Financial Reform's Politics

by John M. Curtis
(310) 204-8700

Copyright April 26, 2010
All Rights Reserved.                                

                Washington’s competing political interests meddled again in the current financial reform debate, where party lines had little to do with the last financial collapse paralyzing the U.S. economy.  Wall Street’s politics revolve around greed, not political parties, despite the current debate, like health care, that has more to do with looking ahead to November’s midterm elections.  Republicans worked overtime but failed to hand Barack a defeat on health care reform.  Now the focus shifts to financial reform designed to prevent another financial collapse that has thrown 8 million taxpayers into unemployment lines.  Both parties know that Wall Street’s current way of doing business can’t continue without lasting damage to the U.S. economy.  Today’s reform requires both parties to get on the same page.  With the two parties looking to November, both sides are guilty of playing politics.

            When banks ran out of cash in 2007, both Democrats and Republicans were equally affected and equally guilty for permitting the indulgences that broke the system.  Regulatory reform took a wrong turn in 1999, when former President Clinton and Congress jumped on the bull market bandwagon, tossing out Depression-era Glass Steagall Act, permitting bank holding companies to once again invest large amounts of depositors’ capital in risky stock market investments.  Democrats and Republicans alike must put partisan differences aside to fix the current broken financial system.  Recent revelations at Wall Street kingmaker Goldman Sachs, especially the Securities and Exchange Commission civil fraud suit, helped push financial reform to reality.  Both parties agree that Goldman’s devious ways can’t allow the U.S. financial system to go into another nosedive.

            Republicans bristled at the notion of consolidating more power into the U.S. Federal Reserve, bashed, during the past few years, for encouraging the kinds of big government bailouts that exploded the national debt. Both Democrats and Republicans want banks to have a higher percentage of operating capital shielded from high-risk stock market investments.  Goldman Sachs’ derivative trading raises some real issues regarding the nature of bank holding companies.  Allowing banks to invest too much capital in risky stock market securities paved the way for the massive bank bailouts seen during the waning days of the Bush administration and beginning months of Obama’s term. Republican’s claim that they oppose the Democrats’ reform bill because it leaves the door open for more bailouts.  When the banks run out of cash, the Federal Reserve must have viable options.

            No one wants to continue letting banks get into the same hot water with risky derivative investing.  While there’s an upside to risky investing, namely, big profits, there’s a far greater downside as seen in the last financial meltdown.  When Congress passed Gramm-Leach-Bliley in 1999, it allowed banks to jump into the raging bull market.  Back then, investors could do no wrong, at least while markets lurched upward.   When Long Term Capital Management ran out of cash in 1998, the New York Federal Reserve had to step in to bail them out.  Then Fed Chairman Alan Greenspan was worried about a domino effect on the overall stock market.   When markets sold off in March 2000, the same hedge funds, made a killing shorting tech stocks.  That same risky strategy duplicated itself in the latest market collapse, prompting Congress to implement real financial reforms.        

            Neither Democrats nor Republicans deal in current reform legislation with the largely unregulated hedge fund industry.  “There are a number of things (in the reform) thay could curtail some of  (the banks) more profitable activities, particularly what relates to derivative and proprietary trading,” said Joeseph Battipaglia, market strategist with New York investment firm Stifel Nicolaus.  Battipaglia worries about not doing enough to rein in the hedge fund industry, that finds itself betting against the market’s long-term growth.  As long as hedge funds bet against the market, it’s going to be difficult to see consistent long-term upward growth.  Since shorting tech stocks in 2000, the markets remain at less than 50% of its 2000 value.  Goldman CEO Lloyd Blankfrein continues to deny that Goldman customized failed derivative investments to their short-selling hedge fund clients.

            Democrats and Republicans know that meaningful financial reform must include reining in currently unregulated hedge funds.  Forcing banks to spin off derivative trading units doesn’t go far enough in preventing depositors’ cash from the kind of wild speculation that led to the last financial disaster.  When Goldman CEO Andrew Blankfein testifies before Congress April 27, he’s not going to get away repeating predigested talking points about his company losing $1.2 billion on derivative investing.  Blankfein knows, that whatever the losses, there were far bigger gains collecting commissions on the massive profits from Paulson & Company’s hedge fund, that made $20 billion shorting Goldman’s subprime collateralized debt obligations.  His 31-year-old derivative hotshot Fabrice Tourre will have a hard time explaining why her created investments to fail for his short-selling hedge funds.

John M. Curtis writes politically neutral commentary analyzing spin in national and global news. He's editor of OnlineColumnist.com and author of Dodging The Bullet and Operation Charisma.