Saturday, August 9, 2014

Can the Public Have Confidence in the Financial System?

Lately we have gotten a number of warnings from a variety of sources. The IMF has warned that global GDP may fall below forecasts and that sanctions may play a role. The Bank for International Settlements issues two warnings about asset bubbles forming and excessive leverage in the system. Just this past week we have former FED official Andrew Huszar issuing similar warnings and talking about the huge leverage related to derivative products. That's enough to give anyone pause.

But we also have troubling reports that major banks are not accurately reporting important market information and also may have engaged in manipulation in various markets. Below are links to two recent examples that illustrate the problems. A reasonable question to ask is, Can we have Confidence in the System?

First we have this news release for the CFTC announcing a fine against J.P. Morgan for improper reporting in the futures markets. Here are some quotes from their press release:

"The U.S. Commodity Futures Trading Commission (CFTC) today issued an Order filing and simultaneously settling charges against J.P. Morgan Securities LLC (JPMS), a wholly-owned subsidiary of JPMorgan Chase & Co. and a CFTC-registered Futures Commission Merchant (FCM), for submitting inaccurate reports to the CFTC relating to the required reporting of positions held by certain large traders whose accounts are carried by JPMS. The reporting violations occurred despite the CFTC notifying JPMS of numerous errors in its reports. The CFTC Order requires JPMS to pay a $650,000 civil monetary penalty to address its unlawful conduct."

"CFTC Director of Enforcement Aitan Goelman commented: “The large trader reports are vital to the CFTC’s role in monitoring market behavior and are important to members of the public, many of whom rely on that information in forming trading strategies. Therefore, submission of accurate and reliable data to the CFTC is essential."

"The CFTC Order specifically finds that since at least 2012, the CFTC was notifying JPMS about errors in its large trader reports, which increased in frequency throughout the year. CFTC Regulations require FCMs to submit information on a daily basis for certain large traders, such as the number of open futures or options positions; the number of delivery notices issued or stopped; and the number of Exchange For Related Positions (EFRPs). In December 2012, the CFTC notified JPMS that the on-going problems were unacceptable. JPMS, relying on its third-party vendor that generated the reports for JPMS, assured CFTC staff that the problems would be resolved on or before the end of January 2013. However, JPMS continued to submit large trader reports that contained hundreds of errors throughout the period from February 1, 2013 to February 2014."

Then we have this Reuters article out today. Here are some quotes from this article:

"U.S. Senator Carl Levin is preparing a last push to bring Wall Street's big commodity traders to heel during his final months in office, wrapping up a nearly two year-long probe that could potentially reveal abuses in energy and metals markets."

"Specifically, Senate investigators have explored whether Wall Street has abused its commodities holdings at the expense of clients, consumers, the environment or the health of the market, according to the people familiar with the probe."

"Levin said in an interview on Thursday that he expects to conclude his work on Wall Street and commodity investments before he departs."

"We are looking at the physical commodities issue. There may be one other (issue to investigate), but I don't want to say what it might be," said Levin, a Michigan Democrat. He declined to elaborate."

"Levin's panel began examining the commodities market in late 2012, after several months of growing complaints from metals users and following a Reuters story that highlighted a behind-the-scenes struggle between the banks and the Fed over commodity trading."
My added comments: In response to our question, Can the Public have confidence in the financial system?; I would have to answer that I don't know. On the one hand, it is good to see that regulators and investigators are bringing these issues to light. On the other hand, we have seen many similar news articles over the years since the GFC (Global Financial Crisis) and not much seems to change. No one is ever really held accountable. Notice the CFTC states that the problems were going on at least since 2012 and that despite many orders to fix the problems, they were basically just ignored. Usually there are just some fines which these banks can just write off as a cost of doing business and just keep on doing the same things over and over. It's a fair question to ask if we can trust them.
If officials at the top of the present financial system really want the public to trust the system, they need to open up and become more transparent on important topics like undisclosed derivatives risks, attempts to influence pricing in various markets, and accurate reporting to the public. And Central Banks need to be more open about transparency with their gold reserves dealings. More transparency might go a long ways towards regaining public trust. 

But continuing to just do business as usual and pay a fine now and then is not likely to do much to regain public trust. Confidence and trust are major keys to holding any system together. If too many people lose trust in the system, it will collapse and give way to something new. Opportunities to make things better might get lost in the process. Or it might speed up their arrival. Just another area we need to keep an eye on.

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