O's Hollow Promises
His 'reforms' won't fix finance
President Obama hits Lower Manhattan today to chastise Wall Street ahead of a Senate debate on fixing finance. Problem is, he’s using his bank-bashing to push a bill that doesn’t deliver what he’s promising.
Obama pledged Saturday and likely will today: “Never again will taxpayers be on the hook because a company is ’too big to fail.’ ” This reform is vital. No business should be able to expect government bailouts, of course -- but it’s especially dangerous when it comes to banks.
When lenders to banks believe they’ll be bailed out, they inevitably create too much debt -- because they’ll profit as long as the investment works, but have their losses covered by the taxpayers if it blows up.
And for 25 years, the feds have done just that -- protected bondholders to big banks from losses. The crises, and the bailouts, kept growing with each cycle -- until we reached the near-meltdown of 2008. Lending to the financial world has ballooned, too: In the early ’80s, financial firms had borrowed just 25 percent of the nation’s GDP. By 2007, they had borrowed 115 percent of GDP.
But, as critics led by Kentucky’s Sen. Mitch McConnell, have pointed out, the bill, sponsored by Sen. Chris Dodd, doesn’t end “too big to fail” -- under any fair reading.
It says that failed financial firms must repay taxpayer money “unless the United States agrees or consents otherwise.” It says, too, that Washington can bail out bondholders to financial firms as long as officialdom “determines that such payments or credits are necessary or appropriate to minimize losses.”
Wall Street will read this as a capitulation: Despite Obama’s pronouncements, bailouts will still come when “necessary and appropriate.” And bailouts will be “necessary and appropriate” during the next crisis -- a crisis created by this very expectation.
Without ending “too big to fail,” Obama can’t deliver on his other big promise: to “enact the strongest consumer financial protections ever.”
Dodd’s bill offers 306 pages on how to protect consumers -- but omits the three words that describe what really plagues consumers: “too much debt.” Consumers can borrow so much only because the banks could borrow so much, thanks to “too big to fail.”
Legislation to end this permanent subsidy must do two things:
* Force now-unregulated “derivatives” onto public exchanges. Trillions of dollars are tied up in derivatives, like the synthetic mortgage securities that Goldman Sachs is now in trouble over. Yet almost no one understands what’s really in any given “financial product” -- which means a serious problem can easily trigger mass panic, as it did in 2008.
Getting derivatives onto public exchanges will let regulators limit borrowing and force price and volume disclosures -- so that millions of investors, rather than just a few backroom negotiators, know what’s going on.
* Limit borrowing across-the-board at financial institutions -- no matter how safe the firms, or their holdings, seem. Firms should also have to hold even more cash down behind their short-term borrowings -- because this debt leaves them more vulnerable to a crisis.
If firms can’t leverage at the extremes seen in 2007-8, then one firm’s failure won’t trigger a wave of other failures.
The Dodd bill fails both these tests. On derivatives, it leaves loopholes that will let far too many financial instruments remain utterly opaque.
There’s some hope: The Senate Agriculture Committee, led by Arkansas’ Blanche Lincoln, yesterday passed a tougher derivatives bill. Yet only one Republican -- Iowa’s Chuck Grassley -- voted for the fix. The public needs Republicans to get how important this is, so that they can push the Dems to fold the provision -- without loopholes -- into the Dodd bill.
Wall Street won’t like it: Big banks reap billions a year under the current rules. And it would be easy for Congress and the president to leave this money pot alone -- because the next blowup is in the future.
On the second point, consistent borrowing limits for financial firms, Dodd’s bill is a complete failure. It leaves the issue to the discretion of a new “financial-stability oversight council.” The problem here is that nobody can predict the future. Eventually, regulators will guess wrong -- leaving the whole financial industry open to another catastrophe.
Obama hasn’t said a word about this deficiency -- and don’t expect him to today. The GOP, led by the Banking Committee’s Sen. Richard Shelby, long ago signed on to the idea that “a systemic-risk regulator” will be able to magically see the future, after all.
Yes, strict borrowing limits -- ones that regulators and banks can’t game -- will curtail credit for consumers. That’s the point: Credit that is too easy endangers the economy.
The president may sound tough in today’s speech -- but the bill is what matters. And, just as on Wall Street, the fine print needs lots of public scrutiny, lest it be a blueprint for a future disaster.
This piece originally appeared in New York Post
This piece originally appeared in New York Post