Bankers Plead; Will The Fed Shrug?

We’ll never be able to stop crony capitalists as long as we continue with our present system. This report of a Wednesday meeting at the NY Fed is not the first one and no doubt will not be the last: 

Goldman Sachs Group Inc. Chief Executive Lloyd Blankfein, J.P. Morgan Chase & Co. CEO James Dimon, Bank of America Corp. CEO Brian Moynihan and Morgan Stanley CEO James Gorman arrived [at the NY Fed] with a list of items they hoped to address, including the proposed Fed rule that would limit net credit exposures between any two of the nation’s six largest financial firms to 10% of a company’s regulatory capital. The banks contend that rule could harm the financial system.

The meeting at the Fed’s building began around 11 a.m. Some CEOs arrived via an underground garage with a police escort, and they all gathered in a 10th-floor room. Also attending were Richard Davis, chief executive of U.S. Bancorp, and Jay Hooley, CEO of State Street Corp. Citigroup Inc.  CEO Vikram Pandit was invited but was traveling in California and didn’t attend.

“It’s great that people get together and collaborate, talk about the facts and the analysis, all in the interest of having a great financial system,” Mr. Dimon said before the meeting. “The better we do here, the better it will be for the U.S. economy.”

“Legislators and regulators make policies, which is appropriate,” said Goldman’s Mr. Blankfein. “But we are experts in our industry and feel a duty to advise as to what we think are the consequences of decisions and trade-offs, to the markets and to the economy. In this regard we made some points and suggestions in an effort to improve the outcome.”

These crony capitalist bankers made their point when they descended on the Fed to plead relief from regulation, specifically from certain requirements of the “Volcker Rule” which attempts to limit banks’ ability to take risks. Whatever the “good” intentions of the regulators were in reining in the big banks through Dodd-Frank, the banks are fighting back hard and have some legislators on their side.

Here is the problem: the system that created our current depression has not changed. The Fed will provide enough fiat money to juice the economy into another bubble, risky banking practices still prevail, banks are assured they will be bailed out if they fail, and depositors are told their accounts will be insured by the government.  Until these rules of banking are completely changed, we citizens and taxpayers remain at substantial risk.

Let me make the issue clear. The government and the Fed have created a banking system that concentrates power into the hands of a few crony banking capitalists, a power that puts the economy and investors at great risk because of their influence on Congress, the White House, and governments of other wealthy countries. This system would not exist in a world of free market banking, especially if we were allowed to use gold as money. But through their influence on politicians who fail to understand economic issues, they can perpetuate their power.

It would be an understatement to say that the Daily Capitalist is opposed to economic regulations that have created our current banking megalopoly. It isn’t banking that we object to, but rather the extensive system of regulations that have made the banking system what it is today. Bailouts are the one of the worst things that has come out of the Great Recession because these “systemically important” banks know that they will always be rescued by the government from the consequences of their bad judgment. Moral hazard and all that.

So, how do we deal with the problem?

The solution would be to deregulate much of banking, adopt a gold standard, allow free banking, and let banks’ investors take the risk of bad banking practices. This is too complicated of an issue to discuss here, but, yes, the market would evolve to develop banks and insurers which would protect depositors’ money. You will have to assume that free market advocates have thought this through and that history and theory would bear this out.

Until that happens, under the existing system it is reasonable to require banks to have more capital at risk, to try to limit risks to depositors’ money, to limit inter-megabank cross investments, to limit proprietary investments (similar to Glass-Steagall), and to raise Tier 1 capital ratios. Some of these solutions are known as the Volcker Rule, a set of rules outlined in Dodd-Frank and left to the bureaucrats to flesh out.

The megabanks have been complaining loudly about these new proposed rules, saying that it would harm banks and the economy, driving many banks to relocate overseas. Nothing could be farther from the truth. Everyone knows there are sufficient banks in this country to serve the financial needs of businesses and individuals. If some megabank chooses to offshore, then fine, let them go. The financial system will respond to fill in those gaps. 

But even if the Volcker Rules are adopted, I am skeptical about the ability of the government to implement them and effectively regulate the banks. The Wall Street-Washington Financial Complex is a powerful self-sustaining system. These megabanks will always find ways to counter regulations by influencing legislators and regulators. Politicians will always find a way to sustain their power, by introducing repressive laws and later “succumbing” to the bankers’ pleas (as well as large campaign donations) for more “reasonable” rules.

A writer wrote a book about this once. The ending of our story won’t be so happy.