There are some aspects of the financial reform bill hammered out over the past week in conference and in back-room meetings that are stronger than many expected going in. There are a few elements that are worse, and a few that are essentially a wash, depending on your perspective and how much you have invested in spinning the results. For instance, to take the Wall Street perspective, who better than the Wall Street Journal?
In two important ways, the agreement is tougher on the banking industry than officials in the Treasury Department anticipated when they first drafted their version of the bill 12 months ago.
Lawmakers agreed to a provision known as the "Volcker" rule, named after former Federal Reserve Chairman Paul Volcker, which prohibits banks from making risky bets with their own funds....
The bill also includes a provision, authored by Sen. Blanche Lincoln (D., Ark), which would limit the ability of federally insured banks to trade derivatives.
Wall Street calls it tough, because any kind of restriction on banksters is going to be tough, as far as they're concerned. One of the toughest, reform-minded Congressional Democrats isn't so sure. "'This bill gets weaker by the day,' complained Sen. Byron Dorgan, D-N.D., the chairman of the Senate Democratic Policy Committee." Dorgan's displeasure is unlikely to be enough to lead him to vote against the bill.
To get a sense of where it all comes down, here's a look at some of the key elements.
CFPA: The Consumer Protection Agency that emerged wasn't as strong as the original contained in the House bill--a fully independent agency, like the EPA. But it's strong enough to have gained Elizabeth Warren's support.
"I'm disappointed that Congress seems to be taking the side of auto lenders and big banks over the Pentagon, community banks, and all the public interest groups that oppose an auto dealer carve-out, and there are some other problems as well," said Warren. "But right now the bureau has the authority and the independence it needs to fix the broken credit market. I keep waiting for an incoming missile that means the banks have won their fight to destroy this consumer agency, but that hasn't happened so far -- and I don't think it will."
As the person who originated the idea of the agency, her blessing, though limited, is a good indicator that it's pretty decent. The Bureau will be housed in the Federal Reserve. The Fed won't have authority over it, but will be required to fund it. What's important in that part of the provision is that it won't be subject to the political whims of Congress--Congress won't be able to cut of it's funding.
Credit rating agencies: Remember the scandal revealed a few months ago, when we found out that the credit ratings agencies, like Moody's and Standard and Poor's "knowingly gave inflated ratings to complex deals backed by shaky U.S. mortgages in exchange for lucrative fees." Al Franken introduce an amendment to stop those bribes. The result:
They’ll now be liable for their negligence like any other trader. A study (one of over 30 in the bill) would have to come up with a way to end the issuer-pays model for rating agencies, and would give priority to Al Franken’s solution of an SEC office assigning the products for initial ratings. Most of the statutory language around mandating top-rated NRSRO products will get excised from the regulatory code.
Volcker: What it was intended to do, as Paul Volcker envisioned, was to have forced banks to stop trading their own, FDIC-insured (taxpayer backed) money to speculate in financial markets. Those are the deposits made by regular customers--individuals, businesses, the like. Volcker's argument was that those funds, backed by the FDIC and securing access for banks to cheap funds from the FED, shouldn't be used as a subsidy for banks to speculate with. How it turned out:
After days of leaks to the news media that the Senate was looking to ease the restrictions, on Thursday afternoon Senate conferees confirmed the rumors: banks could invest up to three percent of their tangible common equity in hedge funds and private equity firms. Tangible common equity -- considered to be the strongest form of bank capital -- is comprised of shareholder equity.
A few hours later, the Senate amended its proposal, changing the metric from tangible common equity to Tier 1 capital. Banks have more Tier 1 capital than they have tangible common equity, so changing the requirement to the weaker form of capital allows banks to invest more of their cash in hedge funds and private equity funds. The concession was confirmed by Steven Adamske, spokesman for House Financial Services Committee Chairman Barney Frank.
Using JPMorgan Chase, the nation's second-largest bank by assets with more than $2.1 trillion, as an example, the bank would be able to invest an additional 40 percent of its cash, or an extra $1.1 billion for a total of $4 billion, in the activities that Volcker wanted to prohibit banks from engaging in, according to the firm's latest annual filing with the Securities and Exchange Commission.
In addition to allowing banks to use more of this capital for speculation, the Senate gave Scott Brown his loophole, carving out exceptions for a specific class of financial institutions, namely "State Street Corp., the nation's 19th-largest bank with $153 billion in assets, and BNY Mellon, the nation's 13th-largest bank with $221 billion in assets." Both banks are in Massachusetts.
There are some limits to how much of our tax-payer backed money banks can take to the casino. On the other hand, it's a stronger provision than was originally in the Senate bill, which was basically telling regulators to study whether they should implement the Volcker Rule. Now it instructs them to study a ban on banks trading their own money, and instructs them to issue rules on how to implement it based on that study, not whether to implement the rules.
Here's Merkley's take, from an e-mailed press release:
“The inclusion of a ban on proprietary trading is a victory. If implemented effectively, it will significantly reduce systemic risk to our financial system and protect American taxpayers and businesses from Wall Street’s risky bets. This is an important step forward from the current system that has placed few limits on speculative trading by either banks or other financial firms. Now banks will be prohibited from doing these trades and other financial giants will have to put aside the capital to back up their bets.
“Unfortunately, there is some danger to the principle posed by a loophole that allows for so-called ‘de minimis’ investing. While the overall Merkley-Levin framework is stronger than either the House or Senate bills, we will now be dependent on regulators to make sure that this exception does not weaken the rule."
Derivatives:This one could almost be categorized a loss, but I'm being charitable. Lincoln's "Sec. 716" proposal, would have forced the big banks to spin off their swaps trading desks into subsidiary institutions, separately capitalized. How did it turn out? David Dayen:
So what have they done? Put half of the trades, the riskiest ones including credit default swaps, onto the separate subsidiaries, while allowing the bank to still trade interest rate and currency swaps as before. This makes almost no sense to me. It bifurcates the market in derivatives and allows plenty of risky trading to still accrue in the bank. Or does it:
Under the agreement banks would only spin off their riskiest derivatives trades. Banks get to keep some of their lucrative business based on trades in derivatives related to interest rates, foreign changes, gold and silver. They could even arrange credit default swaps, the notorious instruments blamed for the meltdown, as long as they were traded through clearing houses. Banks also would be allowed to trade in derivatives with their own money to hedge against market fluctuations.
So basically, Blanche Lincoln lost most of the measure. She rode in on her white horse and just gave up at the end. I’m sure this will position her well for re-election.
Banks will also be allowed to continue "deal interest rate and foreign exchange swaps, 'credit derivatives referencing investment-grade entities that are cleared,' derivatives referencing gold and silver, and the firms would be allowed to hedge 'for the banks' own risk.'"
Swipe fees: My first inclination was to put this one under the win column, but it still leaves some of the most vulnerable consumers in the cold, so while it's an improvement on the status quo, it's not a complete win.
The deal, struck between Sen. Dick Durbin (D-Ill.) and key House negotiators, leaves out some elements that consumer advocates had been fighting for. It allows fees charged to reloadable, prepaid debit cards -- generally used by the poor -- to remain unregulated. And it allows an exemption for states that use debit cards to dole out benefits. But, for the first time, banks and credit card companies will face restrictions on the fees they can charge merchants for the privilege of accepting credit and debit cards.
This was a win for merchants, who pay exorbitant transaction fees to Visa and MasterCard with every swipe of a debit or credit card. In the long run, the savings could be passed on to consumers.
Auto dealers: Used-car salesman got a win. Auto-dealers who offer financing to customers will be exempt from regulation by the CFPB. So that element of predatory lending remains essentially unfettered, despite the best efforts of the Pentagon and the administration. Soldiers are particular targets for the less-honest of care dealers.
Lawyers who defend soldiers against car dealers in lawsuits say they have seen auto loans with rates as high as 25 percent, as well as other harmful practices.
Army Spec. Martin Garcia said that in 2009 he tried to buy a used Dodge Neon from a dealership outside his base at Foot Hood, Tex. He paid $12,000 for the car, putting $2,000 down.
A few days later, the dealer asked him to return to the lot. The managers then informed Garcia that he had to pay another $2,000 because his loan contract was not approved by the lender. Meanwhile, he said, an employee of the dealer parked a car to block the Neon from leaving the lot. Garcia handed over the keys and had to arrange other transportation. He said the dealer sold his car the next day to another customer and kept Garcia's down payment.
Garcia said he filed a lawsuit to try to recover the money.
So if you thought that the Pentagon ruled Congress, they got nothin' on the car dealers.
In other, less prominent issues, Lincoln did get a win for Wal-Mart. Well, for the Walton family, which is the same thing. "She got a special exception to new banking rules for the Walton family's bank."
There's a ton more in the bill. If you want a quick and dirty trad med review of provisions, this one is as good as any.
Prospects for passage, despite the fact that every Republican in the conference ended up voting against the conference report, seem good. Yesterday, Chuck Grassley made some noises about not supporting the bill if Lincoln's derivatives reform didn't come out intact. His vote can probably be spared, unless Scott Brown reneges after getting his carve-out. If Feingold stays true to his word, he'll probably be a "no." The weakened derivatives will recapture the New Dems in the House, so passage there isn't threatened.