The astounding thing about the collapse of Jon Corzine’s gambling venture, MF Global, is the revelation that his bets were leveraged at about 40 to 1. This is like playing poker and borrowing 97 percent of your stake. If you guess wrong on a big bet (as Corzine did), you are wiped out (as he was).
The same thing happened to Lehman Brothers.
This also shows how utterly feeble Dodd-Frank is and how little the system has changed since the collapse of 2008.
The so-called shadow banking system—outfits like Corzine’s—can still bet the house if they have a taste for risk. The only good news was that at $8 billion, Corzine’s MF wasn’t big enough to take down the system or require a government bailout. But it could have been.
As a regulatory matter, it would not be difficult to limit all kinds of leverage for any financial institution to, say, 10 to 1. And the more risky the kind of institution and its strategy, the more leverage should be limited.
You could require all financial institutions to make real-time filings to the SEC of how much money they are borrowing compared to their own capital, and any one that goes over the ratio of ten to one is shut down.
The lesson of the Dodd-Frank aftermath is that blurry laws produce an infinite paper chase of regulatory details that are pathetically easy to ridicule and to evade. The Wall Street Journal has made great sport of the fact that the Volcker Rule’s ban on proprietary trading has given rise to endless hearings, 1,347 queries from regulators, rules that will run some 300 pages and will still be easy to evade because of their very complexity.
On the other hand, if you have simple rules, like strictly limiting leverage, prohibiting commercial banks from engaging in all forms of investment banking (not just securities trading), banning credit-default swaps as inherently subject to abuse, you have a chance of taking back the banking system.