Issue of the week: The shape of financial reform

last updated 8 January 2015

Sen. Christopher Dodd has finally showed his cards, said Alison Vekshin in Bloomberg.com. After months of hearings, special-interest lobbying, and partisan maneuvering, the chairman of the Senate Banking Committee this week unveiled a financial reform bill that proposes “the most sweeping rules overhaul since the 1930s.” The measure would put the Federal Reserve in charge of overseeing all banks with assets of $50 billion or more (about 35 banks), as well as large “non-bank” financial firms whose failure could threaten the financial system (think AIG). The bill, or something close to it, stands a reasonable chance of passage: Sen. Richard Shelby of Alabama, the ranking Republican on the Banking Committee, said he and Dodd “conceptually agree on 85 or 90 percent” of the reform. The financial services industry’s opinion on the matter, though, is best expressed by the stock market—where bank shares sank after Dodd introduced his bill.

“If Wall Street hates it, it can’t be all bad,” said David Weidner in Marketwatch.com. Big banks deplore the “restrictive architecture” in Dodd’s plan, which includes a version of the so-called Volcker rule that bans banks from speculating with their own capital. They are also chafing at a provision that would set up a nine-member committee, chaired by the treasury secretary, to monitor the financial system for the kind of risky trading and reckless lending that contributed to the financial crisis. But Dodd doesn’t seem worried about the grumbling from Wall Street. The Connecticut Democrat is not seeking re-election, and with his 35-year run as a senator winding down, he’s no doubt thinking about how he’ll be remembered. “He doesn’t want his legacy to be the credit crisis and the Great Recession.”

What a shame, though, that this was the best he could do, said Peter Morici in RealClearMarkets.com. In particular, the notion that a risk-oversight committee would “head off future debacles” is in serious need of a “reality check.” Before the 2007–08 crash, the Treasury and Fed knew banks were borrowing heavily to buy risky mortgage bonds, yet they did nothing to stop the madness. Why should we think the bureaucrats would be more prescient next time? The same question applies to the Fed’s bank examiners, said Dennis Berman in The Wall Street Journal. Before the financial meltdown, the examiners “were literally working inside the nation’s rotting banking system,” where they got an up-close view of disastrous lending and investment decisions. Despite their “oversight,” Citigroup, Wachovia, and dozens of smaller banks blew up. New rules can only do so much. As former Fed examiner Mark Williams put it: “The Fed has a peashooter to the AK-47s of Wall Street.” Unless the examiners are given more powers and better technological tools, history could easily repeat itself.