Dan Froomkin vs. Bob Rubin

Brad DeLong:

Dan Froomkin vs. Bob Rubin, by Brad DeLong: I call this one for Rubin on points, narrowly. Dan Froomkin reports:

Rubin: I Actually Supported Regulating Derivatives: Clinton-era Treasury Secretary Robert Rubin, who will go down in history as one of the men who killed derivatives regulation, insisted today that he has long thought that derivatives should, in fact, be regulated. "I thought we should regulate derivatives; I thought so when I was at Goldman Sachs and I thought so afterwards," he told HuffPost during a break at an event for the Hamilton Project, a think tank he founded to support Wall-Street-friendly Democrats. Rubin was chairman at Goldman Sachs before joining the Clinton administration in 1993; after he left, he went on to head Citigroup, which he nearly bankrupted with his excessive risk-taking.

The financial instruments known as derivatives have become a hot-button issue due to their central role in the financial crisis. Derivatives allow investors to make wild, nontransparent bets without any capital requirements. Combine them with the popping of the housing bubble and you've got a financial meltdown of massive proportions. Democrats are trying to make most derivative contracts transparent and public, and President Obama has said he'll veto any financial reform bill that doesn't do so.

Rubin can in fact point to a long paper trail suggesting that he supported regulating derivatives -- at least in theory.

But in practice, in 1998, Rubin was one of several top Clinton administration officials who quashed an attempt by Brooksley Born, then head of the Commodity Futures Trading Commission, to regulate them...

As I understand things, Rubin's position on derivatives regulation in the late 1990s had five parts:

1. Derivatives should be regulated, with proper disclosure and capital adequacy and information requirements, especially to protect unsophisticated investors.
2. Phil Gramm is Chairman of the Senate Banking Committee, and would always rather regulate less rather than more--and the House side is even more so.
3. Brooksley Born and her organization are the wrong people to regulate derivatives.
4. Derivatives should be regulated with a light hand, because they are a small and specialized corner of financial markets and are simply not large enough to pose any systemic threat.
5. The Federal Reserve has adequate powers to stem financial crisis and keep it from becoming a threat to the economy, and is also not worried about derivatives.

As I see it, Rubin was correct on (1), (2), and (3). He was correct on (4) when he was in office--when derivatives were too small to pose any systemic threat to financial stability. But that changed in the 2000s. And Rubin was completely, utterly, and totally wrong about (5) (as was I).

One other place where Rubin was wrong in the late 1990s (and where I was right), was that he was not worried about the opacity of derivatives. He was confident that senior managers at large Wall Street firms could maintain control over their derivatives books, and understand what risks their firms were facing, and what risks their underlings were exposing their firms to.

There he was wrong.

via delong.typepad.com

Rubin helped to foster the myth that financial innovation was always and everywhere a good thing, and that anything standing in the way of it, e.g. misguided regulation, would be harmful to economic growth. He was part of a march of former Wall Street types into government where they had the power to sell this idea more broadly. And they did. For that reason, I don't think a list like the one above absolves him and others from responsibility for creating the conditions that led to the crisis. When derivatives were no longer "too small to pose any systemic threat to financial stability," that attitude prevailed -- an attitude Rubin and others helped to create -- and the ideological capture of regulators it brought about prevented the type of intervention that was needed in the derivatives market.

Update: See also "What Did Robert Rubin Think About Derivatives?," by James Kwak.