More Government Regulation Over Derivatives?

Posted on March 25, 2009

There is a great article today in the WSJ by HERNANDO DE SOTO, advocating more government regulation of the derivatives markets.

De Soto suggest that:

“to bring derivatives under the rule of law, governments should ensure that they conform to six longstanding procedures that guarantee the value and legitimacy of any kind of paper purporting to represent an asset… Every financial deal must be firmly tethered to the real performance of the asset from which it originated. By aligning debts to assets, we can create simple and understandable benchmarks for quickly detecting whether a financial transaction has been created to help production or to bet on the performance of distant “underlying assets.”

One small problem: Derivatives are the primary source of profit for big banks, precisely because they can make up whatever price they want for these securities. The imaginary pricing is the source of the gigantic bonuses that bankers bring in. Now the Fed and the Treasury have also put their stamp of approval on pie-in-the-sky pricing for complex securities that nobody understands. So will the government now regulate derivatives and destroy our nation’s most cherished enterprise? Not a chance.

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1 Comment so far

Benjamin Wright March 31, 2009 12:20 pm

Part of the issue with the recordation of derivatives is that technology (e-mail, text message and so on) has made the formation of legally-binding contracts very cheap and easy. Efforts to promote better documenation on derivatives (advocated by both de Soto and Geithner) will provoke massive campaigns to capture, archive and comprehend electronic financial records. See Details: http://legal-beagle.typepad.com/wrights_legal_beagle/2009/03/record-keeping-in-financial-markets-to-soar.html –Ben

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