Friday, March 20, 2009

Scaring Wall Street straight

Wall Street is "shuddering" as Congress moves to change the tax law and "claw back" those big bonuses to AIG employees. And they're not the only ones.

"If the government decides they don't like a guy, all of sudden they are going to tax you, and, boom, and it passes, that's seems a little scary," said Jay Leno while interviewing President Obama late night on Thursday.

It is scary, Jay. That's precisely the point. If you're a CEO, trader, or broker of a bank or insurance company in the "too big to fail" category, the message is loud and clear:

You DO NOT want the government involved in your business. So mind your risk exposure.

Some pundits have called all the outrage and Washington hoopla over the AIG bonuses shameful. And to be sure, there's plenty of political grandstanding going on for the constituents back home. Don't lawmakers have bigger things to worry about right now?

But turns out it's not such a waste. Congress is doing a fair job of, as one of my financial planning colleagues put it, "scaring Wall Street straight."

A big risk of government intervention is creating what's called "moral hazard." That's when a company has no incentive to guard against risk when the company is protected against it. For "too big to fail" institutions, that's understanding the government could step in to pick up the pieces if a high-risk venture they've embarked upon leaves their balance sheet and the financial system a mess.

The drastic step of instituting a 90% tax on bonuses for individuals in companies that take taxpayer money to get above water is a good one. That should at least provide some incentive for CEOs and CFOs to look at their business risks more prudently. "Too big to fail" companies are, and should be, more responsible to the public interest, not less.

I don't want Washington running private businesses. Washington doesn't want Washington running private businesses. ("Generally, government historically hasn't done that very well," President Obama said on "Meet the Press.") Now Wall Street has realized that it really, really doesn't want that either.

Hopefully in the future, that will help financial companies executives think just as much about the extent of their risks, as the size of their potential rewards. And we can avoid getting ourselves in this mess again.

1 comment:


Wall street sure scared lots of folks.