There are dozens of ways, and hundreds ideas on how to stop the abuses in the US banks, US President Barrack Obama has chosen three, many believe, including me, that he is all wrong:
1. No proprietary trading
2. No owning or sponsoring (backing) hedge funds or private equity
3. A artificial limit on size for banks that take public deposits
Since Y 1999, some very wrong decisions have flowed out of the US Congress and the Greenspan Federal Reserve, and taken by a greedy public with an appetite for cheap debt that lead to America’s over consumption. There is no question that some banking reformation is called for in the USA now.
The US President’s announcements (attacks) do not get to the root of the problem IMO.
The US and other Western banks acted like any other borrower when presented with cheap debt: they borrowed what the could, that often got them at astonishing 60+ times geared, and then they found ways to use it to make large money.
The lenders to the those banks exercised no control, because they correctly assumed that they would be bailed out if and when the banks failed, frankly because this activity appears to have been sanctioned by the US Congress, the Administration/s and the US Federal Reserve during the time between 1999 and 2007.
The best way to fix this problem is to allow the bad banks to fail. When this is put in place, the market will then control the banks, by increasing their cost of borrowing when they take bigger risks.
If investors fail to control the banks they invest in, the Big Bad Bank can go bankrupt, as smaller banks do.
Bondholders then would lose the bulk of their money, as their bonds convert into equity, either by making all bonds convertible, or through laws requiring conversion of the bonds if a bank fails. In such a case investors will demand more return to buy these nows riskier bonds, and that means the banks will be paying their true cost of capital, something that will lead to lower profits and lower bonuses, and probably a return to a smaller finance sector, where savvy people may choose to work in places other than on Wall Street or the City in London.
But Mr. Obama has taken a different path: instead of forcing the market to take control of the banks, he wants the State to do it, through limits on what the banks can do.
Most of the folks that I know call this action the “Socialized” route (the opposition), but whatever you call it will surely be less successful than the market solution, since it assumes that banks are too big to fail and always will be. The current crisis was not caused by proprietary trading, was not caused by hedge funds, and was not caused exclusively by deposit-taking banks: Goldman Sachs and Morgan Stanley converted into commercial banks, after all, in order to be bailed out, while Bear Stearns was not allowed to fail in spite of being a relatively small investment bank with no deposits.
There might just be some merit in Mr. Obama’s plan, if his earlier US$90B 10 yr bank levy was made permanent, as an alternative to the market solution: if you accept banks are always going to be too big to fail, the risk to the taxpayer needs to be reduced too, but of course this is not the “best” solution, and reliance on federal regulation has a very spotty history indeed as most of us realize (and likely they do too, but they are out to appease their constituencies first aren’t they?
I believe that US President Obama will eventually realize that both the Wall Street Journal and the FT of London dislike the plan, although the WSJ notes that it shows President Obama at least understands the problem of moral hazard. There is virtually no indications, however, that the ideas are properly understood in the UK and that is a must considering that the link between Wall Street and The City is tight.
If the US Treasury had a clear understanding of moral hazard, the relatively small Northern Rock should have been allowed to fail in the 1st place, along with other underwater mortgage banks, which eventually had to be rescued in spite of the Northern Rock action, and there is no way a minor Scottish building society with no systemic implications would have been bailed out in the UK.
This then is the State vs. the Markets debate again, and I believe that the political parties have not woken up to that yet or if they have they are making a very strategic play. If you saw the televised White House meeting on Friday the Dems were licking their chops and seeing a popular response from their voters in the November elections.
The Big Q is this: Where with US Republicans
US Senators Christopher Dodd and Richard Shelby, who are negotiating a US Senate bi-partisan compromise on the financial reform bill, said Sunday while they do not have a deal yet they are “getting there” on resolving some of their differences.
“We’re conceptually very, very close,” Shelby of Alabama, the top Republican on the Senate Banking Committee, said Sunday in an interview on NBC’s “Meet The Press.”
Senator Shelby said that while he and Senator Dodd, who brought the Bill up, will continue to work on it today, However, he doubts they will reach agreement by tomorrow, when the US Senate is scheduled to hold a test vote that will determine whether lawmakers can begin considering the Bill on the Senate floor.
Both Senators Dodd and Shelby have been working on and off since last year to try to bring about a compromise on the legislation, which is based on a proposal released last year by President Obama and is a top legislative priority.
The US Senate Democrats, who control the Senate with a 59- 41 majority, would need the support of at least one Republican to get the 60 votes needed to proceed.
Senator Dodd said that he hopes that tomorrow we can get those votes; we may not, but I hope we do because we need to move forward and they are key.
If there’s no deal by tomorrow, the US Republicans will stand united in voting against proceeding to the Dodd proposal. Republicans say blocking the vote would give them leverage to force Dodd to make concessions. Democrats may use the vote to say Republicans are obstructing reform of Wall Street.
The Senate Banking Committee led by Senator Dodd approved
the Bill on a partisan vote in March and the House approved
its version of the Bill in December.
A Council of Regulators
Senator Dodd’s Bill would create a Council of Regulators to monitor the financial system for systemic risk, create a Consumer Protection Bureau (CPB) at the Federal Reserve, and create a manner for dissolving the biggest financial institutions when their failure would disrupt the economy.
Republicans have targeted their criticism on a proposed industry
supported US$50B fund to cover the government’s cost of taking
apart a failing company, saying it would constitute a permanent
bailout of Wall Street. Senator Dodd said he is willing to consider
Republican Senator Bob Corker (TENN), a ranking member
of the US Senate Banking Committee who helped write this
section of the Bill, said he plans to offer an amendment to the
measure that would penalize executives of the liquidated firms. ....
Republican Senator Bob Corker (TENN), a ranking member of the US Senate Banking Committee who helped write this section of the Bill, said he plans to offer an amendment to the measure that would penalize executives of the liquidated firms.