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The new Finance Bill: A mountain of legislative paper, a molehill of reform

Robert Reich, professor of public policy | July 16, 2010

Thursday the President pronounced that “because of this [financial reform] bill the American people will never again be asked to foot the bill for Wall Street’s mistakes.”

As if to prove him wrong, Goldman Sachs simultaneously announced it had struck a deal with federal prosecutors to pay $550 million to settle federal claims it misled investors — a sum representing a mere 15 days profit for the firm based on its 2009 earnings. Goldman’s share price immediately jumped 4.3 percent, and the Street proclaimed its chair and CEO, Lloyd (“Goldman is doing God’s work”) Blankfein, a winner. Financial analysts rushed to affirm a glowing outlook for Goldman stock.

Blankfein, you may recall, was at the meeting in late 2008 when Tim Geithner and Hank Paulson decided to bail out AIG, and thereby deliver through AIG a $13 billion no-strings-attached taxpayer windfall to Goldman. In a world where money is the measure of everything, Blankfein’s power and influence have grown. Presumably, Goldman can expect more windfalls in future years.

Although the financial reform bill may have clipped some of Goldman’s wings — its lucrative derivative business may require Goldman to jettison its status as a bank holding company, and the access to the Fed discount window that comes with it — the main point is that the Goldman settlement reveals everything that’s weakest about the financial reform bill.

The American people will continue to have to foot the bill for the mistakes of Wall Street’s biggest banks because the legislation does nothing to diminish the economic and political power of these giants. It does not cap their size. It does not resurrect the Glass-Steagall Act that once separated commercial (normal) banking from investment (casino) banking. It does not even link the pay of their traders and top executives to long-term performance. In other words, it does nothing to change their basic structure. And for this reason, it gives them an implicit federal insurance policy against failure unavailable to smaller banks — thereby adding to their economic and political power in the future.

The bill contains hortatory language but is precariously weak in the details. The so-called Volcker Rule has been watered down and delayed. Blanche Lincoln’s important proposal that derivatives be traded in separate entities which aren’t subsidized by commercial deposits has been shrunk and compromised. Customized derivates can remain underground. The consumer protection agency has been lodged in the Fed, whose own consumer division failed miserably to protect consumers last time around.

On every important issue the legislation merely passes on to regulators decisions about how to oversee the big banks and treat them if they’re behaving badly. But if history proves one lesson it’s that regulators won’t and can’t. They don’t have the resources. They don’t have the knowledge. They are staffed by people in their 30s and 40s who are paid a small fraction of what the lawyers working for the banks are paid. Many want and expect better-paying jobs on Wall Street after they leave government, and so are shrink-wrapped in a basic conflict of interest. And the big banks’ lawyers and accountants can run circles around them by threatening protracted litigation.

Why do you think Goldman got off so easily from such serious charges of fraud?

Reliance on the discretion of regulators rather than structural changes in the banking system plays directly into the hands of the big banks and their executives and traders who contribute mightily to Democratic and Republican campaigns. The flow of money virtually guarantees that regulatory agencies won’t be adequately staffed to enforce the law, that penalties for violations won’t be overly onerous, and that all loopholes (what’s a “derivative”? what has to be listed on exchanges? exactly how much capital must be on hand for which transactions? How are the various forms of predatory lending to be defined?) will be easily stretched in future years. Wall Street lawyers will have a field day. The profit-for-nothing sector of the economy (law, accounting, finance) will continue to grow buoyantly.

Make no mistake: As long as there’s no fundamental change in the structure of Wall Street — as long as the big banks stay as big and are allowed to grow bigger, and have every incentive to invent new financial gimmicks with which to bet other peoples’ money — they will remain too big to fail, and too politically powerful to control.

Goldman’s share price, as well as those of JP Morgan Chase, Citicorp, Morgan Stanley, and Bank of America, will no doubt soar on the basis of the final bill because their future profits are almost guaranteed. The pay of their executives and traders, and of the managers of hedge funds and private-equity funds they deal with, will likewise accelerate. In the short term the economy will benefit, at least to the extent financial entrepreneurship is now the apex of American wealth and innovation. But over the longer term we will be much weaker for it.

Congress has labored mightily to produce a mountain of legislation that can be called financial reform, but it has produced a molehill relative to the wreckage Wall Street wreaked upon the nation.

Cross-posted from Robert Reich’s blog.

Comments to “The new Finance Bill: A mountain of legislative paper, a molehill of reform

  1. WOW,the new fiance bill,what a snow job.What would one expect from the dimwits on Capital hill.All those fools want to talk about is non issues
    to keep from alienating any potential voter.How bout the economy,economy,economy,jobs,jobs,jobs!and raising the wages of everyone
    nation wide so,more than 1% of the population can buy a new home with 350
    dollars down.My mom&Dad bought a home in Huntington Beach 1965 for
    350 down,the house sold for 24000,wages were around 5 bucks an hour for skilled labor.Now even with the down mkt houses are lets say 300,000 most places in Ca.Divide 24,000 in to 300,000 12.5 times no.Now multiply 12.5
    times by 5 and you get 62.5 bucks per hr.break even wage against inflation
    to live in America.Well I can,t see the powers that have the reigns in there nasty little hands doing the real financial Bills that could make
    real estate worth a twelve times jump, over wages in the last 50 years

  2. It’s amazing how the government steps in to bail out the banks, but it’s the homeowners, for example those that took out Florida home loans to purchase a new property during the boom years, that are in the biggest deficit, triggering the mentality of the “strategic default”. This type of action only furthers the downturn of the economy and the real estate market in this country.

  3. My God,Goldman caused every bubble.How could the system that brought the 08
    meltdown,punish the real perpetrators,how could Henry Paulson be fingered
    for duplicity,the golden boy of Wall street,master of the universe.No NO NO.
    like the not so long ago inside trader,Martha Stuart,neck on the chopping block because,the Players needed a fall guy,the Masters of the universe
    orchestrated with deft and smooth precision.A photo free opportunity in the
    robber barons media cartel, The inside trader small time peanuts player,
    Law breaker, got to go to jail,to show the insipid public, the house of cards
    is lagit.The new fall guy is the peanuts player Bernie Madeoff,masters of the universe back in action,diverting public attention away from the masters of the universe,plausible deniability, sounds like CIA stuff.we
    the oh so gullible can’t see who’s moving the shells,dream on you fools,

  4. It seems to me that we are still in the early stages of a period in the U.S. where the rich are going to get immensely richer on the backs of the rest of us who they need to be good soldiers, good consumers, and to stay in debt. Every politician is going to say they are an advocate for the little guy, the average Joe, but is it really true. The government and all of the ultra-rich that own the banks do “favors” for each other constantly… throughout modern history, has it ever been any different?


  5. Thanks Robert for providing such an insightful analysis of the new Finance Bill. Why can’t more financial writers get their point across like this?

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