Dodd's Financial "Reform" Bill Is Nothing but a Placebo for a Very Sick Economy → Washingtons Blog
Dodd's Financial "Reform" Bill Is Nothing but a Placebo for a Very Sick Economy - Washingtons Blog

Monday, March 29, 2010

Dodd's Financial "Reform" Bill Is Nothing but a Placebo for a Very Sick Economy

On March 3rd, Richard Fisher - President of the Federal Reserve Bank of Dallas - told the Council on Foreign Relations:

A truly effective restructuring of our regulatory regime will have to neutralize what I consider to be the greatest threat to our financial system’s stability—the so-called too-big-to-fail, or TBTF, banks. In the past two decades, the biggest banks have grown significantly bigger. In 1990, the 10 largest U.S. banks had almost 25 percent of the industry’s assets. Their share grew to 44 percent in 2000 and almost 60 percent in 2009.

The existing rules and oversight are not up to the acute regulatory challenge imposed by the biggest banks. First, they are sprawling and complex—so vast that their own management teams may not fully understand their own risk exposures. If that is so, it would be futile to expect that their regulators and creditors could untangle all the threads, especially under rapidly changing market conditions. Second, big banks may believe they can act recklessly without fear of paying the ultimate penalty. They and many of their creditors assume the Fed and other government agencies will cushion the fall and assume the damages, even if their troubles stem from negligence or trickery. They have only to look to recent experience to confirm that assumption.

Some argue that bigness is not bad, per se. Many ask how the U.S. can keep its competitive edge on the global stage if we cede LFI territory to other nations—an argument I consider hollow given the experience of the Japanese and others who came to regret seeking the distinction of having the world’s biggest financial institutions. I know this much: Big banks interact with the economy and financial markets in a multitude of ways, creating connections that transcend the limits of industry and geography. Because of their deep and wide connections to other banks and financial institutions, a few really big banks can send tidal waves of troubles through the financial system if they falter, leading to a downward spiral of bad loans and contracting credit that destroys many jobs and many businesses.

The dangers posed by TBTF banks are too great. To be sure, having a clearly articulated “resolution regime” would represent steps forward, though I fear they might provide false comfort in that a special resolution treatment for large firms might be viewed favorably by creditors, continuing the government-sponsored advantage bestowed upon them. Given the danger these institutions pose to spreading debilitating viruses throughout the financial world, my preference is for a more prophylactic approach: an international accord to break up these institutions into ones of more manageable size—more manageable for both the executives of these institutions and their regulatory supervisors. I align myself closer to Paul Volcker in this argument and would say that if we have to do this unilaterally, we should. I know that will hardly endear me to an audience in New York, but that’s how I see it. Winston Churchill said that “in finance, everything that is agreeable is unsound and everything that is sound is disagreeable.” I think the disagreeable but sound thing to do regarding institutions that are TBTF is to dismantle them over time into institutions that can be prudently managed and regulated across borders. And this should be done before the next financial crisis, because it surely cannot be done in the middle of a crisis.

Fisher joints many other top economists and financial experts believe that the economy cannot recover unless the big, insolvent banks are broken up in an orderly fashion, including:

  • Dean and professor of finance and economics at Columbia Business School, and chairman of the Council of Economic Advisers under President George W. Bush, R. Glenn Hubbard
  • The leading monetary economist and co-author with Milton Friedman of the leading treatise on the Great Depression, Anna Schwartz
  • Economics professor and senior regulator during the S & L crisis, William K. Black
  • Professor of entrepreneurship and finance at the Chicago Booth School of Business, Luigi Zingales

Even the Bank of International Settlements - the "Central Banks' Central Bank" - has slammed too big to fail. As summarized by the Financial Times:

The report was particularly scathing in its assessment of governments’ attempts to clean up their banks. “The reluctance of officials to quickly clean up the banks, many of which are now owned in large part by governments, may well delay recovery,” it said, adding that government interventions had ingrained the belief that some banks were too big or too interconnected to fail.

This was dangerous because it reinforced the risks of moral hazard which might lead to an even bigger financial crisis in future.
Senators Ted Kaufman, Maria Cantwell, John McCain and others are also demanding that the too big to fails be broken up.

But Senator Dodd is trying to push through a financial "reform" which bill won't do anything to break up the too big to fails, or do much of anything at all. It's got a reassuring name and a nice, sugary taste ... but there's no real medicine in it.

For example, Dodd's bill:

As Senator Ted Kaufman points out:

What walls will this bill erect? None.


Just this week, a Moody’s report stated: “…the proposed regulatory framework doesn't appear to be significantly different from what exists today."


In sum, little in these reforms is really new and nothing in these reforms will change the size of these mega-banks.

Our economy is really sick, and the cure is well-known. But Dodd is offering nothing but a placebo.


  1. In a scolding contrarian tone -demonstrating the author of this blog does indeed have two sides to his brain, both seemingly functioning unaware of the other, this article makes an almost humanitarian appeal to end the TBTF banks.

    Good. The TBTF banks are not the problem, is my conjecture. My conjecture is that the TBTF banks are a symptom of a much bigger -ethical- problem.

    So -let us back up a wee bit, eh? -for perspective. Where did the TBTF banks come from? Answering this question may shed some important light under this otherwise gloomy and darkened bushel basket.

    Clearly the GW Bush Administration had something to do with the final conception and creation of the TBTF banks. The spawning of the final production-model of the TBTF banks seemed to be a long-running theme of the GW Bush guys.

    The final red-carpeted ta-dum was delivered by Hank Paulson, when he proclaimed that the TBTF banks needed three-quarters of a trillion dollars -instantaneously- -something no question should delay- due to some -entirely unforeseen- and-of-course -entirely natural- event cooked-up-by the GW Bush Administration in the waning hours of their plodding, but effective rule. (After all, the TBTF banks have received many-times the three-quarters of a trillion dollars Hank blushingly proclaimed so utterly world-threateningly urgent.)

    You don't mean, -God! First 9-11? And now you're telling us Honest Hank Paulson also lied? I'm shocked. Dismayed. Incredulous!

    Treasury Secretary Hank Paulson in effect delivered too-often-prayed-for 9-11 event for the culmination of the greatest financial coup d'├ętat in financial history. In fact, Hanky-ol'-boy hadn't just -seen- the wolf. Hank is one of the wolves.

    Oh God! A depression REALLY -is- a wonderful time to be filthy stinking rich. And it excuses all the confabulating antics necessary to get there too, -apparently-.

    But these little things don't come about in a vacuum. Let's see if we can see anything in the crystal ball of history that might help us out.

    The financial arms race of the TBTF banks began long before GW Bush. Its roots go back into Daddy Bush's Administration, through the Ronald Reagan Administration, the Gerald Ford Administration, and then peering deeper into the netherworld of history -we stumble across this odd, insecure, miserly character, one Richard Milhous Nixon.

    Tricky Dick, -at least one person reading here might remember-, is the one who opened up Red China to western trade. You must see where I am going with this. Oh -what a tangled web we weave, eh?

    So, -that- more or less brings us all up to the present, especially if we add a small historical footnote by describing the humanitarian ethics of this group -that further traces its roots back to the Opium Wars originally meant to keep China open to western plundering.

    No one in the government is really serious about reining-in the TBTF banks. They all have been briefed by the war department, which is on a war-footing, (is it ever not on a war-footing? -Not in my lifetime.)

    Here's an article that will bring you all up to date, right to the last minute concerning why the TBTF banks were conceived and by whom the Teflon Rules of their conception were inscribed before being brought down from the mountain on a stone tablet.

    "Bank of America Will Expand China Business, CEO Moynihan Says March 24, 2010"

    The humanitarian side of this blog-author's brain will be somewhat settled considering -the alternative-, -trying to digest the idea of possibly having coast to coast, from sea to shining sea -as it were -an slue of Industrial & Commercial Bank of China- branches, ATMs and abacus-wielding-pigtailed-tellers running the money-show here in the U.S.

    I told you we'd find light under this bushel basket. Now. if we weren't -all- so blind, the light might actually help some.

  2. Although the regulators have a significant role to play, it appears that the public in general also have to do their part. People have to take responsibility instead of always pointing fingers.


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