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June 21, 2009

OBAMA'S FINANCIAL PLAN ISN'T CLOSE TO WHAT THE NEW DEAL DID

Joe Nocera, NY Times - Three quarters of a century ago, President Franklin Roosevelt earned the undying enmity of Wall Street when he used his enormous popularity to push through a series of radical regulatory reforms that completely changed the norms of the financial industry.
Wall Street hated the reforms, of course, but Roosevelt didn't care. Wall Street and the financial industry had engaged in practices they shouldn't have, and had helped lead the country into the Great Depression. Those practices had to be stopped. To the president, that's all that mattered.

On Wednesday, President Obama unveiled what he described as "a sweeping overhaul of the financial regulatory system, a transformation on a scale not seen since the reforms that followed the Great Depression."

In terms of the sheer number of proposals, outlined in an 88-page document, that is undoubtedly true. But in terms of the scope and breadth of the Obama plan - and more important, in terms of its overall effect on Wall Street's modus operandi - it's not even close to what Roosevelt accomplished during the Great Depression.

Rather, the Obama plan is little more than an attempt to stick some new regulatory fingers into a very leaky financial dam rather than rebuild the dam itself. . .

On the surface, there was no area of the financial industry the plan didn't touch. . . Among other things, it would give new regulatory powers to the Federal Reserve, create a new agency to help protect consumers of financial products, and make derivative-trading more transparent. It would give the government the power to take over large bank holding companies or troubled investment banks - powers it doesn't have now - and would force banks to hold onto some of the mortgage-backed securities they create and sell to investors.

But it's what the plan doesn't do that is most notable.

Take, for instance, the handful of banks that are "too big to fail"- and which, in some cases, the government has had to spend tens of billions of dollars propping up. In a recent speech in China, the former Federal Reserve chairman - and current Obama adviser - Paul Volcker called on the government to limit the functions of any financial institution, like the big banks, that will always be reliant on the taxpayer should they get into trouble. Why, for instance, should they be allowed to trade for their own account - reaping huge profits and bonuses if they succeed - if the government has to bail them out if they make big mistakes, Mr. Volcker asked.

Many experts, even at the Federal Reserve, think that the country should not allow banks to become too big to fail. Some of them suggest specific economic disincentives to prevent growing too big and requirements that would break them up before reaching that point.

Yet the Obama plan accepts the notion of "too big to fail" - in the plan those institutions are labeled "Tier 1 Financial Holding Companies" - and proposes to regulate them more "robustly." The idea of creating either market incentives or regulation that would effectively make banking safe and boring - and push risk-taking to institutions that are not too big to fail - isn't even broached.

Or take derivatives. The Obama plan calls for plain vanilla derivatives to be traded on an exchange. But standard, plain vanilla derivatives are not what caused so much trouble for the world's financial system. Rather it was the so-called bespoke derivatives - customized, one-of-a-kind products that generated enormous profits for institutions like A.I.G. that created them, and, in the end, generated enormous damage to the financial system. For these derivatives, the Treasury Department merely wants to set up a clearinghouse so that their price and trading activity can be more readily seen. . . In a recent article in The Financial Times, George Soros, the financier, wrote that "regulators ought to insist that derivatives be homogeneous, standardized and transparent." Under the Obama plan, however, customized derivatives will remain an important part of the financial system.

Everywhere you look in the plan, you see the same thing: additional regulation on the margin, but nothing that amounts to a true overhaul. The new bank supervisor, for instance, is really nothing more than two smaller agencies combined into one. . .

The regulatory structure erected by Roosevelt during the Great Depression - including the creation of the Securities and Exchange Commission, the establishment of serious banking oversight, the guaranteeing of bank deposits and the passage of the Glass-Steagall Act, which separated banking from investment banking - lasted six decades before they started to crumble in the 1990s. . . If Mr. Obama hopes to create a regulatory environment that stands for another six decades, he is going to have to do what Roosevelt did once upon a time. He is going to have make some bankers mad.

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