Crisis Indicators and Risk Reduction

As financial reform proceeds, the most prominent argument against the Transparency and Accountability Act of 2010 will be that regulation to reduce risk will reduce growth.

Since economic growth requires taking risk, reducing the probable risk through regulatory reform will, by force of the argument, reduce probable growth.

Post hoc as the argument may be, growth will be deliberately slow because deconsolidation is not the object of reform. Failure of firms that are "too big" is the proposed objective which, if allowed, results in deflationary crisis (negative growth).

The proposed reform seems to forget that large, economy-of-scale firms cannot objectively fail "because" they are too big. (We should note here the reason this issue is so complex is because every effort is made to ignore and avoid the obvious.)

The purpose of being "too big" is, of course, to prevent catastrophic failure of these firms in the midst of systemic crises they cause in a too-big-to-fail, economy-of-scale proportion. Since the economy is generally dependant on the survival of these large firms (the objective), not allowing them to fail is considered to be the general welfare.

Senator McConnell's criticsim of the proposed reform is, then, correct: it institutionalizes bailouts which, whether publicly or privately financed, uses an accumulation of capital to support the bad behavior to be discouraged and the detrimental reliance to be avoided. The Senator then correctly challenges proof for what is essentially an illogical argument--solving the problem by supporting it.

The result will be further consolidation, which supports the problem of the economy being at systemic risk to firms organized too big to fail. The proposed reform will conserve the risk-to-growth coefficiency argument that high growth only comes with the ability to take high risk provided by an economy-of-scale efficiency. It will conserve the means of consolidating capital, wealth and power into a self-supporting crisis proportion with the exculpatory appearance of promoting growth with an unavoidable cyclical ontology.

While financial reform as proposed will conserve a false economy-of-scale efficiency, being too big to fail and the unacceptable amount of risk a failure indicates can nevertheless be deconsolidated.

Democrats, however, support the economy-of-scale efficiency hypothesis. It is the primary cost-control measure of the health care reform bill and will be the primary model of efficiency shaping financial reform. The bigger the better; it is an organizational evolution that cannot be stopped and reversed. Instead of fighting it, use it to the public good. Being "too big" is good if it can be controlled to not fail the system (the "institutionalizing" Senator McConnell objects to).

The result then, of course, is a political-economy in a steady-state of gamma risk and an inelastic demand for elits that manage the risk, keeping it from reaching a crtitical, crisis proportion. It is a system always on the brink of disaster--not exactly the model of reform.

The organizational model that accumulates risk will still be fully operational, and the product of that model is, predictably, slow growth. The argument will then follow, post hoc, that government intervention in free markets impedes growth and causes crises. Thus, the reform indicates crisis.

(Regardless, the proposed reform will be pro-cyclical. With the reform, as Senator Dodd points out, or without the reform, recurrent crises will not be prevented.

Whether cyclical crises is preventable is a hypothesis that needs to be positively tested rather than left to the contortions of rhetorical analysis.)

Right-wing conservatives (as opposed to left-wing conservatives who are offering reform) will then argue, post hoc, markets "must be free" to determine (to consolidate) the level of risk (and the indicator of probable crisis) into an economy-of-scale model of efficiency (the coefficiency argument that high risk causes growth, and the distribution that occurs is therefore not a zero-sum liability).

The regulatory "scrutiny" the president refers to that will fail firms that deserve (but are too big) to fail (conserving what is too big to fail and the crises it will cause) is otherwise the alpha risk. It is the kind of risk that, if we want to ontologically indicate what is at risk of failure, should be unfettered.

Alpha risk is to be supported, encouraged, through regulatory reform, not resisted! It is the inherent risk of an unfettered free market that operates without the need for government regulation. It comes with deconsolidation of economy-of-scale modeling.

The best way to ensure transparency and accountability is to ensure the functional efficiency of unfettered alpha risk.

Encouraging alpha risk maximizes transparency by failing firms that are not transparent. The most trustworthy and accountable firms remain.
Accountability (the alpha risk) is then the risk that both does and should survive the marketplace.

At the same time, alpha risk maximizes economic growth. Success replicates itself and that success is the accountability that ensuring a pluralistic organizational model affords. Replicaton of that success (conservation of risk in the alpha form) is dependant on practical modeling.

It is a mistake, if not a malfeasance, to resist proliferation of the alpha risk in the name of eliminating all risk. By its proliferation, the "risk of liability" is reduced to success or failure in the marketplace rather than success or failure in a court of law or any other form of government intervention.

Instead of eliminating risk, whether public or private, alpha risk should be maximized.

Maximizing alpha risk minimizes the need for government--it minimizes an accumulation of gamma risk into a crisis proportion. It not only allows for the freedom to succeed by removing barriers to entry, but the freedom to fail by eliminating what is "too big" to fail, not "the risk" of failure.

True that a multiplicity of small firms will not take the big risk of a big firm because they literally cannot afford it--they cannot afford to fail (a coefficient that demands an efficiency far in excess of the bigger firm which is likely to be much more costly and abusive because it can afford it). The smaller risk of multiple firms is equivalent to the big risk of fewer firms except the small firms cannot afford to over-leverage into a crisis proportion (the crisis indicator) because the risk, and the crisis, is limited to that one particular firm--it is limited to non-systemic alpha risk.

So, which kind of risk do we want...the big risk or the small risk? Just like health care reform, we will be stuck with the false efficiency of an economy-of-scale for financial reform too. (The needle on the crisis-indicator meter just broke!)

Maximizing alpha risk through deconsolidation is the prudential oversight needed to achieve a form of government that governs least, minimizing the probability that risk will accumulate into the form of absolute power and corruptibility (the gamma risk) whether public or private. (The alpha risk distribution is essentially the ability to say "no" in the marketplace. It is the freedom to fail.)

An economy-of-scale model beneficially reduces alpha risk for firms, but the benefit of "taking" the big risk reduces economic growth. Reduction of both alpha risk and growth (expansion of the marginal benefit to firms) increases the gamma risk in proportion to the accumulation of the benefit. The need for government regulation and intervention (a distribution by command rather than market demand, or the risk "taken") increases, like we see now with the unpopular bailout of large, financial institutions and the call for a re-established regulatory authority that was dis-established to reduce the need for government.

(Note that the risk "taken" in the latest crisis has cleverly kept the benefit accumulated, rather than distributed, on command. The result will be a longer recessionary trend with a "jobless" recovery, keeping markets sufficiently inefficient to sustain the full marginal benefit. The inefficiency is the lack of alpha risk distribution that requires a distribution occur on the accumulated benefit in command form--the need for government. If the distribution does not come from the accumulated benefit, the result is a large budget deficit and stagflation, like we have now. The argument will then be falsely made that the deficit is caused by too much government which, in turn, results in slow growth.)

Again, the conservative argument for less government is post hoc.

According to conservatives, the absence of government in the marketplace causes less need for government (the argument is fallaciously "after this, therefore because of this"). It falsely argues a temporal sequence to indicate a causal relationship.

In the current case, for example, less government in the private sector caused the need for government in a measurably large, multi-trillion dollar proportion (the TARP plus the budget deficit). The variable in which "the need for government" depends (the dependant variable) is the degree of economy-of-scale. How consolidated the marketplace is (the gamma risk accumulation) determines the degree of (the need for) government presence (the gamma risk distribution).

Reducing government is dependant, therefore, on the gamma risk distribution (financial reform) being limited to largely ensuring maximum distribution of the alpha risk, or deconsolidation of the marketplace (what too-big-to-fail, economy-of-scale organizations do not want).

Starting with an unconsolidated financial sector, a model for maximizing investment in a disinflationary, pluralistic model of growth (full employment with low inflation and a high level of direct, alpha-risk accountability that renders less need for government) is entirely possible. It is what the ground-swell sentiment for change is calling for. Not a revanch of post-depression regulations, but a modality shift.

Instead of accepting the inflationary pressure of a highly restricted supply coefficient with a slow growth pattern that proliferates the economy-of-scale model of efficiency, events have transpired to support confirmation of an alternative hypothesis to the conservative model. It is a tired model being stubbornly applied despite miserable, overwhelming failure to promote the general welfare.

For example, mark-up on the current reform legislation entails derivative markets. It is a realm of finance that few people, including legislators and regulators, fully understand. This, then, is where the conservative model will be most fully supported and stubbornly applied--through swaps and futures. It is an area of the financial market that has a high capital requirement, defining an exclusive domain for large firms to apply an economy-of-scale efficiency inimical to the interests of Main Street.

Acting with minimal alpha risk and maximum gamma risk, accumulation of capital in the futures domain, with a variety of innovatively obscure investment vehicles and a regulatory arbitrage to hide the micro motive toward a macro effect, indicates low growth and impending crisis.

Innovative proliferation of "risk-transfer products" instead of investment in alpha risk distribution will surely trend into crisis. Accumulation of capital into derivatives will not support the value of its previous repository of toxic waste. This will be very damaging to the economy and must be hidden in some way despite the effort to make it all more transparent and accountable.

Even though derivative markets may be rendered more visible, it will be a means of influence that is more visibly not understood. The effect--manipulation of markets and trends with a highly limited risk of liability (accountability) to the consequences--will be the same even after the reform.

(All the means of risk transfer may be more visible, but we won't know what we're looking at until it's too late and the deed is done, just like last time. There will, of course, be those who can read the signs without being on the inside of the trade (the risk transfer), but they will be dismissed as paranoid crackpots obsessed with conspiracy theories...just like last time.)

Popular sentiment for a practical deconsolidation of power is highly salient because the benefit of the economy-of-scale model is highly exclusive. It is equally clear that accountability proportionally diminishes with the accumulation of wealth in the form of power.

It is clear that power does not trickle-down. It consolidates. It achieves an economy of scale. The risk of liability to the reward is so diminished (so consolidated) that bad behavior is reinforced and good behavior is not fit to survive, trading the alpha risk for gamma risk ("risk-transfer" being the "product").

Advocates of too-big-to-fail, economy-of-scale efficiencies argue that the bigger the firm, the more risk can be taken. Contrary to these advocates, and proponents of reform, however, the accumulation of risk that results is not the problem to be managed, it is the size of the firms.

Supposedly, unfettered consolidation of industry and markets (falsely refered to as free-market economics) allows for a level of risk to effect a level of economic innovation and growth (achieving a greater coefficiency) than the model of pluralism (free-market economics) will allow.

It turns out, however, that economy-of-scale efficiencies accrue massive systemic risk and unemployment (slow-to-no growth). The touted coefficiency is apparently to be found elsewhere.

It is no coincidence that equities are getting support as we proceed with a jobless recovery. This is not a function of capital formation, but a zero-sum coefficiency that was very clearly indicated well before the current crisis.

When capital was being overleveraged in the name of capital formation to achieve a high level of growth and employment, but resulted in negative growth and unemployment, crisis was being indicated by the level of risk. The gamma risk (the need for government intervention and the lack of free market economics), for example, finally reached a critical, crisis proportion. Bankers and government officials met on a weekend in the middle of the night to devise an ad hoc plan to allay what was, by mainstream, Ivy-League analyses, a high level of risk that did not exist.

Even though the risk was being hidden in dark-market investment vehicles and schemes does not mean it was not detectable.

Deniable but not undetectable, the perpetrators of this enormous fraud knew about the high level of accumulated risk because they were executing it, and the victims lost value in zero-sum.

Unemployment has added value to equities that were sold off in a panic to institutional investors. That value will be retailed back to small investors at a profit looking to recoup their losses on these and other assests lost (sold off) in the recessionary trend. When added to the value of borrowing at near zero rates to buy treasuries to be retailed at three-times the rate, banks continue to gain value at the expense of smaller victims who remain to pay the public debt being bought and sold by the banks to "finance" it. The zero-sum detriment side to the "trade" of "risk-transfer products" entails a gamma risk and a lack of public trust at a level of unsustainably monumental proportion.

Despite the inherent, unavoidable accumulation of gamma risk, the Hamiltonian model is well conserved and fully operational as long as the accumulated benefit is not the source of the distribution. The means of accomplishing this undergoes innovation culminating, along with the over-accumulation of gamma risk, in regulatory reform.

The risk to conserving the current practical model is to ensure maximum alpha-risk distribution financed through a progressive tax code (reorganizing the model for pluralism financed from the accumulated benefit in a disinflationary, rather than a deflationary or inflationary, manner).

The progressive code we have now, with a public debt progressing exponentially beyond revenues, serves to conserve the problem toward application of a solution. The risk of inflation is extremely high because the distribution is coming from a budget deficit funded from money borrowed from the accumulated benefit.

It's the dog chasing its tail. The public expenditure, with interest, overruns the ability to pay the debt without either inflating or deflating the economy.
(Inflation will be the policy preference because it has a distributive quality while still accumulating gamma risk.)

The gamma risk, instead of being reduced, just keeps accumulating to a crisis proportion. That proportion, of course, anchors the mission of reform to limiting the gamma risk to a non-crisis proportion.

If the choice is adversely inflation or deflation, the risk of crisis is very clearly indicated for the near and long term, especially if we reform the financial system by conserving accumulation of risk organized into economy-of-scale efficiencies, or too big to fail, which is what the $50 billion emergency fund is for.