organizers and BIS for the opportunity to address this research conference on “Global Financial Interconnectedness.” The OFR was established to identify, monitor, and assess threats to financial stability, so improving our collective understanding of the interconnectedness of the global financial system is essential for achieving the OFR mission.

The financial crisis exposed critical gaps in our analysis and understanding of the financial system, in the data used to measure and monitor financial activities, and in the policy tools available to mitigate potential threats to financial stability. These gaps in analysis, data, and policy tools contributed to … Read more