A little bit of Wall Street reform

Robert Weissman

Four hundred forty-two days after Lehman Brothers declared bankruptcy, the US House of Representatives has finally passed financial reform legislation.

The long delay between the onset of the financial crisis - a direct consequence of a quarter century of deregulation - and the passage of Wall Street Reform and Consumer Protection Act of 2009 did not well serve the cause of reform.

As time passed, public anger over the Wall Street bailout became more diffuse. And Wall Street relentlessly continued its campaign to undermine meaningful efforts at reform.

The bill passed today contains some positive measures, but it does not do nearly enough to rein in the Wall Street banksters. It is wholly incommensurate with the devastation Wall Street has wreaked across the land and planet.

Most importantly on the positive side, the bill creates a powerful financial consumer watchdog agency. Had the Consumer Financial Protection Agency existed during the go-go years earlier this decade, it could have prevented millions of consumers from being ripped off - and protected the banks from themselves. The financial crisis would have been significantly less severe.

The bill also contains some modestly beneficial provisions establishing liability for credit ratings firms, regulating derivatives and imposing leverage limits on the largest institutions. And it includes an important measure for a comprehensive public auditing of the Federal Reserve.

But there are huge holes in the legislation. Wall Street successfully maneuvered to keep most of the important big picture reforms off the table.

The bill does very little to address industry structure. Wall Street and the big banks engaged in reckless betting under the belief that they were too big to fail - that they were protected by a federal backstop. The biggest banks are now even bigger than they were before the crisis. The solution to the too-big-to-fail problem is to break up the big banks, so that the system can absorb their failure. The bill fails to impose limits on bank size.

Many news accounts misleadingly highlight that the bill gives regulators the authority to break up big financial institutions. The bill does confer that authority - but only upon a finding of a “grave threat to the financial stability or economy of the United States.” It is extraordinarily unlikely that regulators will ever reach such a finding.

A related problem is the intermixing of commercial and investment banking in single firms and resultant excessive risk taking by federal insurance-backed commercial banks. The bill fails to separate commercial and investment banking, as the Glass Steagall law did before repeal in 1999, or otherwise address this problem.

Financial derivatives and other exotic instruments - labeled by Warren Buffett as weapons of financial mass destruction - fuelled the crisis. The bill contains very modest regulations over financial derivatives but leaves more than a quarter of the market free from regulation and contains loopholes to enable another substantial chunk to escape regulatory control.

Even for derivatives covered by the bill, the new rules are very limited. The bill does not establish a regulated exchange for derivatives trades. It does not ban financial instruments that do little more than enable high-stakes gambling. And it does not require the purveyors of derivative instruments to prove that the benefits of their new products outweigh the costs and risks to the financial system. -

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