Five years after the financial meltdown and nearly three years after the enactment of Dodd-Frank, the big banks and government agencies still can’t get it right. (Agencies include the Securities and Exchange Commission- SEC, Commodity Futures Trading Commission- CFTC, Consumer Financial Protection Bureau- CFPB) While these agencies try to formulate the rules and regulations under Dodd-Frank that will control activities at the large banks, these institutions continue some of the same behavior that brought on the recession. And they remain too big to fail and will require government bailouts if they again get into trouble.
Trade in derivatives and other high risk instruments still go on at these banks, as evidenced by the $6 billion loss at J.P. Morgan Chase under the supposed watchful eyes of their risk management team and CEO Jamie Dimon. At the same time, lobbyists from these banks have been pressuring the rules-writing bodies to lessen regulations on the banks, claiming that excessive monitoring and controls will make these institutions less profitable. According to representatives of the banks, this means that less money will be available for commercial and residential loans, damaging the overall economy.
The problem started with the repeal of the Glass-Steagall Act in 1999 by a Republican Senate, supported by the Clinton Administration and pushed by Secretary of the Treasury, Robert Rubin. (Rubin had joined the government after a long career at Goldman-Sachs.) The banking industry had been lobbying for repeal for decades, before it was finally enacted. Glass-Steagall had been passed in 1933 to separate the activities of the commercial and investment banks, believing that speculative trading by the banks contributed to the stock market crash in 1929 and the Great Depression. The idea was to protect depositor’s money and not allow it to be put at risk by the bankers.
Once the restrictions of Glass-Stegall were ended, the major banks, such as Citibank, Bank of America, J.P. Morgan Chase, and so forth, were able to engage in various types of exotic investments. These included credit default swaps, derivatives, collateralized debt obligations, structured investment vehicles, and others, where the true risks involved in these instruments were sometimes difficult to determine, even by the people who created them. And the risk management teams who were supposed to oversee them were often in the dark as to what they were allowing. While these instruments may have provided profits and big bonuses to bank executives when they were successful, they added little value to the financial system as a whole, and were devastating when they failed.
Recently, there have been suggestions by some financial experts that some of the rules of Glass-Steagall should be reestablished so that future bailouts of the banks by the government will not be necessary. Even Sandy Weill, the former CEO of Citibank and one of the men responsible for the
formation of these huge institutions, has recommended separation of the commercial and investment branches of these banks. There is the realization that in addition to the current large banks being too big to fail, they have also become too big to manage.
Rather than having government agencies trying to promulgate complex regulations to control risk at the major banking institutions, and then monitoring these institutions to be certain they are in compliance, matters would be simplified by splitting the big banks into their investment and
commercial arms. The government and the citizenry would no longer have to be concerned about having banks that are too big to fail and worry about banks making risky bets that might require government bailouts if they go wrong. Unfortunately, this would require enactment of new legislation by Congress, and banking industry lobbyists could be expected to mount an all-out attack on any bills that interfered with the way banks now function. So the possibility of a
big bank failing and a government bailout will remain.
em>A VietNam vet and a Columbia history major who became a medical doctor, Bob Levine has watched the evolution of American politics over the past 40 years with increasing alarm. He knows he’s not alone. Partisan grid-lock, massive cash contributions and even more massive expenditures on lobbyists have undermined real democracy, and there is more than just a whiff of corruption emanating from Washington. If the nation is to overcome lockstep partisanship, restore growth to the economy and bring its debt under control, Levine argues that it will require a strong centrist third party to bring about the necessary reforms. Levine’s previous book, Shock Therapy For the American Health Care System took a realist approach to health care from a physician’s informed point of view; Resurrecting Democracy takes a similar pragmatic approach, putting aside ideology and taking a hard look at facts on the ground. In his latest book, Levine shines a light that cuts through the miasma of party propaganda and reactionary thinking, and reveals a new path for American politics. This post is cross posted from his blog.