Dodd’s Financial Services ‘Reform’ Would Mean More Bailouts

Sen. Christpher Dodd, D-Conn.The word “reform” in the age of Obama has taken on a clear meaning: aggressive expansion of government control over economic decision-making by businesses and consumers. The recently-passed health care bill, rammed through Congress via highly unorthodox parliamentary procedures, is evidence enough of that. Yet even supporters of new financial services reform legislation now before the full Senate may be hard-pressed to explain how the mammoth 1,336-page measure is supposed to improve efficiency and integrity in credit markets. The bill’s most likely legacy, if passed into law, would be the creation of powerful federal bureaucracies that in the long run not only would fail to avert future banking crises, but may well increase their likelihood. The House of Representatives, led by Rep. Barney Frank, D-Mass., passed its own somewhat different package last December 11 by a 223-202 vote.

The Senate bill, unveiled last Monday, March 15, is called the Restoring American Financial Stability Act of 2010. The brainchild of Christopher Dodd, D-Conn., chairman of the Senate Committee on Banking, Housing and Urban Affairs, the measure would create the equivalent of a revolving bailout for failing Wall Street and banking institutions. It also would impose severe controls on banks and other suppliers of credit. If it’s any credit to Dodd, the committee-passed version may be even more restrictive than the original draft. With almost breathtaking “let’s-get-it-done” speed that would do President Obama proud, the committee this Monday evening approved the measure in a party-line 13-10 vote, rushing the bill to the Senate floor after a markup session of barely over 20 minutes.

One hopes that lawmakers will have full opportunity to vet the bill’s contents. Don’t count on anything more than minimal cooperation from Senator Dodd, however. In almost menacing fashion, he stated: “If they (Republicans) want to reject this bill for whatever false reasons they come up with, they’ll have to bear the responsibility of having it happen again when they were given a chance to correct it. So we’ll see how they respond, and I hope they don’t make the same mistake they made on health care.” Translation: “Get in our way, and we’ll mow you down.”

For the last few years, Senator Dodd, a five-term senator who for a while was a 2008 presidential candidate, has been stoking the fires of progressive-populism against the financial services industry. “Greedy bankers” has proven to be a real crowd-pleasing phrase, as have been “huge bonuses” and “shady accounting.” With Barack Obama in the White House, buoyed by huge Democratic majorities in the House and Senate, Dodd last November introduced a financial services reform draft measure. The new bill reflects subsequent input into that draft. Republicans had proposed more than 400 amendments prior to markup, but decided against introducing them.

The proposal is an unabashed attempt to bring virtually the entire financial services industry under federal heel – the portion not already under it. Among key features, the bill would:

Create a Consumer Financial Protection Bureau (CFPB). To be housed within the Federal Reserve System, this agency would have its own staff, rule-making authority and enforcement powers separate from the Fed to examine financial institutions with $10 billion or more in assets. Though the measure purportedly would protect consumers from lender abuse, it would give this agency sweeping new powers with few restraints. It’s a classic case of overkill.

Create a nine-member Financial Stability Oversight Council (FSOC). This open-ended regulatory entity would have the authority to put into federal receivership (or “draft”) any financial institution it deems too risky. The Federal Reserve at that point could order that institution to break itself up, cease selling certain financial products, or liquidate its assets. FSOC also would recommend to the Fed various steps to tighten liquidity, capital standards and other requirements.

Enact “the Volcker Rule.” Named after former Federal Reserve Chairman Paul Volcker, currently chairman of the Obama administration’s Economic Recovery Advisory Board, this provision would restrict banks from making certain kinds of speculative investments, such as hedge funds and derivatives trading, not made on behalf of customers. First proposed by President Obama this January, though initially opposed by Dodd, the rule also would force greater public disclosure by banks in its allowable derivatives trades. This is one of the few areas of the bill that limits without shackling.

Provide a revolving emergency loan fund. This portion of the bill amounts to a permanent counterpart to the Troubled Asset Relief Program (TARP). TARP is the emergency $700 billion loan and asset purchase bailout legislation cobbled together during the early fall weeks of 2008 by Bush administration officials, most of all Treasury Secretary Henry Paulson, and quickly passed by Congress. This new fund might well go by the acronym “PARP” — as in permanent asset relief. It would set aside up to $50 billion at any given time for “emergencies” – that is to say, situations which Congress decides is an emergency – and either close or restructure financial institutions that are failing or at risk of doing so. Upon a consensus by the Fed, the Treasury Department and Federal Deposit Insurance Corporation (FDIC), unstable institutions would be turned over to the FDIC. This provision gives new meaning to the term, “too big to fail.” Anyone who believes that the people in charge of this fund won’t base their decisions on political considerations is not living in the real world. FDIC simply lacks the manpower and experience to make decisions concerning complex institutional failures of an often transnational nature. Favoritism will enter the picture.

The Obama administration, predictably, has thrown its full support behind the Senate bill. “This is a good day for the cause of financial reform,” said Treasury Secretary Timothy Geithner following committee approval. “I would like to commend Chairman Dodd for his leadership over the past year and his committee, which today voted a strong reform bill to the floor.” By contrast, Senator Bob Corker, R-Tenn., though expressing a willingness to work with Democrats, notwithstanding had strong words for Dodd and others determined to race legislation onto the president’s desk. Corker remarked: “It is pretty unbelievable that after two years of hearings on arguably the biggest issue facing our panel in decades, the committee has passed a 1,300-page bill in a 21-minute, partisan markup. I don’t know how you can call that anything but dysfunctional.” Richard Shelby, R-Ala., Ranking Minority Member on the Senate Banking Committee, likewise expressed irritation prior to the rapid-fire committee vote: “Forcing the Banking Committee to vote on this proposal in a single week is unrealistic and undercuts the potential for bipartisan agreement. Strong reform should not fear scrutiny.”

There is a certain irony that Chris Dodd is behind the “reform” of incompetent and/or corrupt financial services institutions, for he has his own ethically-challenged paper trail. In the summer of 2008, the news broke that Dodd had received a pair of “sweetheart” loans through eventually collapsed subprime lender Countrywide, now a ward of Bank of America, through its “V.I.P. Program.” That company’s departed CEO, Angelo Mozilo, is now the target of a Securities and Exchange Commission civil suit in Los Angeles federal court for taking $139 million in unauthorized stock option-related profits during 2006-07. Yet Dodd in 2007 denounced “predatory, abusive and irresponsible” practices of subprime lenders. For good measure, Dodd also admitted early in 2009 that he’d inserted language into the Obama-driven $787 billion “stimulus” bill passed by Congress allowing $165 million in highly unpopular bonuses to executives of the bankrupt AIG, now 80 percent taxpayer-owned; Dodd claimed that President Obama made him do it. As a further note of irony, Dodd’s chief counsel, Amy Friend, the very person who led the committee overhaul, bought $1,000-to-$15,000 stakes in Morgan Stanley, Wells Fargo, AIG, Fannie Mae, Freddie Mac and other corporations, just weeks after Dodd hired her in early 2008. In July of that year President Bush signed into law Dodd-sponsored legislation expanding federal oversight of housing finance agencies.

But the ultimate scandal is not Dodd’s qualifications to oversee a legislative overhaul of this magnitude, suspect as they are. It’s that this overhaul is taking place at all. Nobody denies banks lent recklessly during the past decade, practices made worse by aggressive purchasing and securitizing of loans by Fannie Mae, Freddie Mac and other “secondary” lenders to institutional investors, both here and abroad. To be sure, Morgan Stanley, Merrill Lynch, Lehman Brothers, AIG, Bank of America and many other financial intermediaries have a lot to answer for. National Legal and Policy Center hasn’t pulled any punches in its criticism of such companies. But command-and-control regulation envisioned by the Dodd bill is a cure far worse than the disease, triggering major misallocations of resources. Rewarding political allies and punishing enemies would become prime criteria for making business decisions. Much of the recklessness this past decade by banks and brokerage houses, as recent books by Charles Gasparino and Thomas Woods explain, had been fueled by government mismanagement. Why risk another round of collapses?

If a corporate institution can’t succeed in the market, it should seek protection under Chapter 11 of the federal bankruptcy code, not allow itself to be commandeered by one or more federal agencies in the name of “stability.” Washington’s bailout culture has been going full steam for a year and a half. We’ve seen how quickly it’s swallowed a huge part of the auto industry under the guise of “rescuing” it. The financial services bill under consideration in the Senate would accelerate this onerous trend. On January 21 of this year, President Obama, in announcing the Volcker Rule, stated his intention to end the mentality of “too big to fail.” One doubts if he believes it.  His support of the Dodd bill is evidence enough of that.