'Avoiding Forgetfulness' – in financial regulation, too

In Britain, this year is the diamond jubilee of Queen Elizabeth's ascension to the throne. In America, it's the 200th anniversary of the start of the War of 1812, when a beaten Britain sought to regain control of the rebel colonies that called themselves the United States of America. Such occasions give us pause to reflect and remember, to "avoid forgetfulness". The poem "Recessional", written by Rudyard Kipling to mark yet another anniversary, Queen Victoria's diamond jubilee in 1897, put it this way: Judge of the Nations, spare us yet / Lest we forget – lest we forget!

We're also 10 years on from the enactment of the Sarbanes-Oxley Act in the US and 20 years since the Cadbury Report in the UK. It's almost three years since the chaos that would result from when the authorities would let Lehman Brothers pursue the path they managed to prevent happening six months earlier in the near-collapse Bear Stearns. In Britain Lord Turner wasn't quite so historically reflective, he was concerned we risked overlooking unresolved issues now that the heat is off. In America, meanwhile, Mary Schapiro, chairman of the Securities and Exchange Commission, was in a similar frame of mind, warning that the signs of recovery in the economies might tempt tired regulators to take a mental pause. "I recognize that there remains much more to do – because the job of a regulator is constantly evolving, she said a speech to the Society of Business Editors and Writers, entitled "Avoiding Forgetfulness". She continued:

Many of the initiatives currently on the SEC's plate are there because of critical events – damaging to investors and to markets – that spurred calls for change. But as those events recede into history, the embrace of those reforms is becoming less sure.

We must not let the passage of time fog our memories, cloud our judgment, or diminish our resolve.

So today I would like to discuss a few areas where we cannot afford to lapse into forgetfulness – in particular, I’d like to talk about some of the lessons from three episodes: the Internet bubble, the financial crisis, and the Flash Crash.

The internet bubble – and let's remember, WorldCom's failure and part of Enron's were involved in this – came about in part because of the practices of investment analysts who ramped stocks they then dumped. Conflicts of interest were rampant. But now, Schapiro warned, there was a bill before Congress that "would begin chipping away at that wall" of regulation that sought to block them.

The financial crisis in 2008 saw a near meltdown in money market mutual funds, prevented only by swift government intervention in effect to give an implicit guarantee for $3 trillion. Reforms came in 2010, leading some to declare victory. Not Schapiro. She reckons these products still suffer structural flaws.

After the flash crash – that sudden collapse of share prices on May 6, 2010 – it took the SEC and the Commodities Futures Trading Commission four months to work out what had happened that day, and that was just getting details of the activities, not even all the causes. The SEC then proposed a new rule to create a comprehensive audit trail just to speed up the next diagnosis, not to prevent the problem. "But again, just because we have done much to help prevent another Flash Crash, does not mean we have done enough," she said.

Regulators being reflective is a good thing, yes, even if they haven't found the solution to stop a recurrence of what happened. And because they can't find the fix the Judge of Nations may need to "spare us yet, lest we forget, lest we forget".

Source document: The Schapiro speech elaborates.