Blogs and Stories
Why Washington Won't Prevent Another Meltdown
)
Richard Drew / AP Photo
The U.S. can’t rely on the proposed House bill to protect the economy from another crash. Relying on regulators won’t work, says Jeff Madrick—instead, the government should start by dividing banking activities.
Various financial experts, nearly all of whom failed to forecast the Crash of 2008-09, now claim that the answer to stanching future credit calamities is to rein in the giant financial institutions—somewhat. These advocates cover the waterfront, from the right, left, and center.
The bill now being put together in the House Banking Committee will give the government the ability to unravel financial institutions, even to the point of leaving their shareholders with nothing when they are already in trouble. It also will provide the federal government the money to do so by assessing the banks. The lack of such a so-called resolution authority is what kept it from unwinding Lehman Brothers in the first place.
Commercial banks with access to the Fed discount window should not be allowed to invest depositor money in securities investments other than plain-vanilla government and low-risk corporate debt.
The idea is to prevent the snowballing of a catastrophe into an ever bigger one. But there is no persuasive reason to believe that even if the Treasury or the Fed had such authority, they would have taken the steps back in September 2008. There was enormous pressure then to let the market decide, even if it meant major institutional failures. In his recent book, In Fed We Trust, The Wall Street Journal’s David Wessel argues that the Treasury and Fed together could have figured out some way to save Lehman or straighten it out cautiously if they had really wanted. He is almost surely right.
• Allan Dodds Frank talks to Andrew Ross Sorkin about the real bailout hero
• Nomi Prins: Pay Cut Backfire Meanwhile, what has happened to prevent future failures? That was the original intent of the Obama administration white paper of last June. Almost as an afterthought, the House bill will give the government an option to raise capital requirements on any institution deemed too big to fail. The idea, first discussed well more than a year ago under the Bush administration, is to reduce “systemic” risk by giving some regulator—one candidate is the Federal Reserve—the power to single out institutions that, if they fail, would bring the rest of us down. The notion gained adherents as night follows day when the markets froze the day after the collapse of Lehman Brothers.
But, despite widespread acceptance, this too is a pipe dream. First, what are the standards for determining who is too big—or too interconnected—to allow to fail? Is there really a bright line here? Would Bear Stearns have been declared a too-big-to-fail institution, or even Lehman Brothers? Such minor details have been brushed under the rug.
More to the point, it is taken for granted that newly chastised regulators will be both wise and cautious enough to implement the higher capital (and liquidity) requirements on such firms, and stick to them forever after. This is simply a Panglossian idea, policy as wishful thinking. Perhaps they are right now. But who can safely predict that in the future the regulators won’t succumb to the lures and blandishments of the rich and powerful once again?
In other words, when times turn better, which is when regulation is most needed, the concept of regulatory adjustment of the too-big-to-fail institutions just won’t work. The big and powerful will argue successfully that as in the last good times they don’t need the tight capital restrictions. Risk is not what it once was, they will say with a straight face. They may even produce a computer model, supposedly improved over VAR and other misleading mid-2000s calculations, to prove the point and attempt to induce memory loss of recent sad events. Then the big institutions will argue that the higher capital costs are restricting their ability to provide the nation the capital it needs. And, after all, the big institutions—they will make very clear to the Fed chairman and the Treasury secretary in closed-door sessions designed to ensure that democracy works—are also the lowest-cost providers of finance in the world.
John Talks Joe
Lloyd Grove is editor at large for The Daily Beast. He is also a frequent contributor to New York magazine and was a contributing editor for Condé Nast Portfolio. He wrote a gossip column for the New York Daily News from 2003 to 2006. Prior to that, he wrote the Reliable Source column for the Washington Post, where he spent 23 years covering politics, the media, and other subjects.
Amateur Hour at the White House
Leslie H. Gelb, a former New York Times columnist and senior government official, is author of Power Rules: How Common Sense Can Rescue American Foreign Policy (HarperCollins 2009), a book that shows how to think about and use power in the 21st century. He is president emeritus of the Council on Foreign Relations.
Going Rogue: The Index
Christopher Buckley's books include Supreme Courtship, The White House Mess, Thank You for Smoking, Little Green Men, and Florence of Arabia. He was chief speechwriter for Vice President George H.W. Bush, and is editor-at-large of ForbesLife magazine. His new book is Losing Mum and Pup, a memoir. Buckley's Daily Beast column is the winner of an Online Journalism Award in the category of Online Commentary.
Geithner's Stock Plummeting
Jeff Madrick is a contributor to the New York Review of Books and a former economics columnist for the New York Times. He is editor of Challenge Magazine, visiting professor of humanities at Cooper Union, and senior fellow at the New School's Schwartz Center for Economic Policy Analysis. He is the author of Taking America, The End of Affluence (Random House) and The Case for Big Government.
The Looming Banking Battle
Jeff Madrick is a contributor to the New York Review of Books and a former economics columnist for the New York Times. He is editor of Challenge Magazine, visiting professor of humanities at Cooper Union, and senior fellow at the New School's Schwartz Center for Economic Policy Analysis. He is the author of Taking America, The End of Affluence (Random House) and The Case for Big Government.
The Do-Nothing G-20
Jeff Madrick is a contributor to the New York Review of Books and a former economics columnist for the New York Times. He is editor of Challenge Magazine, visiting professor of humanities at Cooper Union, and senior fellow at the New School's Schwartz Center for Economic Policy Analysis. He is the author of Taking America, The End of Affluence (Random House) and The Case for Big Government.
I agree with much of this article that new regulations and regulators may only be a stop-gap fix for the caged monster that financial system has become.
I think we should re-institute the Glass-Steagall Act, which was repealed by the Republican Congress in the 1990s. It clearly separated banks from the brokerage business.
I think the SEC should also be re-invigorated to do regular and rigorous investigations any time they see a dubious trend in the markets.
The Justice Department should also re-inforce anti-trust laws that would prohibit corporations from becoming "too big to fail."
And finally, the IRS should be fully funded to go after tax cheats in the financial sector who hide money and profits from legitimate taxation.
If all of the above were done, the consumers would be safer and the federal government would probably reap an additional half-trillion $$$ in taxation and fees.
If these banks are to big to fall then divide them into smaller banks . These closed door meetings with the Fed. chairman and treasury should not be behind closed doors, open up the the Fed's books, there is to much secrecy going on with the Fed.
I think there should be an investigation into Geitner's cell phone records and Paulson's cell phone records and see the collusion that goes on with the Fed's and Wall Street.
As much as I hate to say it, I have to agree with most of what you say, Winnie.
My day is ruined...
I would rather let them crash again, then rebuild the banking system with a stronger public component, including banks owned by the state and federal governments, and a national investment bank.
We should not have to rely on the crooks and Monopoly players on Wall Street for the vital investment needs of this country.
The problem, mcmchugh99, is that the financial sector will take down the rest of our economy with them.
Do you really want to fix this problem by having Great Depression II?
The problem is that the financial system is like a giant baby that has discovered a source of sugar, gorged itself, went into sugar shock and the parents, in a attempt to revive the child have fed it more sugar. And any talk of putting the baby on a diet, a healthy diet, is met with a resounding screaming/crying fit from the baby. So what does the parent do?
The meaning of a dollar is becoming more complicated every year. It dollar represent a percentage of gold in a nations treasury. But now when you put a dollar in the bank it is digitized, divided, leveraged, traded at speeds and directions incomprehensible to any person.
The dollar is only worth anything as long as people believe in it. Understanding and faith create belief. Under the current financial system the public can longer understand the dollar. Should the public lose faith in the dollar, anarchy will reign supreme.
The meaning of the dollar (yen, euro, et al) is incomprehensible. Internationally the markets are interconnected in ways that we have no understanding or control of. The global economy has taken a life of its own. It has sprouted wings and has ghastly blood soaked teeth. Those who understand and manipulate this beast can profit greatly.
They can also stab the beast in the heart, should they chose too. A convergence of events natural, beastly and wantonly destructive and the global financial market can fail. This failure will be swift and deadly, as all disaters are.
Greed is the foundation of the beast. Greed will make it eat itself.
Some very good and constructive comments here.
Besides regulatory reform, I wonder if the increasing stigma of being a wall st. fatcat will also have some impact and increase self regulation. I can't help but think "they" will just accept pariah status and continue to laugh all the way to the bank.
Perhaps more drastic measures are called for?
http://pinstripesniper.blogspot.com
The problem with any public bank would be that politicians would start running it for their buddies. The largest componant of this mess is/was Freddie and Fanny, two government sponcered "banks" who took the lead in this mess - run by Clinton appointees. The Community Reinvestment Act was also a culprit as it FORCED banks to make subprime loans to help the poor buy homes they couldnt keep.
One huge reason that the banks are being handed money now is that the Federal government had guaranteed huge chunks of money this it (we) will have to pay if they go under. If the Government was not standing behind this mess it would not have occured in the first place.
I cannot blame this mysterious "Wall Street" fpr being greedy because I am wall street. I still own two stocks I've done very well on and Im thrilled about it! My dad's retirement plan is up too to he's happy - er. The differance between us is thatI will jump in and sell the moment this current market falls to it's knees while he and the rest of the little guys will suffer. Wall Street is doing what we all do every day - making money in any legal way we can. There are very few crooks on Wall Street. The have plenty of the best legal advise money can buy. The blame goes largely to the list of politicians above who were bought off by Wall Street and most of whom are still firmly in control in Washington. It will only be after the next leg of this recession hits and things get far worse and after a lot of "change" in Washington that we as a nation can hope for real reform.
The banks should surely be cut into pieces by governement regulators but then the governement should let them sink without a word. I have long said even the FDIC should cover only, say, 80 percent of deposits so we would not put our life savings in the bank that gives the best toaster. Freddy and Fanny should be wound down as well. The point is that there is a vast difference between regulating a bank and running one.
Thank you.
As a first time user, your comment has been submitted for review. It can take anywhere from a few hours to a day or two for your comment to be reviewed, depending on the time of week and the volume of comments we receive.
Please log in to leave comments.