The current financial regulation bill that's scheduled to pass Congress this week - with free-market fanatic Rep. Jeff Flake voting no a thousand times if he could - is better than nothing, though an economist as shrewd as MIT's Simon Johnson has called it a failure. It does improve consumer protection a bit, restrict some speculative investment by banks with their own money and establish limited federal oversight of derivatives.
But, as Paul M. Barrett's New York Times Book Review critique of Crisis Economics: A Crash Course in the Future of Finance, the new book by the prescient Nouriel Roubini ("Dr. Doom") and Stephen Mihm indicates, this bill - however well-intentioned - is disgustingly inadequate, a mere halfway measure. Barrett says Roubini's proposals for real reform "aren't all politically feasible, but that doesn't make them any less sensible."
So, let's talk sense to the American people even if the voters in Arizona's Sixth Congressional District wouldn't recognize sense if it bit off their moronic heads. From Barrett's review of Roubini and Mihm (emphasis ours):
Roubini begins with an indisputable paradox. The government’s emergency rescue plan — the distasteful but necessary Wall Street bailouts and deficit-enlarging stimulus spending — staved off global depression and brought about a dramatic stock market recovery. It also drained whatever fleeting political will existed to rein in Wall Street in a serious way. The surviving megabanks have brazenly paid out record bonuses, even though they owe their very survival to taxpayer largess.
Let’s start with those fingernails-on-the-blackboard bonuses. Roubini notes that the main problem isn’t their size, grating as that may be. The real trouble is that investment bank traders are paid huge bonuses for making reckless bets that yield short-term returns. They aren’t penalized when their gambling ultimately costs their employers money (or drives the firms out of business). This leads to a casino culture lacking common-sense caution. One potential remedy: put bonuses into a pool held in escrow for several years. If a trader’s record proves solid, he or she gets a payout. If not, the bonuses are nullified. Greater prudence would kick in, and, not coincidentally, overall compensation would shrink.
Only government could impose across-the-board pay reform. Since Wall Street would have collapsed without the taxpayer-financed rescue, Roubini says, Congress should have mandated a bonus-escrow system as a condition of the bailouts. Mesmerized by Wall Street campaign dollars and terrified of being branded “socialists,” lawmakers never seriously considered the idea. It didn’t help that President Obama surrounded himself with bank-friendly economic advisers like Lawrence Summers and Timothy Geithner.
The sorry performance of the three major private credit-rating agencies — Standard & Poor’s, Moody’s Investors Service and Fitch Ratings — played a critical role in the financial mess. Over and over, they stamped AAA ratings on the sausage-like securities made up of poisonous minced mortgages. Congress has debated imposing modest new requirements that the rating agencies make their operations more transparent. Roubini demands more drastic action. He would have government end the tradition of the sausage-making investment bankers paying the raters for their grades, a whopping conflict of interest if ever there was one. Roubini recommends that the agencies should be limited to accepting pay from investors in securities. Further, he urges a smart deregulatory move: removal of the agencies’ certification by the Securities and Exchange Commission as “nationally recognized statistical rating organizations.” This publicly blessed oligopoly, intended to maintain high standards, has only inhibited competition that would bring down the price of security-rating services.
Lawmakers have been debating provisions that would shed some additional light on the opaque market in derivatives. Those are the voluminous Wall Street deals that were supposed to dilute risk by spreading it but instead contributed to a risk epidemic. Heck, Roubini writes, let’s just identify the most dangerous ones and ban the suckers. He nominates credit default swaps, the quasi-insurance policies sold by American International Group, among others, which paid off when designated bonds went bad. Since we don’t allow people to insure their neighbors’ houses against fire, for fear of encouraging arson, why allow traders to bet on bonds blowing up? We shouldn’t.
Eliminating all bad loans will never happen. Since banks will always make mistakes, Roubini argues, they should be required to retain more capital and maintain higher levels of liquid assets (cash and securities that can be sold quickly). The legislation under consideration by Congress would authorize regulators to stiffen capital and liquidity rules. But the legislation would leave it to regulators to provide specific numbers. Roubini wouldn’t give the civil servants so much discretion.
Capital requirements are connected to Roubini’s most radical suggestion. He would force financial conglomerates to retain capital relative to all the risks posed by their various units. “This requirement would reduce leverage and, by extension, profits,” he writes. “Ideally, sending the message that bigger isn’t better would lead these firms to break themselves up.”
That’s right, break themselves up. Unfortunately, the implicit assumption that some banks have grown “too big to fail” has become explicit. Roubini maintains that we should pressure the biggest of them to contract, until they’re small enough that their demise wouldn’t bring down the rest of Wall Street.
With the federal safety net removed, an organization like Citigroup would act more prudently. Repeatedly rescued by the government since the Great Depression, Citigroup shouldn’t continue in its current unmanageable form, Roubini asserts. “Any bank that needs that much help doesn’t deserve to exist.” If Citigroup’s board of directors doesn’t share this view, the N.Y.U. economist advocates legislation that would authorize regulators “to break up banks and other financial institutions that are so large, leveraged and interconnected that their collapse would pose a danger to the entire financial system.” The plutocrats might well perk up and do the job themselves.
Dr. Doom operates far beyond the horizon of what most experts consider plausible. Based on his track record, we would be wise to catch up to him.
Free-market fanatics like Jeff Flake and his even more moronic Republican primary opponent (at least Jeff Flake is smart about some things) can't abide any government regulation, even the halfway measures in the current legislation, and even liberals are loath to rein in the financial fat-cats who fund their campaigns (this means you, Senator Schumer). But as a Green Party campaign, we're free to support "politically unfeasible" ideas that actually would work.
