Opaque Capital Markets: Excerpt from Financing Recovery from Large-Scale Natural Disasters, Congressional Research Service Report for Congress

The following excerpt is from the CRS Report for Congress: Financing Recovery from Large-Scale Natural Disasters, November 18, 2008, by Rawle O. King, Analyst in Financial Economics and Risk Assessment, Government and Finance Division.

It describes the problems to which Marketcore’s methods provide the solution. Marketcore’s solutions are described in the report here.

The full text of the report can be downloaded in PDF form here.

Opaque Capital Markets. With excessive complexity being the enemy of transparency, regulators have expressed interest in finding a market transparency solution that is applicable across all current risk transfer categories and one that can identify in real time the interaction of multiple transactional, operational, and performance risks and provide an early warning system for systemic failure. Some have argued that the best way to resolve the financial crisis rests on the assurance of market transparency, so that information about a financial contract and its counterparties flows freely and all parties are informed about all relevant aspects of the market transaction. Transparency in the pricing and terms of securities is considered by many to be essential for financial market efficiency.

It has been argued that in the long run, greater transparency leads to more developed financial markets, 28 greater resiliency to shocks, 29 and better allocation of capital. 30 Transparency regulation has been presented as a way to improve the allocation of resources, which can arguably reduce financial fragility by strengthening market discipline and making financial institutions and markets more accountable to customers and taxpayers. Transparency has been defined in several ways and is often measured based on subjective perceptions of individuals. One objective definition of transparency is the accuracy and frequency of economic information released to the public. 31 Consideration is typically made to address the direct costs of complying with disclosure requirements and the indirect transparency costs stemming from having to protect proprietary rights.

From a public policy standpoint, the idea is for public officials and regulators to promote market transparency in order to ensure a well-functioning financial industry that is able to make new loans, offer lines of credit, and provide capital for risk transfer (i.e., insurance, reinsurance, insurance-linked securitization) services. In theory, a regulatory regime that focuses on market transparency could address issues of fairness (subsidy to investors at taxpayers’ expense), ambiguity (with respect to the mission, and oversight of the newly created Troubled Asset Relief Program) and the long-term economic effects of the rescue plan.

28 C. Leuz and R.E. Verrecchia, “The Economic Consequences of Increased Disclosure,” Journal of Accounting Research, vol. 38, 2000, pp. 91-124.

29 Boon Johnson and E. Friedman, “Corporate Governance in the Asian Financial Crisis,” Journal of Financial Economics, vol. 58, No. 1-2, 2000, pp. 141-186

30 J. Wurgler, “Financial Markets and the Allocation of Capital,” Journal of Financial Economics, vol. 58, No. 1-2, pp. 187-214

31 This is the definition used by Rachel Glannerstgern and Yongseok Shin in their article entitled, “Does Transparency Pay?” International Monetary Fund Staff Papers, Vol. 55, No. 2, 2008.

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