The Benefits of Financial Reform
The Dodd-Frank Wall Street Reform and Consumer Protection Act was signed into law by President Obama today. Anyone who follows my blog has heard me clamor for years about the need for these types of reforms. And, although this bill is far from perfect, it is very comprehensive and it addresses most of the critical areas where reform was necessary. To be honest, I didn’t think most of these provisions would make it past the banking lobby, but they have.
Credit Where Credit is Due
Although I didn’t vote for President Obama and I don’t agree with most of his policies, I applaud his effort to provide these reforms, which I believe are critical to the financial security of our nation. This is the third major financial reform, following the CARD Act and Overdraft Protection. I don’t think President Obama gets nearly enough credit for pushing these reforms and the positive impact they will have for America.
It probably won’t surprise anyone that I’m not a big fan of Barney Frank. And, I’m happy Chris Dodd is not seeking another term. In my opinion, the Sub-prime Crisis happened on their watch and they bear responsibility for the sad financial condition our nation is in. Having said that, I appreciate the hard work they put forth in bringing this reform and I think it is fitting their names are on the bill.
What this Means for Americans
Consumer Financial Protection Bureau – There is now a single consumer protection agency that will ensure all financial transactions are fair to consumers. The emphasis of this new agency will be to simplify contracts, so they are clear and understandable. Hopefully, the fine print and dirty tricks will be eliminated or at least greatly reduced.
Banking Institution Reform– Key elements of the Glass-Steagall Act have been restored which require the separation of deposit and investment banks. This law also requires the divestiture of hedge funds, beyond a 3% stake. Most important, failed institutions will now be wound down with shareholders taking the hit, instead of being bailed out with taxpayer money.
Oversight of the Federal Reserve– The way the Fed has been operating in secrecy is a huge problem for America. What most Americans don’t realize is that the Fed is actually a banking institution and not a true government agency. Huge sums of treasury money have been flowing from the Treasury to banks through the Fed. How much is anyone’s guess, since they refuse to open their books. The reform bill allows the Government Accountability Office (GAO) to audit the Fed, but their powers are limited.
Mortgage Reforms– Everyone knows that sub-prime mortgages were a primary cause of the Financial Crisis. What most people don’t know is that millions of customers were steered into sub-prime mortgages, even though they qualified for regular funding. The reason this happened is because brokers were paid yield spread incentives to do so. From now on, lenders cannot be rewarded for steering borrowers into higher cost loans. And, consumers will have to prove they can repay their loans. No document loans are a thing of the past.
Derivatives Reform– Derivatives will now be traded on a central exchange, which will be monitored by the SEC and CFTC. Regulators are also given greater enforcement authority to punish parties who use complex derivatives to defraud others. Finally, a new code of conduct is established for dealers, especially when dealing with pension, endowment and governmental entities.
Issues with the Reform Law
Increased Powers of the Federal Reserve– In addition to banks, the Fed can now regulate insurance and investment companies, if they are primarily engaged in financial activities. In my opinion, the Fed has proven to be a poor regulator and I have serious reservations about expanding their authority.
Over 2,300 Pages– I’m not sure why laws have become encyclopedias, but I suspect it is to hide all of the earmarks and loopholes. How much of this law was written by staffers and lobbyists? How much was read by the people who signed it? I believe 100 pages would have been sufficient.
Fannie Mae & Freddie Mac – These two quasi-government agencies are bleeding taxpayer dollars at an alarming rate. And this bill does absolutely nothing to reduce our liability or to stem the foreclosures. I believe the government should divest itself of Fannie and Freddie and leave the lending to the private sector.
Reach and scope of the Federal Government – One big issue I have with this bill is how much it increases the authority of the Federal Government. It is possible that it could be abused by agencies and officials. However, I believe incompetence is more likely problem.
The Republican Response
About 15 minutes ago, my Mom forwarded an email response to the reform law from one of our local members of Congress. This email was a whining diatribe, explaining how this reform bill will cost the country jobs and make credit difficult to obtain. It was mostly a partisan attack and some scare-mongering, along party lines. The final sentence pretty much tells it all.
“When all of this happens over the next year, remember who caused it – the people who voted for and supported this bill.”
John Campbell – Congressman (R-CA)
Here is my response to the Republican Response:
- If the Republicans have a reform plan, I would love to hear about it. So far, the Republican plan seems to be blame Democrats for everything and continue to let banks rip everyone off and destabilize our country.
- Deregulation during the past decade (since the repeal of Glass-Steagall) contributed to the dot-come bubble and the sub-prime crisis. During the Financial Crisis, 8 million jobs were lost, credit markets seized up and equity markets lost 40% of value. Unemployment and housing will take years to recover. How many jobs will be lost to reform?
Now you know why the approval rating for Congress is so low. This is your tax dollars at work, for the benefit of special interests. I couldn’t make this up.
The Bottom Line
The bottom line is that no legislation is perfect. What ensures the rights of one person places limitations on another. However, banks and financial institutions have shown complete disregard for business ethics and the rights of citizens. For their arrogance, recklessness and lack of integrity, they have brought reform upon themselves.
“History’s lesson is to make the most of reform opportunities when they arise because they do not arise often and they do not last long.”
Christopher Bond – British Playwright
Recommended Reading
This post was featured on the Carnival of Personal Finance over at Beating Broke. If you aren’t familiar with the Carnival of Personal Finance, it’s the premiere carnival of its kind. If you want to read informative articles from knowledgeable bloggers, this is the place.
My buddy Nickel, over at Five Cent Nickel, put together a great breakdown of the Financial Reform called What’s in it for Me. I’m certain you will enjoy it.
Thanks for a helpful summary! I could write pages of comments here but I’ll just hit the highlights. I’m pleased with the Overdraft Protection law. The CARD Act had some good provisions but still failed to get rid of usurious interest rates.
The Consumer Financial Protection Bureau sounds great in theory, but isn’t it under the auspices of the Fed? They didn’t protect me from banks or the housing bubble, so I’m not too hopeful about this clause. The real Audit the Fed bill by Ron Paul was killed, so I believe this auditing will be minimal. I agree with you that increasing the powers of the secretive, non-governmental Fed is a bad idea.
As far as derivatives and mortgage reform are concerned, this seems like closing the barn door after the horse has left. It’s a nice idea going forward but it won’t prevent the destructive impact on the economy of what’s already been done.
I totally agree that 2,300 page bills are not for the benefit of We the People! Probably only the people who wrote the bill (not members of Congress) actually read it.
Jennifer,
I’m bummed they put the CFPB under the Fed. Consumers really need someone looking out for them and the Fed doesn’t qualify. I wish they had of put this under the FTC or the Department of Consumer Affairs.
The Fed audit capability is weak. It allows the GAO to audit two years ago, to see where the money went, after the financial crisis. My hope is that the audit results will be so ridiculous that people will demand the Fed be opened permanently.
As for derivatives reform, the barn burned down and the horses died in the fire. They should have figured this out during the dot-com bust, when LTCM melted down. But, at least they can prevent future problems. If this wasn’t regulated, future problems were inevitable.
I agree that the Fed is not a good place to put the CFPB, as it doesn’t have a clue about the needs of consumers.
There’s an interesting story about derivatives and the CFTC. You probably know that Brooksley Born warned about derivatives in 1997 before LTCM, but Rubin, Greenspan and Summers attacked her. What’s not well known is that the CTFC was stripped of all regulatory authority for 6 months due to high level pressure from the Clinton Administration! It’s hard to imagine this now.
I didn’t know about Brooksely Born, but I’m not surprised she was attacked like this. They pulled the same thing on Sheila Bair and Elizabeth Warren, but they hung tough.
Warren Buffet is the one who bailed out LTCM and he recently called derivatives “Weapons of Financial Mass Destruction”. I am so glad they finally reformed this mess.
I would take issue take issue with the fact that increasing the reach of the federal government is a problem. It may be the popular tea party stance that the government has too much power, but those same people turn around and scream about how the banks took us for all we were worth and nobody did anything to stop them.
You can’t have it both ways; like you said, there are a lot of positives to this bill. It’s not perfect, but it’s definitely better than the financial wild west we had before.
@Jennifer, yeah, this may be too late to help the current mess but installing an alarm system after you’ve been robbed just means it may not happen again.
Cognoramus,
These new powers could be a reach, depending on how they are implemented. I understand the TEA Party’s desire to limit the government. However, if history has proven anything, it’s that banks, utilities and other monopolies must be regulated. Every time they are deregulated, disaster soon follows, because there are no competitive pressures to keep them in check.
I love the burglar alarm analogy. I may swipe that for use in the future.
Bret, I think we ended up arguing the same side of the point here 🙂 you’re absolutely right, de-regulation is not the answer.
I remember writing something illustrating why libertarianism doesn’t really work and using robber barons at the turn of the 20th century and modern-day Somalia as examples, but I think this one outshines those in scope and relevance.
Great blog, BTW
@Congnoramus: I think it’s great to install an alarm system. However, I would like to see some planning about what to do when the more than $1 quadrillion in derivatives blow up.
@Bret: Nice summary, my friend! I have to agree with you on two points, Bret. 1) If a 100 page bill was more appropriate, then the bill shouldn’t have been passed unless it was 100 pages long. 2) How more unfettered power to the Fed is going to make things better is beyond me.
BTW, one Republican reform plan HR 3310 was introduced last summer by Max Bachus (R-AL) known as the Consumer Protection and Regulatory Enhancement Act. In a nutshell it forces the government to quit picking winners and losers by stopping bailouts and let capitalism’s creative destruction process run its course.
For the record, the Republicans have competing bills to every Democrat one (be it healthcare or financial reform) – unfortunately, they tend to get killed or buried by the majority party.
@Cognoramus: Let’s be careful not to slip into hyperbole here to try and make a point. Only the most rabid Libertarians (note the capital L) argue for complete deregulation.
The majority (like myself) accept a limited role of government and also realize that measured levels of regulation is absolutely necessary.
To use robber barons and modern-day Somalia as an example for why libertarianism doesn’t work is completely off the mark.
The great majority of libertarians are not anarchists. That is unless you consider this nation’s Founding Fathers to be anarchists too. 🙂
Best,
Len
Len Penzo dot Com
Len,
I think President Obama was relieved to finally get reform to pass and was unlikely to veto this 2300 page bill. Ronald Reagan wanted a line item veto, but it never happened. I would vote for it. The laws are getting bigger by the day.
I like some of the things the Republicans are doing, especially the YouCut program. As for HR 3310, it has some nice points, like revoking authority from the Fed and OTS and winding down Freddie and Fannie. But, it did zero for consumer protections or derivatives reform. Nor, did it reinstate Glass-Steagall. Basically, the banks would still be partying out of bounds.
Not to get partisan, but here is my take. Banks bet their lobby money on Republicans to block the reform and it almost worked. Thankfully, a couple of Republicans crossed and we got reform. Now, banks will be targeting whomever wins in the next election to try and undermine these reforms.