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Crying wolf and contagious finance company panic

  • September 5th, 2007

Regulators and successive politicians have more responsibility for the infectious panic than anyone has mentioned so far. For years they’ve been chasing votes by telling everyone that NZ is too lightly regulated and they need to stay in power to pass lots more laws to fix that.

There is only one rational conclusion if they’re to be believed – plainly the market can’t be ok until those laws are passed, whatever anyone may say. Accordingly the regulators and the government have lost their power to reassure. How could most things be ok now, when they’ve spent years saying that everyone, the honest and the dishonest alike, needs lots more rules? When you’ve cried wolf for years you can’t suddenly cry lamb, to stop people running from what is at least a dog, even if it is not a wolf.

Instead of vigorously using longstanding laws of fraud to put liars and crooks in jail they’ve been passing thick books of highly technical rules that make criminals out of ordinary business people unless they pay my profession heaps. Honest people can’t rely any longer on decent intuition. They need bloated lawyers to guide them through the regulatory thickets.

It is simply not true that our finance industry regulation is deficient. It works pretty much as every other country’s does, with auditors, independent oversight of security margin covenants etc. Trustees have been doing what they’re paid to do – that is put companies into receivership when they become unhealthy.

None of the kinds of new laws that anyone has talked about would affect what has been happening. It is worse in Germany. There it is major banks that are sucking up billions in rescue capital.

In the US the same rating agencies now promised as our saviour rulers are blamed for the ‘sub-prime mortgage’ debacle affecting US banks. The agencies helped legitimise the sale of those problem loans to the banks.

For years our Reserve Bank has been warning that only blind hope underpins our property prices.

But our regulators and politicians have sung the songs of regulatory woe for so long that none of us now will believe reassuring words from them, even if in truth most companies are healthy and our old rules are mostly sound, just under-enforced and buried in pointless compliance with new ones.

And the truth is that most of the finance houses would survive, if only people could trust those whose job it is to tell the difference between the shaky ones and the others.

But of course they can’t trust them can they, because the political eminences have told us all that the rules are deficient until they’re fixed (in a few years). Political rhetoric matters.

Meanwhile we’ve had thick books of extra regulation, and endless proposals for more. They’ve made my legal colleagues rich. And they’re mostly utterly irrelevant.

When I started in the kind of work I do, securities regulators thought it was part of their job to kill panics and to instil confidence in the integrity of the system. Then they thought it  their job to say – “the system will be OK, but only once all our pet rules are in place, so you need us to be very busy”. Now they’re saying nothing much at all.

Perhaps they’ve decided that no one much believes them. Certainly they’ve been astonishingly silent in the face of avoidable panic. Yet this panic could end the golden weather for a generation. A World Cup trip could be remembered as the last luxurious confidence for a long time.


First – No bank can survive if everyone wants to take their call money out at once. For hundreds of years financiers’ value to the community has come from borrowing short and lending long – turning your rainy day savings and mine into locked in capital for long term assets like houses and factories.

Second, most finance companies should have enough assets to cover their liabilities, but may not have enough cash to cover demand repayment, now that people are withdrawing or not renewing investments.

Third, the funds flow to finance companies has stopped, so finance companies have stopped new lending, or even routine roll-overs. There will be forced asset sales by their clients who can’t refinance.

Fourth, the banks are getting funds that would have otherwise gone to the finance companies. They might pick up some of the lending slack, but they’re sitting on their hands waiting to see what effect a crash might have on the value of security property. Some are licking their lips at the prospect of getting the pesky mortgage competition out of the market.

So – many finance companies which were lending prudently while the property market was orderly may not have enough assets to cover what they owe if the property market crashes. That crash could happen because forced sellers drive markets down.

Why are people demanding early repayment? Because they can not tell which finance companies are vulnerable and which are not. They now know they can not trust the prospectuses. Even if the statements were true when issued, historical accounts may be misleading if relied on now. And investors do not trust what the directors tell them. The last thing the directors want to do is talk about circumstances which could cause loss. Investors take that in to account when they listen. In a panic any doubt will lead to flight.

So why isn’t it just sorted out by the government just asking the auditors and the trustees to do their job. Through the government (if necessary to remove unfair liability fears) they could  tell us all which companies are solid and which are dodgy, with a sensitivity statement showing how much asset values would have to move before investors suffered a loss?

I fear that part of the answer is because lies and spin have become such an integral part of government, that it is outside their comprehension to think that something so straightforward is achievable. They assume that everyone is as devious as them, and a simple solution would not work. Trust has to be developed over years of being truthful. It is lost after years of spin.



For someone who criticises the entire statutory and regulatory structure of NZ securities law, your approach here is unbelievable. So basically you’re saying mandated disclosure, auditing and trustee supervision requirements are not helpful, but that if the government just tells the auditors and trustees to ‘do their jobs’ then a solution to the finance company sector meltdown is at hand?

Well isn’t the auditor’s job to express an opinion on the financial statements? Is it their job to express an opinion on the prospects of the company or issuer? nope.

Isn’t the trustee’s job to supervise compliance with the trust deed and take action to ensure compliance or enforce the security if the issuer is in default? Is it their job to express an opinion on the prospects of the company or issuer? nope

Isn’t it supposed to be up to prospective investors to assess the prospects of the issuer and the securities offered for subscription?

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