When it comes to Wall Street, "reform" is not the issue.
We know this, because everyone supports reform.
"We believe that sensible and significant reforms that do not impair entrepreneurship or innovation, but make markets more efficient and safer, are in everyone’s best interest," write Goldman Sachs CEO Lloyd Blankfein and company President Gary Cohn.
"We at JPMorgan Chase and at other banks have consistently acknowledged the need for proper regulatory reform," echoes Jamie Dimon, CEO of J.P. Morgan.
Says Ryan McKee, senior director of the Chamber of Commerce‘s Center for Capital Markets Competitiveness: "We need strong consumer protections, the elimination of duplicative regulation, and strong enforcement against illegal financial activities."
And Republican strategist Frank Luntz advises clients, "You must acknowledge the need for reform that ensures this NEVER happens again."
What matters is not the fact of reform itself, but the content of reform. As the Senate takes up debate over new financial regulatory rules, Wall Street and the big banks are mobilizing to confuse the public and leverage their power on Capitol Hill. Their objectives: Confine the debate to technical issues and traditional regulatory questions. Prevent consideration of industry structure and incentives. Protect the ability of firms to undertake high-stakes gambling.
The Senate bill is more than 1700 pages long. There’s a lot in there — but important things are missing.
Here are five issue priorities to advocate for as the debate goes forward:
1. A strong and independent Consumer Financial Protection Agency
In the years leading up to the financial crash, regulators ignored calls to protect consumers from predatory loans and other financial rip-offs. A vigorous standalone consumer protection agency not only would have saved billions and billions of dollars for millions and millions of consumers, it would have helped protect the financial industry from its worst excesses. Those rip-off loans ended up imploding the banks and Wall Street.
The Senate bill contains a reasonably strong consumer agency, but it houses it at the Federal Reserve, which was one of the agencies most hostile to consumer interests during the run up to the crash. The Senate bill doesn’t give the Fed operational control, but embedding the agency in the Fed is asking for trouble. The agency should be made independent. Nor should its rules be subject to veto by other bank regulators, as is the case in the current Senate bill. And, various creditor interests — auto dealers, pawn shops, payday lenders — are going to be lobby to be exempt from the consumer agency’s jurisdiction; it is crucial that these most predatory of lenders fall under the new agency’s authority.
2. Break Up the Banks
The largest banks are now larger — considerably larger — than they were before the financial crisis. Politicians’ protests to the contrary, the market believes the biggest banks are "too big to fail" — that, because of fear of the impact on the broader economy, the government will bail out these mega banks rather than let them fail. As a result, the biggest banks are able to borrow money at cheaper rates — a subsidy worth $34 billion a year, according to estimates by the Center for Economic and Policy Research. The largest banks dominate the risky derivatives market — with the top five commercial banks controlling 97 percent of the derivatives held by banks. The largest banks charge consumers more and serve communities less well. And, perhaps most importantly, the political power they amass is the major barrier to appropriate regulation of the financial sector — and, to a considerable extent, to appropriate national economic policy.
The Senate bill, like the House bill, does nothing of consequence to address size. Senator Sherrod Brown will introduce an amendment to require banks exceeding a certain threshold to reduce their size.
The Senate bill does contain a version of the "Volcker Rule," named for its initial advocate, former Fed Chair Paul Volcker, which would establish that banks cannot undertake "proprietary trading" — basically using their own resources to gamble in the stock, bond and over-the-counter markets. This needs to be strengthened, as Senator Jeff Merkley and others will propose. A strong rule would require the banks to scale back, and likely lead to them spinning off their hedge fund-like divisions.
3. Clamp Down on Out-of-Control Pay
Wall Street is paying itself something like $145 billion in bonuses and compensation for 2009 performance — the same year in which the financial sector was saved from ruin with trillions of dollars of public supports.
The Congressional financial reform bills do nothing about this outrage other than to give shareholders authority to hold an advisory vote on top executives’ pay. (And Wall Street is up in arms about this trivial infringement on its pay prerogatives.)
We need a windfall tax applied on the bonuses paid in 2009 and likely for 2010. We need to eliminate the outrageous "carried interest" rule that enables hedge fund managers — many of whom pulled in more than $1 billion last year — to pay income tax at less than half the standard rate. And, we need rules that insist bonus pay reflect long-term performance, not just the results of short-term speculative bets. The Wall Street bonus culture provides incentives for traders and executives to take risky bets and inflate bubbles — they benefit massively from the upside, but don’t pay when bubbles burst.
4. End the Casino Economy
Wall Street and the financial sector are far too big relative to the real economy. There is a legitimate role for Wall Street firms in helping allocate capital for productive uses. And people, businesses and communities need banking services. But there is no social benefit from the financial sector’s speculative frenzy — and it is that speculative impulse which destroyed the national and global economies.
A small tax on financial speculation — .25 percent on a stock trade, and equivalent amounts on bonds and exotic financial instruments — could raise $100 billion a year, with the costs overwhelmingly borne by the rich. A speculation tax would curb the churning on Wall Street, discouraging highly leveraged trades that aim to capitalize on small up or downticks in share values over very short periods of time.
Additionally, derivatives trading must be brought under control. Many derivatives should be banned outright, and there is some hope for winning a ban on some categories. But the main issue at stake in derivatives regulation is whether derivatives trading must be done in the open, on regulated exchanges. Right now, most financial derivatives are handled as private contracts between parties. That opens the possibility of cheating by insiders — since prices are not transparent. It means that parties are not required to maintain sufficient collateral against the risk of payout (the problem highlighted by AIG). And it prevents regulators from having any sense of what is going on in the market — precluding them from recognizing emerging risks.
Because derivatives trading is so complicated, and so important to Wall Street and the big banks, industry lobbyists have exerted enormous influence over Congressional proposals. What is on the table now would subject some derivatives to only modest openness standards — and make it easy to to elude even these requirements. Public pressure on industry-friendly senators, foremost among them, Senator Blanche Lincoln, who chairs the Agricultural Committee, might change this. Lincoln has just signaled plans to support very aggressive derivative regulatory rules — a sign of momentum for the forces aiming to rein in Wall Street.
5. No Global Deregulation
Under Tim Geithner’s stewardship during the Clinton administration, the United States entered into a deregulatory financial services agreement at the World Trade Organization. New deregulatory proposals are still being floated at the WTO.
The idea that financial regulatory legislation would subordinate new regulatory efforts to the WTO deregulatory rules boggles the mind. A provision in the Senate bill related to insurance regulation would do just that, however. It must be scrapped.
There are too many important issues at stake to highlight them all. And some relatively small details — like the insurance deregulation provision — can be hugely consequential.
Wall Street will win, however, if the public debate gets wrapped in arcania — or if the industry succeeds in preventing inclusion of measures that deal with industry structure, incentives and speculative excess.
"Reform" is no longer the issue, if it ever was. The litmus test for the legislation going forward is: Does it meaningfully reduce Wall Street’s power?
Robert Weissman is president of Public Citizen.