Financial Regulatory Reform Cannot Wait

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16 October 2009 :: Eva Scherson

Financial regulatory reform cannot wait. It must be strict, it must be cohesive and responsible. It must help return the American economy to the days when investors could invest in something, and have a fair chance of gauging its value and its prospects for a change in value. Wall Street’s investment banks are reaping all-time record profits and will pay out more money in salary and bonuses this year than most nations’ annual GDP.

According to Democracy Now:

[...] the Wall Street Journal is reporting that major U.S. banks and securities firms are on pace to pay their employees about $140 billion this year—a record high. But on Main Street, foreclosures are also at record levels and the official unemployment rate is expected to top 10 percent.

Only 52 nations in the world have GDP greater than the $140 billion Wall Street firms will have paid their staff by year’s end, an astonishing accomplishment considering the extreme dire straits the nation’s most powerful financial institutions found themselves in just a year ago.

Pres. Obama said in June that “It is an indisputable fact that one of the most significant contributors to our economic downturn was a unraveling of major financial institutions and the lack of adequate regulatory structures to prevent abuse and excess.” He then explained why the regulatory system needs to be updated to a 21st-century model, saying:

A regulatory regime basically crafted in the wake of a 20th century economic crisis—the Great Depression—was overwhelmed by the speed, scope, and sophistication of a 21st century global economy.

US News and World Report published a useful 7-point outline of some key features of the reform process and Pres. Obama’s approach, noting:

Obama’s regulatory plan would give the Federal Reserve expanded powers to regulate these systemically-important companies, subjecting them to higher capital levels and tougher risk management mandates. The plan would also create a process to safely unwind these firms during periods of financial crisis.

The basic points of reform were outlined as:

1. Policing financial giants: regulations had been scaled back, leading to reckless risk-taking and shoddy oversight; Obama’s plans will reverse that trend.
2. Filling the gaps: a range of regulatory bodies makes for a “patchwork” system, with sometimes overlapping responsibilities, and many loopholes; doing better means closing those gaps in the system.
3. Consumer protection: Obama’s financial regulatory reform proposal calls for the creation of a financial consumer protection agency, to guard against abusive or misleading lending or investment practices.
4. Secure securitization: complex “derivatives” and other financial “instruments” known as “exotics” would be brought under regulation and traded on transparent exchanges.
5. Political considerations: the reforms are so sweeping, scrapping the existing system would raise stiff opposition, so Obama’s plan calls for upgrades to existing agencies, in order to get the best ideas in place as soon as possible.
6. Potential snags: commercial interests want to block any new regulations that might limit their freedom to “innovate” new financial products, and banking interests are concerned about giving new powers to the Federal Reserve.
7. Congressional outlook: House financial services committee chairman Barney Frank has pledged the regulatory reforms will be on Pres. Obama’s desk by year’s end; just yesterday, the committee voted 43-26 to pass a financial regulatory reform bill to the full House.

As reported by HousingWire:

The Committee, in a 43-26 vote Thursday, approved financial regulatory reform legislation that would require the comprehensive regulation of over-the-counter (OTC) derivatives like credit default swaps (CDS). The legislation sets a framework for the regulation of swap markets, dealers and major swap participants.

The legislation passed Thursday requires swap dealers and major swap participants to register with regulators and requires clearing organizations to provide transaction information to appropriate regulators. The bill also provides for public disclosure of aggregate data on swap trading volumes and positions in a way that protects the business transactions and market positions of individuals.

Also yesterday, two Democratic House members, Brad Miller of North Carolina and Dennis Moore of Kansas, submitted an amendment to the bill creating the Consumer Financial Protection Agency (CFPA) called for by Pres. Obama. The amendment exempts banks that hold less than $10 billion in assets and credit unions with less than $1.5 billion. Fully 150 banks that hold more than $10 billion in assets each will be regularly assessed and audited by the CFPA.

The CFPA is one piece of a very complex puzzle that will come together in the form of the most sweeping financial regulatory reform since the Second World War. The reform project, in many ways as ambitious as the reforms proposed for the healthcare insurance markets, is designed to implement the sort of checks and balances put in place after the Great Depression, in order to prevent abuse and/or sudden collapse in the financial system.

With some on Wall Street already looking for the best way to reignite the fires of the exotic derivatives business —now looking to life insurance settlement re-selling—, and record profits and bonuses for major investment banks, in the midst of the worst foreclosure crisis since the Great Depression —one which is still spreading—, it is imperative that these reforms be implemented and the abuses of the past decade relegated to the past.