Jack Dunning, the publisher of Computor Edge, just wrote an excellent compendium (the original articles were published in Wired Magazine) about the reasons our financial system is in shambles. Something else we have to consider, however, is the selfish greed and the lack of integrity, which caused the causes. We have to consider that a lack of morality can, and will, wreak havoc in our financial system and in our society as a whole.
“There is an excellent article in Wired Magazine that goes a long way toward explaining how the financial system became the mess we see today. It seems that there is a formula that was devised for calculating risk for the complex securities being manufactured by financial institutions. It simplified the risk decision-making process. It was used almost everywhere to evaluate complicated packages. The formula was fatally flawed.
The problem is that the risk involved in these complex mixes of financial instruments have too many dependencies on seemingly unrelated events to properly evaluate them. The fact is that the vast majority of people, including the “financial analyst,” didn’t have the math skills to evaluate the paper they were trading. The formula was used as the panacea. While the times were good, it seemed that the financial markets could do no wrong—and the formula seemed to work. But once there was a kink (bad mortgages), the house of cards collapsed. The formula is now useless, and there is nothing to replace it—yet.
Most of the problem paper in the financial markets does not have a value of zero, but banks are reluctant to buy or sell them precisely because they don’t know how much they are worth. The buyers don’t want to pay too much, while the sellers fear getting too little. Part of the complication is the fact that even individual mortgages have been divided between numerous packages. If you tried to track down who actually owns the mortgage on your house (not the bank who collects the payments), you could find that pieces of your mortgage are in hundreds, if not thousands, of different securities.
People are screaming for more government oversight, but there is no evidence that hiring more civil servants will help resolve anything. It’s been admitted at the SEC that once they get information, they often don’t know what to do with it. Nor is the problem the lack of information. It’s been argued that there is so much information available through regular mandated disclosure that the useless boiler plate overwhelms the buried, more vital figures. The government has mandated transparency through disclosure, yet the mountains of disclosed data overwhelm analysis. Who is capable of sifting through it all?
A companion article in the same issue of Wired argues that the only real requirement for fixing the financial mess is full disclosure of all the data, not to the government, but to the public. Once the data gets into the hands of geeks and nerds everywhere, the process of turning it into useful information begins. No oversight body will ever have the wherewithal, or talent, to provide information that will actually protect the public from the stupidity of financial institutions. There will always be ways for financial managers to beat the government regulations and march down a lucrative, yet dangerous, road.
Last week’s column by Dawn Clement about the massive networks of home computers chugging away in kitchens all over the world working to solve complex problems may demonstrate a model for future financial analysis. If the government tries to do it, it won’t get done—although they will spend billions while not doing it. Plus, the task may be too daunting and expensive a proposition for private enterprise. A distributed system of home computers each doing its piece of a financial analysis problem could provide more computing power than the biggest supercomputer, while offering up true transparency to those who really need it—the people. All that is required is for the data to be made available to everyone. Someone will start doing something with it. Then the oversight of our financial and securities markets will truly come from the people.
Jack is the publisher of ComputorEdge Magazine. He’s been with the magazine since first issue on May 16, 1983. Back then, it was called The Byte Buyer. His Web site is . He can be reached at www.computoredge.com or firstname.lastname@example.org