Wednesday, July 14, 2010

Lizzie Borden's Axe and Unintended Consequences

Today's issue of The Wall Street Journal has an informative article (free content at this writing) on the front page. The subject is the financial reform bill now before Congress and the impact it could have a group many of us don't consider when thinking about derivatives markets - farmers.
It seems that how Congress chooses to deal with derivatives could impact farmers' ability to hedge risk for their operations. Farmers use a type of derivative known as a future to help them control costs.

The article reminded me of an article I wrote for the economic education newsletter, ON RESERVE, when I was with the Chicago Fed. It was written in the mid-1990s so it is somewhat dated; but it followed on the heels of a derivative-driven problem in Orange County, CA. I began each article with a relevant quote, and part of the quote I used for that issue on derivatives said "Lizzie Borden's axe was never on trial." The point then, like now, is that the tool doesn't cause the problem. The problem arises from how people choose to use the tool.

Regardless of how Congress acts on the issue of derivatives in the financial reform bill, it needs to consider behavior - not the tool. I welcome your thoughts, as always.

1 comment:

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