NY Times, June 18, 2009
Talking Business
Only a Hint of Roosevelt in Financial Overhaul
By JOE NOCERA
Three quarters of a century ago, President Franklin Roosevelt earned the
undying enmity of Wall Street when he used his enormous popularity to
push through a series of radical regulatory reforms that completely
changed the norms of the financial industry.
Wall Street hated the reforms, of course, but Roosevelt didn’t care.
Wall Street and the financial industry had engaged in practices they
shouldn’t have, and had helped lead the country into the Great
Depression. Those practices had to be stopped. To the president, that’s
all that mattered.
On Wednesday, President Obama unveiled what he described as “a sweeping
overhaul of the financial regulatory system, a transformation on a scale
not seen since the reforms that followed the Great Depression.”
In terms of the sheer number of proposals, outlined in an 88-page
document the administration released on Tuesday, that is undoubtedly
true. But in terms of the scope and breadth of the Obama plan — and more
important, in terms of its overall effect on Wall Street’s modus
operandi — it’s not even close to what Roosevelt accomplished during the
Great Depression.
Rather, the Obama plan is little more than an attempt to stick some new
regulatory fingers into a very leaky financial dam rather than rebuild
the dam itself. Without question, the latter would be more difficult,
more contentious and probably more expensive. But it would also have
more lasting value.
On the surface, there was no area of the financial industry the plan
didn’t touch. “I was impressed by the real estate it covered,” said
Daniel Alpert, the managing partner of Westwood Capital. The president’s
proposal addresses derivatives, mortgages, capital, and even, in the
wake of the American International Group fiasco, insurance companies.
Among other things, it would give new regulatory powers to the Federal
Reserve, create a new agency to help protect consumers of financial
products, and make derivative-trading more transparent. It would give
the government the power to take over large bank holding companies or
troubled investment banks — powers it doesn’t have now — and would force
banks to hold onto some of the mortgage-backed securities they create
and sell to investors.
But it’s what the plan doesn’t do that is most notable.
Take, for instance, the handful of banks that are “too big to fail”— and
which, in some cases, the government has had to spend tens of billions
of dollars propping up. In a recent speech in China, the former Federal
Reserve chairman — and current Obama adviser — Paul Volcker called on
the government to limit the functions of any financial institution, like
the big banks, that will always be reliant on the taxpayer should they
get into trouble. Why, for instance, should they be allowed to trade for
their own account — reaping huge profits and bonuses if they succeed —
if the government has to bail them out if they make big mistakes, Mr.
Volcker asked.
Many experts, even at the Federal Reserve, think that the country should
not allow banks to become too big to fail. Some of them suggest specific
economic disincentives to prevent growing too big and requirements that
would break them up before reaching that point.
Yet the Obama plan accepts the notion of “too big to fail” — in the plan
those institutions are labeled “Tier 1 Financial Holding Companies” —
and proposes to regulate them more “robustly.” The idea of creating
either market incentives or regulation that would effectively make
banking safe and boring — and push risk-taking to institutions that are
not too big to fail — isn’t even broached.
Or take derivatives. The Obama plan calls for plain vanilla derivatives
to be traded on an exchange. But standard, plain vanilla derivatives are
not what caused so much trouble for the world’s financial system. Rather
it was the so-called bespoke derivatives — customized, one-of-a-kind
products that generated enormous profits for institutions like A.I.G.
that created them, and, in the end, generated enormous damage to the
financial system. For these derivatives, the Treasury Department merely
wants to set up a clearinghouse so that their price and trading activity
can be more readily seen. But it doesn’t attempt to diminish the use of
these bespoke derivatives.
“Derivatives should have to trade on an exchange in order to have lower
capital requirements,” said Ari Bergmann, a managing principal with
Penso Capital Markets. Mr. Bergmann also thought that another way to
restrict the bespoke derivatives would be to strip them of their
exemption from the antigambling statutes. In a recent article in The
Financial Times, George Soros, the financier, wrote that “regulators
ought to insist that derivatives be homogeneous, standardized and
transparent.” Under the Obama plan, however, customized derivatives will
remain an important part of the financial system.
Everywhere you look in the plan, you see the same thing: additional
regulation on the margin, but nothing that amounts to a true overhaul.
The new bank supervisor, for instance, is really nothing more than two
smaller agencies combined into one. The plans calls for new regulations
aimed at the ratings agencies, but offers nothing that would suggest
radical revamping.
The plan places enormous trust in the judgment of the Federal Reserve —
trust that critics say has not really been borne out by its actions
during the Internet and housing bubbles. Firms will have to put up a
little more capital, and deal with a little more oversight, but once the
financial crisis is over, it will, in all likelihood, be back to
business as usual.
The regulatory structure erected by Roosevelt during the Great
Depression — including the creation of the Securities and Exchange
Commission, the establishment of serious banking oversight, the
guaranteeing of bank deposits and the passage of the Glass-Steagall Act,
which separated banking from investment banking — lasted six decades
before they started to crumble in the 1990s. In retrospect, it would be
hard to envision even the best-constructed regulation lasting more than
that. If Mr. Obama hopes to create a regulatory environment that stands
for another six decades, he is going to have to do what Roosevelt did
once upon a time. He is going to have make some bankers mad.
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