The SEC will hold a forum to examine policy responses to concern about the role of ratings agencies in recent economic events. The forum will be held on April 15th in Washington, DC.

Many analysts have observed that ratings agencies were somewhat offbase in their assessments of the soundness of debt held by some of companies that experienced significant write downs in the credit crisis.

A significant point of discussion should ascertain how inherent conflicts of interest can be resolved.  In most instances (save for unsoliticed ratings) credit agencies are paid by the very institutions that they are rating. In a universe where the three dominant ratings agencies (Standard & Poor’s, Fitch Ratings, and Moody’s) compete for business, this leads to the potential for less-than-objective analysis.

Mood’s had Lehman’s debt rated at A2 prior to its collapse last fall. It had AIG’s debt rated at Aa3 prior to its bankruptcy filing.

The FDIC had issued a cease and desist order for Republic Bank and its RAL business.  Wait – it’s not a clean sweep, however.  The cease and desist does not mean that it can not make RALs but that it applies to the practices and policies that lead to the violations.  Yet to correct their deficiencies will be hard and expensive.

For consumers, this is a very important development.  Refund Anticipation Loans (RALs) are utilized by many tax filers, the majority of whom are low income. RALs drain the impact of our nation’s leading anti-poverty program, the Earned Income Tax Credit.  By providing so many RALs, Republic’s business plan intercepts public funds that have been designated for a stated object of federal policy. RALs are a unintended recipient of these funds.  It has raised of some some legislators, including Charles Schumer (D-NY) and Daniel Akaka (D-HA). A bill seeking regulatory constraints upon RALs has been co-sponsored by Akaka, along with Max Baucus (D-MT), Mark Pryor (D-AR), and Charles Grassley (R-IA).

This is a copy of the actual order. (pdf)

The FDIC has created a costly and high standard of compliance, which may lay the groundwork for a total cease and desist if they can’t meet the standard.   Highlights include:

1)  Training all of their RAL originators on all relevant compliance issues. And not just the agency, but everyone in the agency that talks with a customer.   This is in effect establishing a minimum training program for tax preparers who use RALs.  The FDIC is doing what the IRS should have in requiring standards.  This will be a huge challenge.  Sure, a national company like Jackson Hewitt can demonstrate a standard training program implemented for its employees and franchises is possible.  How will they certify a training program on TILA, ECOA, Reg B, etc for all of the mom-and-pop RAL providers?  Go online, read and take a test maybe?

2)  Auditing at least 10 percent of its RAL providers.  Auditing includes every type of review  – testing, site visits, statistical analysis for compliance with all consumer laws.  If the outside review finds problems, then they have to be corrected.  Holy cow, an audit system for tax preparers paid for by Republic Bank.  Thank you Republic.

3)  Auditing Republic Bank RAL operations. So in addition to auditing the RAL providers, Republic pays for an external auditor to audit the bank – twice a year.  The FDIC has to approve the audit standards and performance.  Sounds like the FDIC just had Republic pay for its own oversight so the FDIC won’t have to.

4)  The board of directors has to sign off on committee meeting minutes, audits, reviews, plan development. The FDIC talks about management as if it is not to be trusted.   If someone disagrees it has to be noted.  The board of directors has a level of a high level of involvement.  Something is going on, because the board of directors is in large part – Management!  Of the ten board members, two are employees and three are Tragers.  That leaves five directors who are independent, according to the definition of the SEC.  T Insiders control 51.87 percent of shares, according to Thomson. There are two classes of voting shares as well, with preferred shares given a voting power that is much greater than common.  This is one more step that insulates RBCAA from external influence.

Is the FDIC trying to highlight the conflict of interest of Steve Trager serving as both CEO and Chairman? The FDIC is asking the board to oversee management.  Will that work? It is hard to know for certain. Still, the FDIC is asking Republic’s board to oversee a reorientation of its business, and that will be difficult as management dominates the board.

There is no end date on the order.  This order is good for as long as the FDIC feels like it.

The mortgage crisis dominates headlines these days.  It is the main focuses of these entries.  That said, there is another problematic trend that is somewhat related to poor lending decisions.

I am talking about newspapers.  For years, people have been expecting print to succumb to the advantages of electronic news delivery. The differences are dramatic.  Newsrooms are probably guilty of not changing with the times.  They are somewhat insulated, and their lack of new readers reflects that.  Newspaper readership is getting older and older.  The obituaries and stock quote listings remain popular for a reason.  Circulation reflects the loss of relevance, or the loss of content. Oh, and craigslist didn’t help.

Content is a problem, too.  Young people find fewer and fewer reasons to subscribe to a paper.  A few years back, when I returned to graduate school, I remember realizing that I was the only person in our cohort who subscribed to a paper.  Twenty years ago,  a group of late 20 early 30-year olds with a college education and an interest in civic life would have had a different reaction.  Most would probably have a paper, some, perhaps two subscriptions.  So, the papers weren’t cultivating new readers.  Simultaneously, job cuts meant that papers were getting thinner and thinner.

Less content means less readership means less revenue means less content….

Our local paper was sold in 2005.  It had been a family operation.  Now, it is owned by Paxton.  Paxton immediately cut about 15 positions.  There is less coverage, less news, less content.  They do not have a business reporter on staff.  This is always a nail in the coffin.  People won’t pay for a product that keeps getting weaker.

Finance has a role in the downfall, nonetheless.  A few years back, the newspapers suddenly seized on the idea that they could enhance profitability by achieving new scale, particularly in back office functions.  The idea was that circulation could work out of one office, for readers in say, Dayton and Atlanta.  Or for readers in Sacramento and Raleigh, I suppose.   Except that this was way off the mark.  It turned out that newspapers were fundamentally a local enterprise.  Surprise!  Local reporting, local readers, service from another state.  What’s incongruent here?  Imagine calling a phone bank in India to put a vacation hold on your paper.  Well, that’s sort of what they envisioned.

With the vision of new profits, banks went on a buying spree.  You will remember that Knight Ridder was purchased by McClatchy.  Times Mirror was purchased by Tribune.  Tribune later sold Newsday, acquired in that deal, for $650 million, to Cablevision.  Thomson shed its newspapers, selling them to Cox.  Lee Enterprises bought Howard.  Lee bought Pulitzer.  In a smaller deal, Ottaway (since 1970 a part of Dow Jones) sold four papers to Community Newspaper Holdings.  The rest of Ottaway became part of  News Corp , when in 2007, News Corp bought Dow Jones.

At the time, the public was less concerned about the impact this would have about the ongoing viability of the model.  Some did complain about the lack of diversity of opinion.  The people at the FCC appeared to have no problem with it.  So, there is another similiarity – regulators put their faith in markets, in spite of citizen protest.

These turned out to be awful deals.  Tribune, having paid $8 billion for Times Mirror, recently wrote down the value of its acquisition by approximately $3.8 billion. It has filed for bankruptcy protection.  Cablevision wrote down about more than half ($402 million) of the value of Newsday.  Lee is almost bankrupt as well. In 2008, it took write-downs of $1.4 billion on its recent spending spree, and another $180 million at the end of this year. The list goes on and on.

Where is all of this heading?  Well, our civic life is going to suffer.  Citizen blogging may have its place, but it is hard to imagine that it will be the same.  Where will the revenue streams appear to support the number of reporters (skilled) that print once employed?

Like a lot of Americans, these papers have more debt than they can handle.  Many newspapers never should have gotten the financing for these acquisitions.  Lee is a classic example – they are still witnessing an operating profit, but debt service is killing them.  KPMG may not be willing to certify them as an ongoing concern.  We’d still have our papers.

There isn’t going to be a TARP for newspapers, though. They are going to pass on.  Non-profits might emerge.  Certainly, Poyntner has done a great job in St. Petersburg. We’ll see.

The new plan from Treasury to utilize private dollars to take toxic assets off balance sheets dominated the news cycle yesterday.  At least, the market responded with that opinion.  The Dow was up by almost 500 points, and financials gained more than 9 percent.

The new plan could potentially be a great opportunity to savvy investors who know how to distinguish between bad debt and that which is merely caught up in the sell-off.  The five banks that get to be in charge of the sale of the assets could potentially reap a windfall on the very profits they helped to create, in the event there are transactional fees.

Some economists are dubious, calling it a “zombie plan,” but the market appears to like it.

The problem, though, is that we are witness policy that addresses market reform, but there is a lag in any kind of policy action to prevent this same mess from happening all over again.  The administration has spent a lot of time focusing on symbolic problems.  AIG got bashed for giving away those bonuses.  Now it appears that at least 15 of the traders in its financial products division have the heart to return their lavish payouts.  The others are going to have them taxed at 90 percent.  Oh, and John Thain got blasted over his $35,000 commode.

Think about what has been left undone:

• Nothing has been done about the ratings agencies. In fact, they may benefit from the new rule changes.
• Short of the planned restoration of the uptick rule being restored, the administration has not done anything to harness the shorts.
• Subprime lending remains largely unaddressed on a regulatory level.  For sure, those markets have dried up.  If lenders find their balance sheets restored and unemployment goes back down, what is stop new independent mortgage companies from  resurrecting their business model?
• The Community Reinvestment Act has not been substantially altered since FIRREA. In fact, changes to rules setting regulatory thresholds by size of bank may have weakened the Act. There are still no regulatory answers for the independent mortgage companies that supplied most of the subprime loans.
• Nothing has been done about Gramm-Leach-Bliley.  The next AIG could well be another insurance company with a financial products division making gigantic trades in deriviatives, although some would definitely disagree.
• We need to pass a loan modification bill.  The leading proposal, passed in the House, is (HR 1106). It allows judges to amend the terms of mortgages, and it provides some relief for households in bankruptcy. It awaits action by the Senate. North Carolina’s Center for Responsible Lending estimates that court-supervised loan modification would save 15,400 homes in North Carolina and approximately 800,000 across the United States.

As well, we have to address the exit strategy for the incredible market interventions that have taken place.

• When will the interest rates on the discount window return to a historical margin?
• Will the Federal Home Loan Banks be shored up?

In short, we need to make sure that this does not happen all over again.  Fool me once….but need to do more to make sure that we do not have to do this all over again in a few years.  Symbolism makes for effective politics, but this crisis is severe.

Care to add a few more: I would appreciate your comments.

People say that Treasury and the Federal Reserve have their hands tied with how the banks use their TARP funds.  They say that it is up to the private market to allocate the capital.  And, even the leaders at these regulatory institutions appear to be frustrated (“slamming the phone“) and short of alternatives on how to deal with banks when they don’t follow with the game plan.

Here’s one simple way to make them listen.

The solution is simple.  Use a hammer, rather than carrots.

Give Wal-Mart a banking charter.

Wal-Mart applied for a Utah industrial bank charter in 2005.  The banking industry went into convulsions.  Small banks didn’t like it.  The big investment banks (Goldman Sachs, Merrill Lynch) and the finance companies (GE Capital, GMAC, CIT) many of whom have their own Utah charters, felt that Walmart should face a different standard.  They realized that if Wal-Mart went into banking, they would quickly amass huge deposits.  Many consumers, frustrated by the quality of services offered by banks, would flock to Wal-Mart.  It would be the end of those $35 overdraft fees.  Wal-Mart would probably have some $4 fee!  Imagine that.  Oh, and they’d make money doing it, because there has probably never been a corporation that finds ways to reduce costs.

In 2007, Wal-Mart withdrew its application.  Still, the current furor over banking practices might be just the right leverage for a re-examination.

Wal-Mart would also introduce many new customers into the banking system.  Right now, our nation has a huge problem with unbanked and underbanked households.  In 2004, the FDIC estimated that there were 10 million households in the US that operated without basic banking services.

Why is that bad?  Well, it is impossible for banks to realize cost-savings from electronic transactions if people don’t have a means of interaction with the payment system.  People opt out of the banking system because they are weary of the fees associated with banks.  Banks work well if you have $5000 in a saving account.  You get plenty of freebies – maybe a no-cost safe deposit box, or free checks, or free statements at your ATM.  If you are low-dollar household, banks nickel and dime you every step of the way.  This is why there are so many check cashers around.

Moreover, its unlikely that Wal-Mart would pay any of its banking staff sums equivalent to the kinds of bonuses that are routine on Wall Street.  Consider what Morgan Stanley paid in 2008, where a bad year meant that its average worker (CEO to mailman) earned $262,000.  That would pay for a lot of clerks.

No one is particularly charmed by Wal-Mart.  But right now, banks are even less charming. Even the threat to approve the charter would probably have a desireable impact.  Its remarkable what a little competition might mean to these advocates of the “free market.”