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The free market's not always the fair and honest market

September 21, 2008|DAVID LAZARUS

Market forces are great. Until they're not.

After nearly three decades of conservatives insisting that government has no business meddling in the private sector, the Bush administration on Friday announced a sweeping plan to spend hundreds of billions of taxpayer dollars bailing out financial institutions that bet wrong on the mortgage market.

The move followed separate bailouts of insurance behemoth American International Group, mortgage giants Fannie Mae and Freddie Mac, and investment bank Bear Stearns Cos., along with the bankruptcy of Lehman Bros. Holdings Inc.

I'm not saying the government was wrong to ride to the rescue of most of these guys. Even though I wrote recently that the bailouts had to stop, it's now clear this mess was going to get a whole lot messier without some dramatic move to restore confidence.

What cheeses me, though, is that we could have done something about this before it turned into a crisis. This whole sorry episode proves how badly we need government regulators to crack down on increasingly reckless businesses.

"Market fundamentalists believe that markets always work," said Robert Reich, a professor of public policy at UC Berkeley and Labor secretary under President Clinton. "They believe markets don't need anyone to assure fair and honest dealing.

"Those market fundamentalists have been proved wrong time and time again."

Nothing illustrates that better than the meltdown on Wall Street last week -- a frightening reminder of how easily companies can get in over their heads when Uncle Sam is looking elsewhere, and how expensive it can be for taxpayers to clean up the mess.

"There's been a massive market failure here," said Kathleen Hagerty, a finance professor at Northwestern University's Kellogg School of Management.

She said a government bailout of distressed companies was understandable under the circumstances. But the upshot needs to be tighter regulation of the marketplace.

"If the government is going to be the one left holding the bag, then it needs to be able to tell people what to do," Hagerty said.

It's been quite some time since the government has either wanted to or had the wherewithal to practice tough love on the private sector. The push for deregulation that began with Ronald Reagan reached its zenith under the current President Bush.

I've written frequently about the regulatory shortcomings of the Consumer Product Safety Commission, which all too often relies on the companies it regulates to report defective or dangerous goods -- and even then, only after they've reached store shelves.

The Food and Drug Administration has been similarly deferential to companies under its purview. Last week, the FDA shrugged off a new report showing that the chemical bisphenol A, used in baby bottles and other products, increases the risk of heart disease, diabetes and liver problems.

How about the Federal Communications Commission and our own California Public Utilities Commission, which last week voted to permit phone companies to jack up the rate for basic service by as much as 50% over the next couple of years? Raise your hand if you think they do a good job keeping telecom companies in line.


"There's a fundamental misconception about market forces," Reich said. "Markets don't exist in a state of nature. They need regulation to be fair."

Democratic presidential nominee Sen. Barack Obama (not surprisingly) called last week for increased regulation of the private sector, and his Republican rival, Sen. John McCain, was (very surprisingly) demanding the same.

I've never understood why some people consider "government" a dirty word. In a perfect world, free markets may indeed be sufficient to reward corporate excellence and safeguard consumers. But this isn't a perfect world.

Businesses aren't moral, they aren't ethical. They aren't supposed to be. They exist to make money and enrich shareholders. Regulation is necessary to define acceptable standards of conduct in an amoral world and to ensure that those standards are upheld.

Regulation, it's now abundantly clear, also is needed to protect people from themselves. I'm thinking of all those would-be homeowners who took out mortgages they had no prayer of affording.

One of the most refreshing tidbits to emerge last week was a proposal from the Securities and Exchange Commission to require hedge funds and investors managing more than $100 million in securities to disclose short sales -- a technique for profiting from a stock's decline.

Short selling is a legitimate way for investors to minimize risk and weather the market's ups and downs. The shorting of stock to reap massive gains, though, can be destructive during volatile times. There needs to be greater accountability.

And why stop there? We need better transparency throughout the financial sector in the form of clear and concise disclosure rules for everything from where companies have their money invested to the complexity of their transactions.

We also need a commitment by regulators to keep consumers safe by stopping unsafe products from reaching the market, as opposed to our current system of catching problems after the fact. And we need a renewed focus on keeping price hikes in check amid rapid industry consolidation.

"We tend to swing back and forth between cycles of under-regulation and over-regulation," said Robert Hillman, a law professor at UC Davis who concentrates on business practices.

"This is a great American battle, the search for a middle ground that actually works."

We've tried under-regulating for years. Time to try something else.


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