Ivo Pezzuto's Presentation of Book "Predictable and Avoidable: lessons learned from the recent financial crises and how to help prevent the next one"

Dr Ivo Pezzuto
Professor of Economics, Business Policy, and International Management
i.pezzuto@gmail.com
https://www.linkedin.com/in/drpezzutoivo
https://twitter.com/IvoPezzuto
Skype: i.pezzuto
Predictable and Avoidable: lessons learned from
the recent financial crises and how to help
prevent the next one

Table of Contents
• Introduction
• Section 1: findings of the research and key lessons
learned from the crises
• Section 2: how to help prevent new systemic crises
and to create a more resilient financial system and a
new risk culture
© Copyright 2014 - Ivo Pezzuto – Predictable and Avoidable

Introduction: reasons behind the study
• To offer business students; academics; and industry
experts in the fields of finance, credit, risk management,
audit, corporate governance, economics, and regulation,
a truly independent and unbiased analysis of the
financial crises starting in 2007, and to contribute with
some original ideas and proposals to the debate about
the change needed in the banking and finance industries
and to supervisory frameworks, in order to enhance
regulatory mechanisms and to improve global financial
stability and sustainability.
• The study is the result of a two-year collaborative
research work undertaken by the author with the
precious support of prominent industry experts and
global thought leaders

Some of the organizations that have contributed
with their interviews to the study

Some of the thought Leaders
who have contributed to the book

Criteria for Selecting the Academic Thought
Leaders
• Scholars with prominent publications on risk
management, finance, economics, corporate governace,
regulation, CSR, and on the financial crises
• Seasoned academic career as full professor or
department chair
• Top ranking and/or award winning professorship in their
universities
• Willingness to openly express their opinion on the topics
of the study and independence of mind and spirit, without
the security of an anonymous interview
• Extensive industry advisory exposure and conference
lecturing

Criteria for Selecting the Industry Experts
• Seasoned “hands-on” expertise in the field of finance,
trading, economics, investment banking, risk
management, or board-level corporate governance of
financial institutions
• Willingness to openly express their opinion on the topics
of the study and independence of mind and spirit, without
the security of an anonymous interview
• Senior executive status or internationally recognized
financial and economic analysts with leading
organizations
• Speakers at international conferences on the topic of risk
management, finance, corporate governance, CRS,
financial regulation, financial crises, corporate cultures
• Authors of publications on the topics or contributor

Findings of the research and key lessons
• The root causes of the financial crisis were a
combination of multiple, complex, and highly interrelated
factors that build up over the years, which ultimately
resulted in the confidence and liquidity crisis
• Those factors, however, were originated by lax lending
standards and massive adverse selection; a badly
controlled expansion of innovative and "creative"
mortgage lending products and financial engineering
instruments/securitizations (Asset-Backed Securities -
ABS); excessive risk taking (and the transfer of risk of
the ABS to others through the sale of MBS and CDOs -
e.g. Originate-to-Distribute model);…………..

• …….a dramatic failure of financial firms’ corporate
governance, audit, risk management and regulatory
oversight; low interest rates; poorly rated assets classes
by rating agencies; conflicts of interest at all levels;
excessive and perverse executive and traders’
compensation schemes and incentives; a lightly
regulated and overleveraged shadow banking sector
(opaque, off-balance sheet operations on special
purpose vehicles - SPVs and SIVs, over-the-counter
derivatives' trading - e.g. CDS, RMBS, CDOs, CLOs,
structured finance and synthetic CDOs, and so on),
maturity mismatching for funding, and increased use of
methods helping to hide “tail-risks” (Pezzuto, 2008, 2010,
2013).

• The findings and the underlying assumptions reported in
my book of 2013 titled “Predictable and Avoidable” and in
my paper of 2008 titled “Miraculous Financial
Engineering or Toxic Finance?” have been confirmed in
January 2011 by the Final Report of the US Government
- Financial Crisis Inquiry Commission (FCIC, 2011).

The US FCIC (FCIC, 2011, pp. xvii – xxviii) in its final report
confirmed the following points:
• “We conclude that this financial crisis was avoidable;
• We conclude dramatic failures of corporate governance
and risk management at many systematically important
financial institutions were a key cause of this crisis;
• We conclude a combination of excessive borrowing, risky
investments, and lack of transparency put the financial
system on a collision course with crisis;
• We conclude the government was ill prepared for this
crisis, and its inconsistent response added to the
uncertainty and panic in the financial markets;”…….

The FCICI (FCIC, 2011, pp. xvii – xxviii) in its final report
confirmed the following points (continues….):
• “We conclude there was a systematic breakdown in
accountability and ethics;
• We conclude collapsing mortgage-lending standards and
the mortgage securitization pipeline lit and spread the
flame of contagion and crisis;
• We conclude over-the-counter OTC derivatives
contributed significantly to this crisis;
• We conclude the failure of credit rating agencies were
essential cogs in the wheel of financial destruction.”

Since 2009, big banks in the U.S. and Europe have paid at
least $128 billion to regulators (but a significant portion of
the fines and settlements paid have been tax-deductible as
a business expense), according to data compiled by the
Wall Street Journal, Reuters, and The Huffington Post for
issues tied to the housing collapse and other financial
misdeeds, including aiding and abetting money laundering
and tax evasion (Short, Gongloff, 2014).

On September 15th, 2008 the financial services firm
Lehman Brothers filed for Chapter 11 bankruptcy protection
mainly due to the eroding confidence in the valuation of its
assets by the repo counterparties who decided to drain
their liquidity supply thus leaving the investment bank
insolvent (Pezzuto, 2013; US Bankruptcy Court Southern
District of New York – Examiners’ report, 2010, pp. 2-14).

That dramatic event and other ones in the industry, which
followed the burst of three interconnected bubbles (e.g. US
housing bubble, mortgage lending bubble, and shadow
banking bubble), generated a liquidity conflagration in the
wholesale banking market (and writedowns) which, in
conjunction with massive credit ratings' downgrades and
investors' panic selling, have led to Wall Street’ biggest
crisis since the Great Depression (Pezzuto, 2013).

learned from the crises: three bubbles

Subprime Mortgage Market Growth and Share of Total Mortgage Market
Source: Inside Mortgage Finance (2007)

0
50
100
150
200
250
1900
1912
1925
1938
1951
1964
1977
1990
2003
AnnualCPI
NominalHomePriceIndex
Source: Robert J. Shiller, Irrational Exuberance, 2nd. Edition, Princeton University Press, 2005, 2009
Nominal Home Price Index versus Annual CPI
Nominal Home Price Index Annual CPI

0
5
10
15
20
25
30
35
40
1 3 5 7 9 11 13 15 17 19 21 23 25 27 29 31 33 35 37 39 41 43 45 47 49 51 53 55 57 59
Percentoforiginalbalanceindelinquency
Months from origination
2007
2006
2005
2004
2003
learned from the crises: delinquency rates

…everybody is happy!

…the burst of the bubbles and the property
market crash

As hundreds of billions in mortgage-backed securities went
bad, banks became suspicious of one another's
undisclosed potential credit losses and preferred to reduce
their exposure in the interbank markets. This withdrawal
caused the increase of interbank interest rates, spreads,
and credit default swaps, and massive credit crunch and
liquidity shortage. The bail-outs has had a sizable impact
on the countries’ sovereign debts (shifting the burden of the
risk generated by the burst of the three bubbles, the
meltdown of the financial sector, and the consequent 'Great
Recession' to the sovereign debt)

…from private debt to public debt!

…the spill-over effect of the financial
crisis and the ‘Great Recession’

The huge increase in sovereign debts and/or deficits has
triggered over the years additional crises (e.g. tail risk) or
fiscal challenges. This became quite evident in Europe in
2010 with the Euro Zone Debt Crisis in the peripheral
countries due to high sovereign debts, deficits, long
recession and slow GDP growth, lack of structural reforms
(pension, welfare, labor market, bureaucracy,
lobbies/corporatism, education, tax system, industrial
policy, and properly capitalized banks), lack of a single
crisis resolution mechanism; current account imbalances,
and in some countries, housing bubbles/high private debt
(Pezzuto, 2008; 2010).

In the Eurozone, in spite of a relatively anemic
growth/stagnation and very low inflation, the Sovereign
Debt as a percentage of GDP in 2013 was above 90%
versus the 60% rule of the Maastricht Treaty. In the USA in
2013 an emerging threat was the "Sequester, Fiscal Cliff,
and Debt Ceiling” while inflation was below target, the
economy was improving, and the S&P 500 index was
reaching new records (overvalued). The Sovereign Debt as
a percentage of GDP in the USA in 2013 was almost
doubled from approximately 60% of 2007 to approximately
110% of 2013 (Pezzuto, 2013). Even, the Fed's Balance
Sheet, thanks to the quantitative easing (“QE”) programs,
has increased to $4.4 trillion at the end of June 2014—five
times its pre-crisis size (Labonte, 2014).

…the Euro zone Debt Crisis

learned from the crises: the new regulation
On July 21, 2010 a new comprehensive, high-level
regulation was signed into law in the USA (the Dodd-Frank
Wall Street Reform and Consumer Protection Act)
aiming to introduce a sweeping overhaul of US banking
rules and to help prevent the recurrence of a crisis similar
to the one of 2007 – 2009 or even worse

Even in Europe since 2010 regulators have introduced new
risk governance frameworks, regulations and compliance
rules (e.g. Basel III; Capital Requirements Directive -
CRD IV; Capital Requirements Regulation – CRR;
European Market Infrastructure Regulation – EMIR;
Mortgage Credit Directive 2014/17/EU; Markets in
Financial Instruments Directive - MIFID II and the
Markets in Financial Instruments Regulation - MiFIR;
Financial Transaction Tax – FTT; the European General
Data Protection Regulation; and Target 2-Securities –
T2-S, etc.) in order to enhance risk mitigation techniques,
to make the financial system more efficient, transparent,
and resilient to financial and economic shocks, and to
strengthen the protection of investors.

The new regulation has improved risk governance and
supervisory authorities’ oversight, however, some scholars
and commentators believe that the new alleged
comprehensive and forward-looking regulation will not be
able to prevent the recurrence of other financial and
economic crises in the future. Some analysts even argue
that overregulating the financial services industry will
eventually lead to more complexity, bureaucracy,
fragmentation, and discretionary decisions. They also claim
that the overload of rules will also generate higher
operating costs and advisory fees for financial firms, more
ex-post supervisory controls for authorities, and more
“political” interference in the financial markets (e.g.
revolving doors, lobbying activity, power networks).

(1) Is the new financial regulation able to help prevent the
recurrence of systemic crises and other bail-outs (rescue with
taxpayers’ money)?
(2) Have financial firms managed to strengthen their risk
culture, transparency, corporate governance's accountability,
and the risk appetite frameworks of their organizations?
(3) Are the record civil settlements so far reached between
major banks, the Department of Justice, the Securities and
Exchange Commission, and states’ attorneys-general,
adequate deterrents to help prevent future wrongdoings,
financial fraud charges, and to hold banks effectively
accountable for triggering financial crises?

How to help prevent new systemic crises and
to create a more resilient financial system and
a new risk culture
• Reducing conflicts of interest and “revolving doors”
• Making corporate governance more involved and
accountable for firm-wide risk management
• Risk-based and long-term oriented objectives/compensation
• Develop a stronger risk culture in financial firms
• ‘Bail-in regime’ and claw-backs in case of bank failures and
Crisis Resolution Schemes funded by financial institutions.
No more Bail-out
• Improved industry-wide systemic risk monitoring, stress
testing, and scenario analysis
• Separate trading from retail/commercial banking
• Assure adequate capital, liquidity, leverage ratios

a new risk culture
• Downsize shadow banking and improve transparency
• Make credit rating agencies more accountable
• Higher “skin in the game” requirements for securitization
• Avoid vicious circles between sovereign debt and
financial firms’ risk and implicit or explicit subsidies and
guarantees
• CROs, Compliance Officers, and Audit more connected
to top management, strategic decisions, and boards
• Harmonization of global regulation to avoid regulatory
arbitrages
• More press and media independence to guarantee a
more transparent and fair economic and political analysis

a new risk culture
• Structural reforms and fiscal consolidation plans in
countries with long-lasting structural problems, slow GDP
growth rates and high public debt and deficits as a
percentage of GDP
• Reduced inequality and income distribution to improve
consumption and economic growth
• Simplification of financial regulation and stronger
coherence with the real root causes of the financial crisis
in order to make it more effective and relevant
• Donations to parties and political leaders should be fully
transparent in order to reduce ‘secret’ lobbystic
pressures on political leaders

a new risk culture
• Individual criminal charges and industry bans for financial
misdeeds
• Enhanced early warning analytics (predictive analytics)
on systemic risks and in particular on the risk of
aggressive non-conventional monetary policies, inflated
asset classes, deregulations, geo-political risks,
externalities, and global imbalances
• Tighter control on the impact of loose policy exceptions
of financial regulation and currency wars
• Tighter control on emerging risks, bubbles, systemic
shocks, and potential boom-bust scenarios

Christine Lagarde, the managing director of
the International Monetary Fund, made the
following remark at the annual IMF and World
Bank meeting in Washington on October 12,
2014:
With regards to the disconnect
between economics and
markets, there is “too little
economic risk-taking (e.g.
capital expenditures and
lending), and too much
financial risk-taking.”

……….a short video on Shadow Banking
http://www.ft.com/intl/cms/s/0/89
7bf21a-52dd-11e4-9221-
00144feab7de.html?ftcamp=crm
/email/20141014/nbe/Companie
sBySector/product#axzz3G1DX
1tUF

References
• Labonte, M. (2014). Monetary Policy and the Federal
Reserve: Current Policy and Conditions. (US)
Congressional Research Service. RL30354. Retrieved
from http://tinyurl.com/m42zu8m
• Pezzuto, I. (2008). Miraculous Financial Engineering or
Toxic Finance? The Genesis of the U.S. Subprime
Mortgage Loans Crisis and its Consequences on the
Global Financial Markets and Real Economy. SMC
University Working Paper Series 2008. Retrieved from
http://tinyurl.com/7nwjwg7

References
• Pezzuto, I. (2010). Miraculous Financial Engineering or
Legacy Assets (Chapter 16) in Kolb, R.W. Lessons from
the Financial Crisis. Causes, Consequences, and Our
Economic Future. John Wiley & Sons, Inc.
• Pezzuto, I. (2013). Predictable and Avoidable: Repairing
Economic Dislocation and Preventing the Recurrence of
Crisis. Gower Publishing Limited.

References
• Short, K.; Gongloff, M. (2010, September 9). $128 Billion
In Bank Fines, In 1 Chart. The Huffington Post. Retrieved
from http://tinyurl.com/q3g7gqc
• The Financial Crisis Inquiry Commission (FCIC) (2011).
The Financial Crisis Inquiry Report. The US Government
Printing Office. Retrieved from http://fcic.gov/report
• US Bankruptcy Court Southern District of New York –
Examiner’s report (2010). Lehman Brothers Holdings Inc.
Chapter 11 Case No 08‐13555 (JMP). Report of Anton R.
Valukas Examiner. Volume 2 of 9. Retrieved from
http://tinyurl.com/cf2f9dd

http://www.ictfworld.org/page/Prague2014Symposium
http://www.ashgate.com/isbn/9781409454458
http://www.eiu.com/industry/article/981340082/world-
finance-bookshelf-december-2013/2013-12-13
http://blog.iese.edu/antonioargandona/2013/12/13/dos-
escritos-sobre-la-crisis-economica-y-
financiera/#sthash.XX2QCLOr.dpbs
https://www.linkedin.com/pulse/article/20140730142213-
2250863-author-analyst-keynote-speaker-
lecturer?trk=prof-post
References

About the Author

About the Author
Catholic University of the Sacred Heart, Milan (Italy)
Adjunct Professor of Strategy, Innovation Management, International Business,
Multinational Management and Entrepreneurship. Since 2010
Member of ICRIM (International Center of Research in International Management),
Milan, (Italy). Since 2010
MIP Business School of Politecnico, Milan, (Italy)
Visiting Senior Lecturer and Guest Lecturer (seminars/MBA modules). Since 2007
ISTUD Business School, Baveno/Milan (Italy)
Senior Lecturer of Economics and Strategic Management (MBA modules/Executive
Education seminars). Since 2004
Economics and Scenario Analyst Commentator at CNBC Europe , London (UK)
Author of papers, articles, journal publications, book chapters and books, analyst
(industry and scenario), keynote speaker, and executive education trainer
Former senior executive in Europe at leading multinational corporations in
diversified industries (FIAT, American Express, Accenture, Citibank, Diners Club)

2007 – 2012 Swiss Management Center University, Zurich (Switzerland)
Degree: Doctor of Business Administration
2008 - 2008 ISTUD Business School, Milan (Italy)
Degree: Executive Development Program
2004 – 2005 SDA Bocconi School of Management, Milan (Italy)
Degree: MBA in General Management .
2003 – 2004 SDA Bocconi School of Management, Milan (Italy)
Degree: Master in Economics and Management (CEGA)
2000 – 2000 SDA Bocconi School of Management & CFMT, Milan (Italy)
Degree: Senior Executive Program in General Management
1999 – 2000 Accenture Center for Professional Education, Chicago (U.S.A.)
Degree: Experienced Executive Development Program
1985 – 1989 New York University Stern School of Business, N.Y.C. (U.S.A.)
Degree: Bachelor of Science in Business Administration
About the Author

Publications
Miraculous Financial Engineering or Toxic Finance? (2008)
Predictable and Avoidable: What’s Next? (2014)

Reviews
Predictable and Avoidable: Repairing Economic
Dislocation and Preventing the Recurrence of Crisis. By
Ivo Pezzuto. Gower; 438 pages
‘This insightful book written by Ivo Pezzuto, a professor of business
administration and a renowned expert on the global financial crisis, gives
an unbiased and fulsome analysis of the 2007 financial crisis and the
global economic dislocation that followed. Mr Pezzuto brings his work to
life by augmenting its technicalities with personal interviews with industry
experts and by interspersing his take on the mechanisms that contributed
to the crisis with its cultural, ethical and human impact. By exposing the
causes of the crisis, and putting forward ideas about the changes needed
in the banking and finance industry and in the regulatory structures
governing them, the author has written a valuable work of interest to
academics, industry experts and students alike.’
World: Finance bookshelf,
December 2013© Copyright 2014 - Ivo Pezzuto – Predictable and Avoidable

Reviews
Predictable and Avoidable
‘Research Essential’ !
Predictable and Avoidable has been classified as ‘Research Essential’ by
Baker & Taylor YBP Library Services.
‘In this new Gower book, Professor Dr Ivo Pezzuto offers an independent
and unbiased analysis of the financial crises and one of the first fully
considered expositions of the financial, governance and regulatory reforms
needed for the future. With personal interviews involving selected global
thought leaders and industry experts, the book exposes the root causes
and demonstrates that the crisis we have seen was predictable and should
have been avoidable, and that a recurrence can be avoided, but only if
lessons are learned and the right action taken in relation to the banking
and finance industries and to supervisory frameworks and regulatory
mechanisms.’

Reviews
Dr. Antonio Argandoña, Emeritus Professor of IESE
Business School, Spain
‘A complete and detailed explanation of the financial crisis. There are
many popular descriptions of the current financial crisis. There are also
many more or less detailed and rigorous analyses of the causes,
consequences and solutions of the crisis. But when the student, the
teacher or the researcher needs a complete analysis, which includes all
the alternative explanations, a deep presentation of the consequences of
the crisis and an accurate study of the policies that have been adopted,
the number of available books is very limited. Dr Ivo Pezzuto’s Predictable
and Avoidable is one of those rare books that deal with this complex
subject in an affordable and complete way.’

Reviews
The book has been classified as 'Relevant Money Laundering and
Fraud Title' by the IMLPO (The Institute of Money Laundering
Prevention Officers) - the networking organisation for the UK's anti-
money laundering and financial crime prevention community.
In 2014 the book has been short-listed by The Chartered Management
Institute (CMI) for the “Management Book of the Year” Award. The
CMI in association with the British Library aim to celebrate the best of
management books published or distributed in the UK, from the most
inspiring to the most useful.
Predictable and Avoidable
‘Relevant Money Laundering and Fraud Title'

Reviews
‘Dr Pezzuto’s far-reaching and insightful book on the causes of and
cures for the financial meltdown of the late 2000s is a must read for
anyone who holds a position of trust. In particular, his comprehensive
table on the “Summary of Causes of the Financial Crisis and Actionable
Risk Mitigation Plans” is unparalleled in both form and function.’
John H. Nugent, School of Management, Texas Woman’s
University, USA
‘This exquisite book sheds a light on the facts that led to the biggest
financial crises since the Great Depression. Dr Pezzuto provides the
opportunity to understand the extreme risk taking, the excessive power
of the banks and the regulation failure. By using fact based evidences,
he proves that the biggest financial turbulence of this generation was
preventable.’
Daniela Milanese, journalist, Agência Estado, Brazil

Reviews
‘This book impressively fits a number of puzzle pieces of crisis analysis
right into a comprehensive structure of ethics and values that will be
necessary to shape a world without too much “pollution”, and it shows
that through the financial crisis also such a thing as “financial pollution“
became apparent. Highly recommendable at a specifically personal
level for leaders of all ranks.’
Peter H. Hoffmann, CEO, Evolta - Evolving Executive Careers /
Consulting and Development, and Prof. em. SMCU, Austria
‘This remarkable and insightful book shows the reader what really went
wrong, and why, in the global financial crisis. A fact-based and unbiased
perspective, robustly coupled with analytical insights, “connects the
dots” of all the events that led to the financial meltdown and its
aftermath. Based on the author’s own deductive reasoning, his
extensive research and his seasoned managerial experience, the book
is enriched with valuable “thought-leaders” insights on the crisis and
sound proposals for improved financial regulation.’
Asghar Aghili Dehkordi, Strategic Plans and Development Manager
at LG Electronics, Iran

Reviews
‘An excellent analysis of the causes of the recent financial crisis. Written
for a wide audience, this timely contribution educates the reader on the
main causes and effects of the recent financial crisis. It is an accurate
and comprehensive treatment of facts that led to the meltdown,
substantiated by the overwhelming evidence of various warnings that
went unheeded, and corroborated by inspiring interviews with academic
and industry experts. Predictable and Avoidable does not limit itself to a
sterile a-posteriori criticism, but describes concrete actions to take to
prevent the occurrence of similar catastrophic events in the future. A
must read!’
Fabio Mercurio, Head of Derivatives Research, Bloomberg LP, New
York, and Adjunct Professor, New York University, USA

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