News and Information
Landmark Finance Reform Signed Into Law
Using large majorities in both chambers of Congress, Democrats finally succeed in pushing through a 2,300-page financial reform bill that dramatically increases the government's role in banking, regulation, credit markets and consumer lending. Trading profitability for safety.
Claiming "there will be no more tax funded bailouts," President Barak Obama signed into law on Wednesday the most sweeping changes in financial regulation since the Securities and Exchange Acts of 1933 and 1934. The signing of the bill caps off a trying nine month period dating back to last November when Sen. Christopher Dodd, (D-Conn.), first introduced a 1,600-page version of the bill on the floor of the U.S. Senate.
The legislation, now known as the Dodd-Frank Wall Street Reform and Consumer Protection Act, will vastly expand the powers of existing government bodies such as the Federal Reserve, the Securities and Exchange Commission (SEC) and the Commodity Futures Trading Commission (CFTC) in addition to creating a new consumer protection agency that will have extraordinary power to oversee every aspect of consumer credit. The agency will control a $500 million budget that doesn't require approval from Congress.
The bill is so large, complex and non-specific in key areas that many in banking and business aren't completely sure of its effects until it gets implemented. Citigroup, one of the "too big to fail" Wall Street banks that has already been given new life by the government, said it would soon name a senior executive to lead an internal task force in charge of assessing the business implications of rules that will be written to put the new law into effect, according to the Wall Street Journal. J.P. Morgan Chase has reportedly assigned 100 teams to examine the bill.
Republicans, which were largely left out of the bill-making process, opposed the legislation on the gounds that it interferes too much with the free markets, furthers the notion of "too big to fail" rather than eliminating it and does nothing to reform Fannie Mae and Freddie Mac, the two government-run mortgage finance giants that underwrote a majority of the subprime mortgages that were primarily responsible for causing the credit crisis.
The legislation was approved 237-192 in a House vote on June 30th with 19 Democrats joining all but three Republicans in opposition. Currently, the Democrats hold a 255 to 178 advantage in that body. In the 100-member U.S. Senate, the bill passed by a 60-39 vote with all but three Republicans voting against it. Senators Susan Collins, (R.-Maine), Scott Brown, (R.-Mass.) and Olympia Snowe, (R.-Maine) all from northeastern states broke with their party to ensure final passage.
Proponents of the bill such as Treasury Secretary Timothy Geithner said it will "benefit the prudent and constrain the imprudent." "Strong banks, the well-managed financial innovators, will adapt and thrive under the new rules of the road," Geithner went on to say, according to a quote in the Wall Street Journal.
Opponents of the bill argue that it just gives more power to those who failed to adequately regulate the first time. The bill "is a 2,300-page legislative monster...that expands the scope and powers of ineffective bureaucracies," said Sen. Richard Shelby, (R.-Ala.) the ranking member of the Senate Banking Committee. Shelby and Republicans have argued that left alone the free market would do a better job than the government of holding banks accountable for taking excessive risks. Recent history supports Sen. Shelby's claim.
In October 2008, at the height of the credit crisis, Rep. Henry Waxman (D.-Calif.), chairman of the House Oversight Committee, grilled former Fed chairman Alan Greenspan on the causes of the crisis in a four-hour appearance before the committee: "You had the authority to prevent irresponsible lending practices that led to the subprime mortgage crisis. You were advised to do so by many others. And now our whole economy is paying its price," Waxman said. During the testimony, Mr. Greenspan, who was Fed chairman from 1987 to 2006, admitted that he made "a mistake" in his hands-off regulatory philosophy.
In addition to new Fed powers, the legislation will create new regulations for derivatives trading and seek to make hedge funds more transparent. But as early as 2003, William Donaldson, chairman of the SEC under the Bush Administration, put hedge fund regulation at the top of his agenda by proposing a requirment that all hedge funds register with his agency. But Greenspan, using his massive influence, fought the idea at every turn and eventually succeeded in not only getting hedge fund regulation killed but in getting Donaldson replaced as SEC chairman.
Greenspan opposed hedge fund regulation out of fear that it would diminish liquidity in the market, a ridiculous assertion in hindsight since most now agree that too much liquidity fueled by low interest rates helped cause the crisis. But in an interview soon after their disagreement, as chronicled in a November 2004 editon of the Wall Street Journal, Donaldson, knowing that many on Wall Street weren't honest with investors about the risk they were taking, replied "how much fraud are you willing to tolerate for liquidity? And if you asked me that, I'd say zero." Donaldson, a Wall Street veteran, was later replaced by Christopher Cox, a Washington D.C. veteran.
Any failure of the bill to bring an end to government bailouts, something the American public staunchly opposes, on the grounds of "systemic risk" and that some institutions are simply "too big to fail" could have enormous ramifications for the future of credit risk. In fact, since the bailouts of 2008 and the additional ones in 2009, the biggest banks have gotten bigger not smaller. Before the crisis, the 25 largest banks had 56% of bank assets; today it's 59%, according to a June article in the WSJ.
Even so, Standard & Poor's, one of the three major credit rating agenices whose bank ratings are influenced by the assumption of government support, seems to have a favorable view of the legislation based on a report released just yesterday. "In our view, the introduction of a systemic risk regulator, the establishment of prudential standards, limitations on more risky activities of systemically significant institutions, and resolution authority will most likely enhance the safety and soundness of U.S. financial markets," according to the S&P report. The report goes on to add that the agency will likely have a favorable "credit view" of the banks once they get "greater clarity from regulators."
Douglas Elliott, a fellow in the Economic Studies, Initiative on Business and Public Policy at the left-leaning Brookings Institution, a Washington think tank, also liked the bill, according to a quote in Friday's WSJ: "Banking will be somewhat less profitable and a bit costlier for customers, but substantially safer. This is a trade-off worth making."