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Brooksley Born and Three Marketeers

The Lame “Uncertainty” Defense by

August 5, 2013 |  The Baseline Scenario | 31 Comments 

The indefatigable Brad DeLong has devoted his energies to singlehandedly protecting Larry Summers from the Internet (although, he makes pains to say, he likes Janet Yellen almost as much). Although I’m letting most of the Fed chair sideline debate pass me by, DeLong and others have raised one issue that played an important symbolic role in 13 Bankers and, more generally, the historical background to the financial crisis: Brooksley Born’s proposal to think about regulating OTC derivatives in 1998.

For those who don’t know the story, it basically goes like this. Born, as chair of the CFTC, was worried about the risk posed by OTC derivatives, which were effectively unregulated at the time. On May 7, 1998, the CFTC issued a “concept release”  asking for comments about the regulation of OTC derivatives. Summers, then deputy treasury secretary, along with Treasury Secretary Robert Rubin, Fed Chair Alan Greenspan, and SEC Chair Arthur Levitt, opposed Born, and they issued their own press release on the same day opposing the CFTC. Over the next several months they successfully blocked the CFTC from regulating OTC derivatives, convincing Congress to stop the CFTC from moving forward, a position that was enshrined in statute in the Commodity Futures Modernization Act of 2000.

Now that it is widely recognized that OTC derivatives needed to be regulated, this has been an uncomfortable bit of history for Summers et al. The current defense was put forward by an unnamed person and by DeLong:

One person close to the process described it this way: “The concern with Born’s concept release back then was that CFTC jurisdiction rested on the contracts being futures contracts, and if they were futures contracts, they had to be exchange traded, and existing hedging contracts were not exchange traded (at the time they basically couldn’t be), so there was a concern that the existing contracts would be void (illegal).” . . . Cal Berkeley professor J. Bradford DeLong, who has authored papers with Summers, Tweeted last night: “‘Brooksley Born approach’ made all existing derivatives contracts unenforceable. Very bad idea.”

There are several problems with this defense.

First, this argument targets one possible outcome of Born’s process, not the process itself—which is what Summers et al. shut down. The purpose of the concept release was ”to solicit comments on whether the regulatory structure applicable to OTC derivatives under the Commission’s regulations should be modified in any way . . . and to generate information and data to assist the Commission in assessing this issue.” Born wanted to discuss the issue. Yet her opponents then—and now—jumped to the “worst” possible outcome (for them, or rather for certain market participants) and equated that with what Born was doing.

Second, that isn’t how the law works. It was recognized at the time that OTC derivatives were in a legal gray area—hence the desire for “certainty” that was finally satisfied by the CFMA. If some activity is in a legal gray area, and you do it anyway, you can’t simply assert that now the activity must be allowed by law because you are doing it. If the contracts you wrote, knowing they might not be enforceable, now become definitively unenforceable—well, tough luck. You can’t dictate what the law is simply through your own actions.

Third, the argument proves too much. Again, Born was proposing to think about about whether and how OTC derivatives should be regulated. If that is a “very bad idea,” then, by implication, OTC derivatives can never be regulated—because you have to think about regulating something before you can regulate it. Is that really a position that Summers and DeLong want to defend?

Fourth, if the problem is existing contracts, then there’s an obvious solution: grandfather them. In fact, the concept release included this language:

“This release does not in any way alter the current status of any instrument or transaction under the CEA. All currently applicable exemptions, interpretations, and policy statements issued by the Commission regarding OTC derivatives products remain in effect, and market participants may continue to rely upon them.”

It is true that that language applied to the release itself, not necessarily to any regulations that might have been issued later. But those regulations would have to go through the usual notice-and-comment process, and the other regulatory agencies would obviously be at the table. If Summers’s real concern was past contracts, then that’s something he could have negotiated with Born.* (And if she refused, then he could have gone to Congress, or to the courts.) That concern doesn’t justify what happened.

Summers would be better off—at least as far as this Fed chair thing is concerned—simply admitting he was wrong, rather than trying to win a fifteen-year-old argument. At the end of the day, however, the whole Brooksley Born affair is a bit beside the point—if the question is trying to understand Larry Summers. The Summers camp thinks they can justify his anti-regulatory stance during the Clinton years by making Born look like an extremist; by implication, he was just a moderate.

But the Born affair (and, or course, the great “thirteen bankers” quote) is just one piece of evidence. We know that Summers opposed derivatives regulation. The report of the President’s Working Group on Financial Markets with his name on it unanimously recommended providing “legal certainty” by definitively exempting derivatives from the Commodity Exchange Act. He was secretary of the treasury when the CFMA was passed. Robert Rubin said in his 2003 memoir (before he had anything to be embarrassed about), “Larry characterized my concerns about derivatives as a preference for playing tennis with wooden racquets–as opposed to the more powerful graphite and titanium ones used today.” (Rubin now claims that he was in favor of derivatives regulation, although he didn’t do anything about it.)

And it isn’t as if Summers had some other, better proposal to regulate OTC derivatives. He was against it. That’s the issue—not whether the legal status of derivatives contracts under the CEA somehow changed because of a concept release issued by the CFTC.

* This is what Levitt now says he wishes he had done.

31 Responses to The Lame “Uncertainty” Defense
Brad DeLong | August 5, 2013 at 9:15 am |


Anon | August 5, 2013 at 1:03 pm |

A little problem with your (and DeLong’s facts). In 1992 — for the purpose of dealing with financial derivatives, that fell under the Commodity Exchange Act’s definition of futures — the CFTC was given the legal authority to exempt certain contracts from regulation — and under Wendy Gramm promptly exempted the derivatives in question. There was no legal question as to whether these contracts fell under the jurisdiction of the CFTC. The only question was whether the CFTC would continue to exempt them entirely from regulation.

The statement “It was recognized at the time that OTC derivatives were in a legal gray area” is simply false.

[See comments here,
"I don't actually think the financial industry was seriously disputing the CFTC's legal authority to regulate swaps. Rubin claimed that was his objection, and so did some people in the industry, but in reality they all knew that it wasn't a serious objection. (All the NY law firms, including mine, told them that the CFTC was well-within its jurisdiction.) It's kind of pathetic that Rubin claimed to be relying on a memo by Treasury lawyers that apparently never existed."]

The uncertainty you reference is a myth created by by opponents of derivatives regulation. The fact that such a myth is cited as fact by educated people such as yourself and Prof. DeLong, who can be cited as experts by people who want to disseminate disinformation, is one of the reasons our financial system is in such bad shape.

Patrick R. Sullivan | August 5, 2013 at 1:05 pm |

Oh, c’mon Brad, don’t be a wimp. Kwak is misrepresenting what happened back in 1999.

Born was engaged in a power grab regarding foreign currency futures, and to a lesser degree interest rate swaps. Credit default swaps–the ogre, supposedly, in this financial crisis–aren’t even mentioned in the ‘Working Group’ paper linked to above.

Nor was it a case of the OTC market being ‘unregulated’, just by whom;

‘A criticism of OTC derivatives is that they can be used as a means to circumvent regulation. For example, institutional investors may be prohibited from investing in certain types of financial instruments but may be able to assume a nearly identical economic position by entering into a derivatives transaction. The Working Group is aware that the derivatives industry has been quite creative in tailoring particular products to achieve certain regulatory results that were not originally intended. As difficult as the task may be, the Working Group nonetheless believes that in most instances such “regulatory arbitrage” issues should be addressed by amending the underlying statutes and regulations that most closely pertain to the regulatory goal to be achieved, and should not be used as a basis for the imposition of an unwarranted regulatory regime on derivatives. For example, judgments about the authority of pension funds or state and local governments to enter into certain derivatives transactions should be made through the laws that directly govern such entities.’

The SEC and banking regulators make more sense here than an agency that was specifically set up to regulate soy beans and pork bellies, no?

Patrick R. Sullivan | August 5, 2013 at 1:19 pm |

Anon, did you bother to read the Working Group paper?

‘A cloud of legal uncertainty has hung over the OTC derivatives markets in the United States in recent years, which, if not addressed, could discourage innovation and growth of these important markets and damage U.S. leadership in these arenas by driving transactions off-shore.
Recognizing the important role that derivatives play in our financial markets, and the dangers of continued legal uncertainty, the Working Group has spent the past six months focusing on OTC derivatives and examining the existing regulatory framework, recent innovations, and the potential for future development. At the request of Congress and the Chairmen of the Senate and House Agriculture Committees, we have prepared the attached report, which reflects the consensus we have reached on a set of unanimous recommendations.’

Note that, ‘At the request of Congress….’ The paper is quite specific as to what those uncertainties were.

Anon | August 5, 2013 at 1:50 pm |

As Econ of Contempt, a long-term securities lawyer, indicates in his comment, such claims, asserted by proponents of financial deregulation, were “based on a memo by Treasury lawyers that apparently never existed”.

Given Econ of Contempt’s comments, apparently what was going on in the Working Paper report is a complete revision of a well-understood aspect of the law — for the purposes of promoting financial deregulation. Remember that every law is completely uncertain if you are allowed to start parsing the meaning of each word in the law anew, as if there were no existing body of interpretation.

Anon | August 5, 2013 at 5:43 pm |

In Brooksley Born’s own words:

“I was told by the secretary of the treasury that the CFTC had no jurisdiction, and for that reason and that reason alone, we should not go forward,” Born says. “I told him . . . that I had never heard anyone assert that we didn’t have statutory jurisdiction . . . and I would be happy to see the legal analysis he was basing his position on.”

She says she was never supplied one. “They didn’t have one because it was not a legitimate legal position,” she says.

It’s interesting that no one who signed the Working Group paper that advocated for the CFMA had any legal training.

Patrick R. Sullivan | August 5, 2013 at 6:13 pm |

You’re citing an article from 2009; aka, hindsight. I’m asking for any reference by her to CDS BEFORE the 2008 financial crisis.

Patrick R. Sullivan | August 5, 2013 at 6:19 pm |

From the CFTC’s own website;

‘February 25, 1997–In Dunn v. CFTC, the U.S. Supreme Court rules that foreign currency options are ”transactions in foreign currency” for purposes of the Treasury Amendment exclusion to the Commodity Exchange Act, and, thus, that the CFTC has no jurisdiction over such transactions.’

Moses Herzog | August 5, 2013 at 6:25 pm |

It is very ironic to me that although I often disagree, and vehemently disagree, with many of “EconomicsOfContempt” blogger’s opinions and statements, it seems to me that of all the people above (including host James Kwak, whom I usually agree with about 75%+ of the time), it is “EconomicsOfContempt” who is the only one who seems to accurately remember history on this particular topic.

And please believe me, it really kills me to admit “EconomicsOfContempt” blogger is right about anything……

After Rubin, Greenspan, and Levitt threatened to beat her up after school if Brooksley dared to perform her job, and grab a year’s worth of Brooksley’s school lunch money if she meekly mumbled the words “swaps/derivatives regulation” in a public forum, Levitt is the only one of the 3 BULLIES of Brooksley Born, who was willing to say 3 words after 2008 made it abundantly clear: “I was wrong”. No “easy feat” for your prototypical super-arrogant J-E-W (take Larry Summers as the baseline example).

Moses Herzog | August 5, 2013 at 6:59 pm |

Excuse me, I should have said “the 4 BULLIES of Brooksley Born”. I’ve been trying sooooooo hard to forget the supreme A-S-S HAT named Larry Summers, I nearly forgot for the time it took to post a comment.

Anon | August 5, 2013 at 8:25 pm |

Most interesting. The DeLong tweet was debunked in real time by @dsquareddigest, and retweeted by DeLong.

Dan Davies ‏@dsquareddigest 31 Jul
@delong that was total industry bullshit propaganda about the 98 concept release – if LS believed it at the time that’s a real problem

Bruce E. Woych | August 5, 2013 at 9:20 pm |
Larry Summers Defended Enron…
Larry Summers Is Also Lousy At Crisis Management…
The Economy Is Awful and Larry Summers Should Not Be Fed Chair.
Derivatives and Steroids: Larry Summers Merits Same Fate as A-Roid
Summers’ View on Monetary Policy Not So Hidden…
Larry Summers Is An Unrepentant Bully…
Obama Defends Larry Summers, Disses HuffPost In Capitol Hill Meeting

Bruce E. Woych | August 5, 2013 at 9:32 pm |

Uploaded on Oct 17, 2009
Watch the full-length episode at FRONTLINE | “The Warning” | PBS

Dryly 41 | August 5, 2013 at 9:41 pm |

I read all these comments but I still can’t see the social utility of these financial innovations. Do they contribute to productive economic growth? Or are they just gambling inside a bank? Could someone address these issues?

Bruce E. Woych | August 5, 2013 at 9:58 pm |

Anon (above) Great link & very pertinent material @ but the very first comment stands out: [quoted]

Anonymous said…[to the Author]

“You’re a lawyer. Presumably you understand that the issue Born was raising with that Concept Release was the CFTC’s obligation under the law to reconsider its 1993 exemption of swaps contracts from regulation given the huge growth in the industry. The financial industry was objecting to the fact under the pre CFMA Commodities Exchange Act that the CFTC had clear legal authority to regulate swaps as it saw fit.

For more info on this you should read Born’s 1998 Congressional testimony:
and the recent Stanford profile where Born comments on the debacle:

The saddest thing about this story is that Born was a regulator who was serious about doing her job well — and the Concept Release is clear evidence of this. What regulations she would have proposed are unknowable — because she was prevented from doing the preliminary study that would have allowed her to design suitable regulations!”
[In reply the Author concedes]…
Economics of Contempt said…

“You’re right, and I meant to address that in my post, but I somehow forgot.”
There seems to be a good deal of “forgetting” and re-shaping going on here. And I would laugh if it didn’t make me sick to my stomach hearing Brooksley Born now accused of some simplistic revisionist “power grab” for standing firm against the insider power structure that existed at that time and for the most part in new snakeskin… to this day.

Bruce E. Woych | August 5, 2013 at 10:08 pm |

@Dryly 41 (hope this helps…from the Real News Network)
Quadrillion Dollar Derivatives Market 20 Times Global GDP

Bruce E. Woych | August 5, 2013 at 10:10 pm |

Derivative Meltdown and Dollar Collapse

Bruce E. Woych | August 6, 2013 at 11:21 am |

Credit Derivatives: A Quick Chronological History

Annie | August 6, 2013 at 2:03 pm |

@Paddy, is that the *event* you’re talking about?

“….when the crisis hit that collateral wasn’t sufficient, and AIG wasn’t liquid….”

Right, just when it went to “liquid”, literally, that it became illiquid.

Seriously, what the hell kind of excuse is that to give for the first major city to bite the dust from climate change – that it’s just a blip on your financial screen full of algorithms?

Does the word “delusional” even exist in your constant reconfiguration of the same 50 words to mean something different every time they’re used?

Throw it in there – see what happens to the virtual control of conversation…

Just up for grabs in a way you’ll never catch on to, Paddy….anyone can win.

But if you want some woman to football around, psychologically, why not the Governor of Louisiana at the time Katrina hit. She was so sincerely dumb when presuming on the protection of God without doing anything smart like “…get out and into higher ground…” that it seemed smart at the time.

Not fair what you are doing to Born and even worse, you are doing it using omission of the facts in the timeline.

Don’t matter who got a piece of you, CIA, DEA, IRS, FBI, and on and on in the perpetual war machine, you go back to lay a trap for a different game. One in which they are the prey. Really sick sht out there, man. Zombies…

Blood lust for money – where do we go – in the MILLIONS – to get away from their reach? That’s what everyone is asking….this is epic in it’s re-arrangements of of tribes down the timeline to the “Now” we all have a piece of that molecule of time in this planet space…by the time you own it all, the way you got it all will destroy it all.

Go figure….

Bruce E. Woych | August 6, 2013 at 4:09 pm |
Arnold & Porter LLP
Brooksley Born is a retired partner of the firm, which she joined as an associate in 1965. She was the head of the firm’s derivatives practice and represented domestic and international clients in legislative, litigation, regulatory, and transactional matters involving derivatives transactions and financial markets. Ms. Born also specialized in complex civil litigation and arbitration. She served on the firm’s Policy Committee and chaired its Pro Bono Committee and Associates Evaluation Committee.

From 1996 to 1999 she was chair of the US Commodity Futures Trading Commission (CFTC), the federal government agency that oversees the futures and commodity option markets and futures professionals.

Dryly 41 | August 6, 2013 at 5:31 pm |

Perhaps Paddy would favor us with a recitation of the social utility of those wonderful financial innovations developed since the 1990′s, and enlighten us as to the role they played in causing the financial system to collapse after September 15, 2008 for the first time since October 1929 in the administration of Herbert Hoover. There was 25 per cent unemployment, one-third of the nation ill-housed, ill-clothed and ill-fed, soup lines, bread lines, Hoovervilles and brother can you spare a dime. Perhaps Paddy could tell us how we had a safe and sound financial system for over six decades until we deregulated and reverted to Harding, Coolidge and Hoover. Please, please tell us.

Bruce E. Woych | August 6, 2013 at 5:45 pm |

The Untold Story: Brooksley Born, Larry Summers & the Truth …
Oct 5, 2012 … Larry Summers is attempting to re-write history at the expense of … and they might just find one critical point revealed in Mr. Cohan’s article.

“As the western world wakes to the fact it is in the middle of a debt crisis spiral, intelligent voices are wondering how this manifested itself? As we speak, those close to the situation could be engaging in historical revisionism to obfuscate their role in the design of faulty leverage structures that were identified in the derivatives markets in 1998 and 2008. These same design flaws, first identified in 1998, are persistent today and could become graphically evident in the very near future under the weight of a European debt crisis.

Author and Bloomberg columnist William Cohan chronicles the fascinating start of this historic leverage implosion in his recent article Rethinking Robert Rubin. Readers may recall it was Mr. Cohan who, in 2004, noted leverage issues that ultimately imploded in 2007-08.

At some point, market watchers will realize the debt crisis story will literally change the world. They will look to the root cause of the problem, and they might just find one critical point revealed in Mr. Cohan’s article.

This point occurs in 1998 when then Commodity Futures Trading Commission (CFTC) ChairwomanBrooksley Born identified what now might be recognized as core design flaws in leverage structure used in Over the Counter (OTC) transactions. Ms. Born brought her concerns public, by first asking just to study the issue, as appropriate action was not being taken. She issued a concept release paper that simply asked for more information. “The Commission is not entering into this process with preconceived results in mind,” the document reads.

Ms. Born later noted in, the PBS Frontline documentary on the topic speculation at the CFTC was the unregulated OTC derivatives were opaque, the risk to the global economy could not be determined and the risk was potentially catastrophic. As a result of this inquiry, Ms. Born was ultimately forced from office.

This brings us to Lawrence Summers, the former Treasury Secretary of the United States and at the time right hand man to then Treasury Security Robert Rubin. Mr. Summers was widely credited with implementation of the aggressive tactics used to remove Ms. Born from her office, tactics that multiple sources describe as showing an old world bias against women piercing the glass ceiling.

According to numerous published reports, Mr. Summers was involved in. silencing those who questioned the opaque derivative product’s design. “

Bruce E. Woych | August 6, 2013 at 6:08 pm |

” …A POWER GRAB? ” ARE YOU ON Summers’ PAYROLE? This is what Summers attempted to initiate against Brooksley Born to cover his tracks just last year! Are you working his talking points?
[Quoted Excerpt]
“Here some neutral opinion from the article above that may address the questions you raised above:
Mr. Summers comments in the William Cohen article are not only re-writing history to cover their tracks if the leverage implosion does occur, but they are trying to damage the reputation of a female pioneer whose only offense was pointing out appropriate issues with fundamental leverage issues that will likely impact all.

Was this the First Warning Mr. Summers Ignored?

In addition to time spent fighting Ms. Born over transparency and risk management issues unregulated derivatives, Mr. Summers was also influential in the operation of the Harvard University pension fund. Sources deep in the derivative industry say that Mr. Summers was given a warning about the Collateralized Default Swaps (CDS) in which Harvard had invested. The CDSs were a structurally different product than what Ms Born warned against, but again carried many of the same fundamental derivative design flaws.”

“This is the guy [Summers] that lost something like 20-30% of the Harvard endowment fund investing in CDOs–the very crap that Born would have been ‘regulating.’ Iris [Mack] warned Summers of this and she was summarily fired.”

Please read the real history…and the entire article and stop acting out like an Irish Troll ! 

The Woman Greenspan, Rubin & Summers Silenced by Katrina vanden Heuvel

October 9, 2008 |

Selected comments

frosty zoom

There was one dissenting voice. Brooksley Born, a Clinton appointee who became the head of the CFTC in 1996, refused to accept the industry's stance. "In late 1997 and early 1998, she said the emperor has no clothes," says Greenberger. "She said that derivatives are futures contracts and that the CFTC had jurisdiction."

On May 7, in a 62-page report, the CFTC announced that changes in the derivatives market "require the commission to review its regulations." Born called for public comment and hearings.

But Enron refused to buckle. Protests from Wall Street's major players drew more attention than Enron's opposition, but a July 4, 1998, Washington Post article revealed that Enron was forging ahead at that very moment in an attempt to create an entirely new market for "weather derivatives" -- in which contracts on energy supplies would be dependent on bets as to whether the weather was hot or cold. Such contracts would be exactly the kind of new product that CFTC regulators would likely examine.

A handful of legislators, including Sen. Phil Gramm, R-Texas, kept the forces of regulation at bay. For Gramm, derivatives deregulation was a family affair: His wife, Wendy Gramm, chairwoman of the CFTC from February 1988 to January 1993, had earlier shepherded through the exemption that (in April 1993) let Enron trade energy derivatives without federal oversight. (A few months after passage of the exemption, she quit the CFTC and took a seat on Enron's board of directors.) Enron also found a set of allies in the U.S. Treasury Department, the Federal Reserve and the SEC. All three agencies, though headed by Born's fellow Clinton appointees, scorned the new CFTC proposal. They even issued a rare joint statement declaring that "we have grave concerns about this action and its possible consequences. We seriously question the scope of the CFTC's jurisdiction in this area."

But despite the link between LTCM and derivatives, calls for regulation fell on deaf ears. After organizing a bailout of LTCM, Fed chairman Alan Greenspan -- along with SEC chairman Arthur Levitt; William J. Rainer, Born's replacement at the CFTC; and Lawrence Summers, secretary of the treasury -- penned a 42-page report that favored less, rather than more regulation.

Congress followed suit, passing the Commodity Futures Modernization Act in December 2000.

"The CFMA made it clear that this kind of trading would be exempted," Greenberger says. "Only a handful of congressmen and senators probably realized that they were enacting this deregulatory provision."

Brooksley Born "had it just right," and should be considered a hero, adds Martin Mayer, a finance expert and author of more than a dozen books on the U.S. banking system. "The whole political establishment, from Rubin and Greenspan and Levitt and Phil Gramm, turned on her."

And Enron forged on, stepping up its involvement in derivatives markets dramatically. The company's spokespeople failed to return calls for comment; Born also refused to comment because her law firm now represents several Enron creditors. But observers argue that the CFMA essentially let Enron move forward with its plan to aggressively court derivatives buyers and sellers.

By the end of 2000, a year after the launch of Enron's Web-based trading site EnronOnline, the company's derivatives business had more than quintupled in a single year. Assets increased from $2.2 billion to $12 billion; derivative-related liabilities increased from $1.8 billion to $10.5 billion.

Posted by frosty zoom at 10/09/2008 @ 11:59pm

April 2009 > Features > Brooksley Born

Prophet and Loss

Brooksley Born warned that unchecked trading in the credit market could lead to disaster, but power brokers in Washington ignored her. Now we're all paying the price.


Shortly after she was named to head the Commodity Futures Trading Commission in 1996, Brooksley E. Born was invited to lunch by Federal Reserve chairman Alan Greenspan.

The influential Greenspan was an ardent proponent of unfettered markets. Born was a powerful Washington lawyer with a track record for activist causes. Over lunch, in his private dining room at the stately headquarters of the Fed in Washington, Greenspan probed their differences.

“Well, Brooksley, I guess you and I will never agree about fraud,” Born, in a recent interview, remembers Greenspan saying.

“What is there not to agree on?” Born says she replied.

“Well, you probably will always believe there should be laws against fraud, and I don’t think there is any need for a law against fraud,” she recalls. Greenspan, Born says, believed the market would take care of itself.

For the incoming regulator, the meeting was a wake-up call. “That underscored to me how absolutist Alan was in his opposition to any regulation,” she said in the interview.

Over the next three years, Born, ’61, JD ’64, would learn first-hand the potency of those absolutist views, confronting Greenspan and other powerful figures in the capital over how to regulate Wall Street.

More recently, as analysts sort out the origins of what has become the worst financial crisis since the Great Depression, Born has emerged as a sort of modern-day Cassandra. Some people believe the debacle could have been averted or muted had Greenspan and others followed her advice.

As chairperson of the CFTC, Born advocated reining in the huge and growing market for financial derivatives. Derivatives get their name because the value is derived from fluctuations in, for example, interest rates or foreign exchange. They started out as ways for big corporations and banks to manage their risk across a range of investments. One type of derivative—known as a credit-default swap—has been a key contributor to the economy’s recent unraveling.

FRONT AND CENTER: Born became the first woman at Stanford Law School to be president of the Law Review. In this 1964 photo, she is pictured with senior editors and classmates (back row, from left) Bruce Gitelson, Robert Johnson and Paul Ulrich, and (front row) Richard Roth and James Gaither.


The swaps were sold as a kind of insurance—the insured paid a “premium” as protection in case the creditor defaulted on the loan, and the insurer agreed to cover the losses in exchange for that premium. The credit-default swap market—estimated at more than $45 trillion—helped fuel the mortgage boom, allowing lenders to spread their risk further and further, thus generating more and more loans. But because the swaps are not regulated, no one ensured that the parties were able to pay what they promised. When housing prices crashed, the loans also went south, and the massive debt obligations in the derivatives contracts wiped out banks unable to cover them.

Back in the 1990s, however, Born’s proposal stirred an almost visceral response from other regulators in the Clinton administration, as well as members of Congress and lobbyists. The economy was sailing along, and the growth of derivatives was considered a sign of American innovation and a symbol of the virtues of deregulation. The instruments were also a growing cash cow for the Wall Street firms that peddled them to eager takers.

Ultimately, Greenspan and the other regulators foiled Born’s efforts, and Congress took the extraordinary step of enacting legislation that prohibited her agency from taking any action. Born left government and returned to her private law practice in Washington.

‘History already has shown that Greenspan was wrong about virtually everything, and Brooksley was right. If there is one person we should have listened to, it was Brooksley.’

“History already has shown that Greenspan was wrong about virtually everything, and Brooksley was right,” says Frank Partnoy, a former Wall Street investment banker who is now a professor at the University of San Diego law school. “I think she has been entirely vindicated. . . . If there is one person we should have listened to, it was Brooksley.”

Speaking out for the first time, Born says she takes no pleasure from the turn of events. She says she was just doing her job based on the evidence in front of her. Looking back, she laments what she says was the outsized influence of Wall Street lobbyists on the process, and the refusal of her fellow regulators, especially Greenspan, to discuss even modest reforms. “Recognizing the dangers . . . was not rocket science, but it was contrary to the conventional wisdom and certainly contrary to the economic interests of Wall Street at the moment,” she says.

“I certainly am not pleased with the results,” she adds. “I think the market grew so enormously, with so little oversight and regulation, that it made the financial crisis much deeper and more pervasive than it otherwise would have been.”

Greenspan, who retired from the Fed in 2006, acknowledged in congressional testimony last October that the financial crisis, which he described as a “once in-a-century credit tsunami,” had exposed a “flaw” in his market-based ideology.

He says Born’s characterization of the lunch conversation she recounted does not accurately describe his position on addressing fraud. “This alleged conversation is wholly at variance with my decades-long held view,” he said in an e-mail, citing an excerpt from his 2007 book The Age of Turbulence, in which he wrote that more government involvement was needed to root out fraud. Born stands by her story.

Robert Rubin, who was treasury secretary when Born headed the CFTC, has said that he supported closer scrutiny of financial derivatives but did not believe it politically feasible at the time.

A third regulator opposing Born, Arthur Levitt, who was chairman of the Securities Exchange Commission, says he also now wishes more had been done. “I think it is fair to say that regulators should have considered the implications . . . of the exploding derivatives market,” Levitt told STANFORD.

In a way, the battle had the look and feel of a classic Washington turf war.

The CFTC was created in the ’70s to regulate agricultural commodities markets. By the ’90s, its main business had become overseeing financial products such as stock index futures and currency options, but some in Washington thought it should stick to pork bellies and soybeans. Born’s push for regulation posed a threat to the authority of more established cops on the beat.

“She certainly was not in their league in terms of prominence and stature,” says a lawyer who has known Born for years and requested anonymity to avoid appearing critical of her. “They probably thought, ‘Here is a little person from one of these agencies trying to assertively expand her jurisdiction.’”

Some of the other regulators have said they had problems with Born’s personal style and found her hard to work with. “I thought it was counterproductive. If you want to move forward . . . you engage with parties in a constructive way,” Rubin told the Washington Post. “My recollection was . . . this was done in a more strident way.” Levitt says Born was “characterized as being abrasive.”

Her supporters, while acknowledging that Born can be uncompromising when she believes she is right, say those are excuses of people who simply did not want to hear what she had to say.

“She was serious, professional, and she held her ground against those who were not sympathetic to her position,” says Michael Greenberger, a Washington lawyer who was a top aide to Born at the CFTC. “I don’t think that the failure to be ‘charming’ should be translated into a depiction of stridency.”

Others find a whiff of sexism in the pushback. “The messenger wore a skirt,” says Marna Tucker, a Washington lawyer and a longtime friend of Born. “Could Alan Greenspan take that?”

Greenspan dismisses the notion that he had problems with Born because she is a woman. He points out that when he took a leave from his consulting firm in the 1970s to accept a job in the Ford administration, he placed an all-female executive team in charge.

It was not the first time that Born, 68, had pushed back against convention.

Her doggedness over a career spanning more than 40 years propelled her into the halls of power in Washington. She was a top commercial lawyer at a major firm, as well as a towering figure in the area of women’s rights, and a role model for women lawyers. She was on Bill Clinton’s short list for attorney general.

One of seven women in the Class of 1964 at Stanford Law School, she graduated at the top of her class, and was elected president of the law review, the first woman to hold either distinction. She is credited with being the first woman to edit a major American law review.

In the early 1970s, at a time when women had few role models at major law firms, she became a partner at the Washington, D.C., firm of Arnold & Porter, despite working part time while raising her children.

She helped establish some of the first public-interest firms in the country focused on issues of gender discrimination. She helped rewrite American Bar Association rules that made it possible for more women and minorities to sit on the federal bench, and she prodded the group into taking stands against private clubs that discriminated against women or blacks.

She was used to people trying to push her around, or being perceived as a potential troublemaker. She remembers being shouted down during an ABA meeting in the 1970s when she proposed that the organization take a position supporting equal rights for gay and lesbian workers. A former ABA president stood up and said, “that the subject was so unsavory that it should not be discussed . . . and was not germane to the purposes of the ABA,” she recalls. She lost that fight, although the group reversed its stand years later.

“She looks at things not just from a technical perspective or the perspective of an insider. She looks at the perspective of outsiders and how people without power are going to be affected,” says Esther Lardent, a Washington lawyer who worked with Born on various ABA matters. “That is a theme constantly running through her life and career.”

“She is a very polite and low-key person but she is never somebody who steps back from a disagreement or a fight if it is a matter of importance to her,” Lardent adds. “Did that make people uncomfortable? Did that make the men who dominated the leadership fail to take her seriously enough? I am sure that was the case.”

SHE WAS BORN in San Francisco. Her mother, an English teacher, and her father, the head of the city’s public welfare department, were both Stanford graduates.

An early mentor was her mother’s best friend from Stanford, Miriam E. Wolff, JD ’40, who became a deputy state attorney general and judge and the first woman to ever head a major port.

Born entered Stanford with the thought of being a doctor, but switched majors after a career counselor interpreted her answers on a series of vocational tests. In those days, women were assessed for their interest in nursing or teaching, men for the professional jobs, including law and medicine. The tests were even color coded—pink for women, blue for men.

Born says she insisted on taking both. Her mother, who had a master’s degree in psychology, felt that was the only way her daughter’s professional interests could be evaluated properly.

She scored high on being a doctor—and low on being a nurse. But rather than suggest she pursue a career as a physician, the counselor said the test proved that her interest in medicine was not genuine and that she was really only interested in making a lot of money. Born quit premed and majored in English.

“It was a turning point. What can I say? I was 18 years old. I didn’t know any better,” Born says. “Unfortunately, I was, you know, a member of the society as it was then. I was hurt by the advice, and kind of believed in it. I don’t believe in it now. It is ridiculous in retrospect.”

A decade later, one of the public-interest firms she founded challenged the tests as discriminatory.


Law school was welcoming and intellectually stimulating, even if some people were still getting used to the idea of having women around. Male law students got their own dormitory; women were left to make their own housing arrangements in off-campus boarding houses or apartments. “I also had . . . one student in my class tell me I was taking the place of a man who had to go to Vietnam and was risking his life because of me, which was sobering to say the least,” she recalls.

Making a mark in the classroom could also be a challenge. Some professors refused to call on women, thinking it rude or unbecoming. She remembers an episode in her first year when her professor appeared to have the class stumped after quizzing several men about a problem. “The little girl has it!” she recalls the professor declaring, after she blurted out the right answer.

“I was very worried that I would not do well and that I would disgrace myself, and women,” Born says. “I worked very hard during my first year because I was afraid I would flunk out.” In those Darwinian times in law schools, that was not an idle concern: professors tried to weed out all but the most qualified students, and about a third were dismissed from school after the first year. That would not be her fate.

“She was off the charts,” says Pamela Ann Rymer, JD ’64, a judge on the federal appeals court in Pasadena. “Brooksley never wore it on her sleeve. She is not quiet, but she is a very unpretentious kind of person, just plainly and obviously with a brilliant mind.”

Despite her grades, Born was passed over for a clerkship on the U.S. Supreme Court, the most coveted opportunity for a young lawyer. Stanford’s top students were good candidates for the clerkships, but a faculty committee decided to recommend two men for the positions even though Born had a superior academic record. It was a bitter introduction to a gender-biased legal culture. “They were sure I would understand that it would be unseemly for women to be clerks on the Supreme Court,” she says of the committee members. “I felt very disappointed and angry.”

Undaunted, she headed to Washington, and arranged an interview on her own with Arthur Goldberg, then one of the most liberal members of the high court. Goldberg would not hire her either but recommended her to a judge on the federal appeals court in Washington. Henry Edgerton, who wrote an opinion that became a basis for the landmark Supreme Court decision in the Brown v. Board of Education school desegregation case, gave her a clerkship. (Law school professor emerita Barbara Babcock also clerked for Edgerton.)

A year later, taken with the Washington scene and its place on the front lines of the civil rights movement, Born scrapped plans to return to San Francisco. “I wanted in,” she says. Arnold & Porter, a firm with a liberal tradition of public service, offered her a job, and she started work the same day that a former name partner of the firm, Abe Fortas, was sworn in as a justice of the Supreme Court.

The firm was one of a few that were beginning to hire women and treat them on par with men. But there were challenges, especially for those interested in a career and a family. Many firms up to that point refused to hire women who were married or who were interested in children.

The lone woman partner at Arnold & Porter at the time was married to Fortas and was renowned for her “misanthropic toughness,” including a preference for “thick cigars,” according to Charles Halpern, an associate with Born at the firm in the 1960s. “Our swimming pool has two deep ends,” Halpern recalls her once saying, “so that people aren’t tempted to drop by with their small children for a swim on a hot summer day.”

Born soon faced a difficult choice. She took a one-year leave when her then-husband got a Nieman fellowship at Harvard, where her first child was born. Returning to Washington, she tried to juggle full-time work and child rearing but it quickly became apparent that the arrangement didn’t work.

“I went to the partner I was working with the most and said I just didn’t think I could do this,” she says. “I thought I had to resign.” To her surprise, the partner suggested she work three days a week with the understanding she would not be considered for partner until she returned full time.

In 1974, when she had a 4-year-old and a 2-year-old, she was still working part time. The firm promoted her anyway. The family-friendly development was a stunning breakthrough at a time when law firms were focused on billable hours and the bottom line, and little else. It further raised her profile.

“When I met her I was in awe of her because the idea that she could be a partner in that firm was just unbelievable,” says Tucker, her longtime friend. The women bonded after being asked to teach a course on women and the law at two Washington-area law schools, and being horrified at what they found during their research. “We were surprised to find the degree to which discrimination was embodied in the law,” Born says. “It was a real consciousness-raising experience.”

Lawyer Marcia Greenberger sought out Born in the 1970s when she was named to start a new women’s rights project in Washington. Born agreed to chair an advisory board for the project, and became a guiding force, mentor and opener of doors, leveraging her contacts and credibility, Greenberger says. One of the first broad-based challenges to how universities were implementing Title IX—the 1972 law requiring equal programs and activities for women and men—was brought after Born passed along the name of a colleague who was incensed at the poor athletic facilities his daughter was forced to use at her school. Born also helped win Ford Foundation grants that enabled the project to hire its second lawyer. What is now called the National Women’s Law Center today has a staff approaching 60 and a budget of almost $10 million. Born remains chair of its board of directors.

Clinton named her to head the CFTC in 1996. She was not without experience: at Arnold & Porter she had represented the London Futures Exchange in rule making and other matters before the commodities agency.

She also knew how markets could be manipulated, having represented a major Swiss bank in litigation stemming from an attempt by the Hunt family of Dallas to corner the silver market in the 1980s.

“Brooksley had the advantage of knowing the law and understanding the fragility of the system if it weren’t regulated,” says Michael Greenberger, her former adviser at the CFTC. “She could see that the data points, by lack of regulation, were heading the country into a serious set of calamities, each calamity worse than the one before.”

Under a Republican predecessor, the CFTC had in 1993 largely exempted from regulation more exotic derivatives that involved just two parties. The thinking was that sophisticated entities negotiating individually tailored derivatives could look out for themselves. More generic derivatives still had to be traded on exchanges, which were subject to regulation.

By 1997, the over-the-counter derivatives market had more than doubled in size, by one measure, reaching an estimated $28 trillion, based on the value of the instruments underlying the contracts. (It has now reached an estimated $600 trillion.)

And some cracks were already surfacing in the landscape. Several customers of Bankers Trust, including Procter & Gamble, sued for fraud and racketeering in connection with several OTC derivative deals. Orange County, Calif., had gone bankrupt in part because of an OTC derivative-trading scheme gone awry.

What is more, all the growth had taken place at a time of economic prosperity. Some people were beginning to ask what would happen if the market suffered a major reversal.

“The exposures were very, very big and if it was your job to worry about things that could go wrong, and I think it was, this is one of the things you couldn’t help but notice,” says Daniel Waldman, a Washington lawyer who was the CFTC general counsel under Born. “It was only your blind faith in the participants that could give you much comfort because you really did not know much about the real risks.”

‘There was no transparency of these markets at all. No market oversight. No regulator knew what was happening,” Born says. “There was no reporting to anybody.’

“There was no transparency of these markets at all. No market oversight. No regulator knew what was happening,” Born says. “There was no reporting to anybody.”

She chose what she thought was a middle ground, circulating a draft “concept release,” to regulators and trade associations, which was intended to gather information about how the markets operated. She and her staff suspected the industry was trying to exploit the earlier regulatory exemption.

But even the modest proposal got a vituperative response. The dozen or so large banks that wrote most of the OTC derivative contracts saw the move as a threat to a major profit center. Greenspan and his deregulation-minded brain trust saw no need to upset the status quo. The sheer act of contemplating regulation, they maintained, would cause widespread chaos in markets around the world.

“We would go to conferences and it would be viciously attacked,” Waldman says. “They would just be stomping their feet and pounding the tables.” With Born unlikely to change her mind, the industry focused on working through the other regulators.

Born recalls taking a phone call from Lawrence Summers, then Rubin’s top deputy at the Treasury Department, complaining about the proposal, and mentioning that he was taking heat from industry lobbyists. She was not dissuaded. “Of course, we were an independent regulatory agency,” she says.

The debate came to a head April 21, 1998. In a Treasury Department meeting of a presidential working group that included Born and the other top regulators, Greenspan and Rubin took turns attempting to change her mind. Rubin took the lead, she recalls.

“I was told by the secretary of the treasury that the CFTC had no jurisdiction, and for that reason and that reason alone, we should not go forward,” Born says. “I told him . . . that I had never heard anyone assert that we didn’t have statutory jurisdiction . . . and I would be happy to see the legal analysis he was basing his position on.”

She says she was never supplied one. “They didn’t have one because it was not a legitimate legal position,” she says.

Greenspan followed. “He maintained that merely inquiring about the field would drive important and expanding and creative financial business offshore,” she says. CFTC economists later checked for any signs of that, and came up with no evidence, Born says.

“It seemed totally inexplicable to me,” Born says of the seeming disinterest her counterparts showed in how the markets were operating. “It was as though the other financial regulators were saying, ‘We don’t want to know.’”

She formally launched the proposal on May 7, and within hours, Greenspan, Rubin and Levitt issued a joint statement condemning Born and the CFTC, expressing “grave concern about this action and its possible consequences.” They announced a plan to ask for legislation to stop the CFTC in its tracks.

At congressional hearings that summer, Greenspan and others warned of dire consequences; Born and the CFTC were cast as a loose cannon.

Reverting to a theme Born claims he raised at their earlier lunch, Greenspan testified there was no need for government oversight, because the derivatives market involved Wall Street “professionals” who could patrol themselves.

Summers, Rubin’s deputy (and now director of the National Economic Council), said the memo had “cast the shadow of regulatory uncertainty over an otherwise thriving market, raising risks for the stability and competitiveness of American derivative trading.”

Born assailed the legislation, calling it an unprecedented move to undermine the independence of a federal agency. In eerily prescient testimony, she warned of potentially disastrous and widespread consequences for the public. “Losses resulting from misuse of OTC derivatives instruments or from sales practice abuses in the OTC derivatives market can affect many Americans,” she testified that July. “Many of us have interests in the corporations, mutual funds, pension funds, insurance companies, municipalities and other entities trading in these instruments.”

That September, seemingly bolstering her case, the Federal Reserve Bank of New York was forced to organize a rescue of a large private investment firm, Long Term Capital Management, which was a big player in the OTC derivatives market. Fed officials said they acted to avoid a meltdown that could have impacted the wider economy.

But the tide of opinion that had risen up against Born was irreversible. Language was slipped into an agriculture appropriations bill barring the CFTC from taking action in the six months left in her term.

“I felt as though that, at least, relieved me and the commission of any public responsibility for what was happening,” she says. Clinton aides sounded her out about a second term, but she said she wasn’t interested and left the agency in June 1999.

A year later, Congress enacted the Commodity Futures Modernization Act, which effectively gutted the ability of the CFTC to regulate OTC derivatives. With no other agency picking up the slack, the market grew, unchecked.

Some observers say now the episode and infighting showed how even a decade ago a patchwork system of regulating Wall Street was badly in need of reform.

“The fact that the . . . issue created such a threat to the marketplace to me confirmed the fact that something was not right,” says Richard Miller, a lawyer and editor of a widely read newsletter on derivatives. “How could we have a system that hangs together by such a narrow thread?” Miller testified at the time that the idea Born proffered should at least have been considered.

The Obama administration has pledged an overhaul of the financial system, including the way derivatives are regulated. Worrisome to some observers is the fact that his economic team includes some former Treasury officials who were lined up in opposition to Born a decade ago.

Born, who retired from her law firm in 2003, is not playing a formal role in the process. An outdoor enthusiast, she was planning a trip to Antarctica this winter, as the Obama team was settling in. “The important thing,” she advises, “is that the new administration should not be listening to just one point of view.”

RICK SCHMITT, a former staff writer for the Los Angeles Times and the Wall Street Journal, is a freelance writer based in Washington, D.C.

The Woman Greenspan, Rubin & Summers Silenced

"Break the Glass" was the code-name high-level Treasury Department figures gave the $700 billion bailout; it was to be used only as a last- resort measure.

Now millions have been sprayed and damaged by broken glass.

But more than a decade ago, a woman you're likely never to have heard of, Brooksley Born, head of the Commodity Futures Trading Commission-- a federal agency that regulates options and futures trading--was the oracle whose warnings about the dangerous boom in derivatives trading just might have averted the calamitous bust now engulfing the US and global markets. Instead she was met with scorn, condescension and outright anger by former Federal Reserve Chair Alan Greenspan, former Treasury Secretary Robert Rubin and his deputy Lawrence Summers. In fact, Greenspan, the man some affectionately called "The Oracle," spent his political capital cheerleading these disastrous financial instruments.

On Thursday, the New York Times ran a masterful and revealing front page article exposing the culpability of Greenspan, Rubin and Summers for the era of dangerous turbulence we live in.

What these "three marketeers" --as they were called in a 1999 Time magazine cover story--were adept at was peddling the timebombs at the heart of this complex crisis: exotic and opaque financial instruments known as derivatives--contracts intended to hedge against risk and whose values are derived from underlying assets. To cut to the quick, Greenspan, Rubin and Summers opposed regulating them. "Proposals to bring even minimalist regulation were basically rebuffed by Greenspan and various people in the Treasury," recalls Alan Blinder, a former Federal Reserve board member and economist at Princeton University, in the Times article.

In 1997, Brooksley Born warned in congressional testimony that unregulated trading in derivatives could "threaten our regulated markets or, indeed, our economy without any federal agency knowing about it." Born called for greater transparency--disclosure of trades and reserves as a buffer against losses.

Instead of heeding this oracle's warnings, Greenspan, Rubin & Summers rushed to silence her. As the Times story reveals, Born's wise warnings "incited fierce opposition" from Greenspan and Rubin who "concluded that merely discussing new rules threatened the derivatives market." Greenspan deployed condescension and told Born she didn't know what she doing and she'd cause a financial crisis. (A senior Commission director who worked with Born suggests that Greenspan and the guys didn't like her independence. " Brooksley was this woman who was not playing tennis with these guys and not having lunch with these guys. There was a little bit of the feeling that this woman was not of Wall Street.")

In early 1998, according to the Times story, one of the guys, Larry Summers, called Born to "chastise her for taking steps he said would lead to a financial crisis. But Born kept at it, unwilling to let arrogant men undermine her good judgment. But it got tougher out there. In June 1998, Greenspan, Rubin and the then head of the SEC, Arthur Levitt, Jr., called on Congress "to prevent Ms. Born from acting until more senior regulators developed their own recommendations." (Levitt now says he regrets that decision.) Months later, the huge hedge fund Long Term Capital Management nearly collapsed--confirming some of Born's warnings. (Bets on derivatives were a key reason.)

"Despite that event," the Times reports, " Congress (apparently as a result of Greenspan & Summer's urging, influence-peddling and pressure) "froze" Born's Commissions' regulatory authority. The next year, Born left as head of the Commission.Born did not talk to the Times for their article.

What emerges is a story of reckless, willful and arrogant action and behaviour designed to undermine a wise woman's good judgment. The three marketeers' disdain for modest regulation of new and risky financial instruments reveals a faith-based fundamentalist approach to the management of markets and risk. If there is any accountability left in our system, Greenspan, Rubin and Summers should not be telling anyone how to run anything. Instead, Barack Obama might do well to bring back Brooksley Born and promote to his team economists who haven't contributed to the ugly mess we're in.

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