The following is an excellent excerpt from the book “BAILOUT: An Inside Account of How Washington Abandoned Main Street While Rescuing Wall Street” by Neil Barofsky from Chapter 12 from page 216 and I quote: “I decided that before stepping down, one way in which I could use the SIGTARP bully pulpit was to contribute to the effort to focus more attention on the serious limitations of the Dodd-Frank Act, which had been passed by Congress with the explicit intent to end all future bailouts of the too-big-to-fail banks.
Kevin and I had dived into the too-big-to-fail problem earlier, recognizing that the banks that engaged in the manipulative, reckless, and unethical behavior that had helped bring down our economy needed to be fundamentally changed before the cycle of boom, bust, and bailout repeated itself yet again. As reform was beginning to be seriously debated in early 2010, we highlighted in a report what we, and many others, saw as one of the greatest costs generated by Treasury's administration of TARP: the failure to limit the moral hazard created by bailing out the largest banks. As a result of the consolidation of the financial industry, the largest banks had become significantly bigger, led by JPMorgan Chase, which grew by 36 percent, from $1.56 trillion in assets at the end of 2007 to $2.12 trillion at the end of 2010; Wells Fargo, which more than doubled in size to $1.26 trillion; and Bank of America, which grew by 32 percent, from $1.72 trillion to $2.27 trillion. As then Kansas City Fed President Thomas Hoenig explained, the banks had also somehow grown more powerful and had “even greater political influence than they had before the crisis.”
With a government guarantee made all but explicit by the bailouts, the executives of those institutions still enjoyed all of the short-term profits and benefits of taking outsized risks backstopped by the government. Worse still, the presumption of bailout made the banks more attractive to creditors, who continued to extend credit at prices that did not fully account for the risks that the banks were taking and, as a result, failed to provide the necessary market discipline to reign in excessive risk-taking. This “heads I win; tails the Government will bail me out” incentive system was still firmly in place. One of the best measures of moral hazard, though, was the metric that matters most to Wall Street executives, their pay. And rather than being scaled down in proportion to their epic failures in risk management, compensation for the top twenty-five Wall Street firms in 2010 actually broke records at $135 billion.
After ticking through several of those concerns, in a line that would be widely quoted, Kevin and I had argued that “even if TARP saved our financial system from driving off a cliff back in 2008, absent meaningful reform, we are still driving on the same winding mountain road, but this time in a faster car.” (That line, however, was Kevin's sole act of gross insubordination as my deputy. In every draft, I had added the phrase “with faulty brakes” to the end of the sentence, and each time Kevin took it out. I realized he had done so in the final version only when I saw the quotes in the newspapers.)
Given the severity of the crisis and the need for immediate action, Paulson and Geithner may have been right to temporarily put moral hazard to the side when rescuing the banks. We argued that now, however, was the time to enact tough protections. As the regulatory debate picked up, though, the banks and their lobbying machines kicked into gear, engaging in a relentless campaign to water down what would become Dodd-Frank.
A slender reed of hope had briefly emerged in the Brown-Kaufman amendment, which would have forced the handful of largest banks to slim down to more manageable levels. But despite drawing bipartisan support from several top Republicans, including Senator Shelby, Geithner opposed the bill, and it was eventually voted down. A “senior Treasury official” was quoted in the press as explaining that Brown-Kaufman “would have broken up the six biggest banks in America” and that “[i]f we'd been for it, it probably would have happened. But we weren't, so it didn't.”
Instead of taking the Brown-Kaufman meat cleaver to the banks, Dodd-Frank gave the regulators a scalpel and directed them to attempt to carve up the power of the largest banks through an enhanced and mind-numbingly complex 848-page-long regulation regime. In many ways, the act is too big to succeed.
The centerpiece is a brand-new supercommittee called the Financial Stability Oversight Council (FSOC), made up of ten voting-member financial regulators involving its chairman, the Treasury secretary. Congress left the tough decisions about how to reign in the largest banks to FSOC and its members. Among the regulators' many assignments were designing and implementing rules to limit banks' ability to gamble with their capital in proprietary trading (the Volcker Rule), implementing broad regulation of the derivatives markets, addressing the ongoing conflicts of interest at the credit-rating agencies, and setting bank capital requirements.
As for the largest and most dangerous financial institutions, the act directed the regulators to set up a resolution system, called the Orderly Liquidation Authority, that would theoretically allow a too-big-too-fail financial institution to be shut down without a bailout. To accomplish that goal, the act required the regulators to gather from the banks “living wills” that would set forth how each institution could be wound down in an orderly fashion. The act did give the committee some strong tools to effect meaningful change. Among other things, if they found that the living wills were not credible, they could compel major alterations in the structure of the banks, including breaking them up, but only by a two-thirds vote of the committee, which is an obvious constraint on this power.
Dodd-Frank thus put all of its eggs into the financial regulators' basket, the approach championed by Geithner and the White House. This did not seem to me like a recipe for effective reform. After all, one of the most important lessons that should have been learned from the financial crisis was the remarkable fallibility of the regulators. They had been blind, or willfully blind, about the signs of the coming financial crisis, and their track record with respect to previous crises was no better. Lax regulation and supervision had permitted the broad excesses that had led to the inflation of the housing bubble, and a remarkable lack of awareness had prevailed as it began to pop. For example, Bernanke had famously testified before Congress on March 28, 2007, that he was confident that “the problems in the subprime markets seem likely to be contained,” and a couple of months later, Geithner had given a speech in which he lauded the “financial innovation” (e.g., the CDOs, and CDSs that would eventually exacerbate the crisis) that he said had increased the “resilience of the market in the face of the latest shocks.”
The act also failed to recognize that the regulators often lacked the political will necessary to successfully regulate the largest banks. As recent history has repeatedly shown, through massive campaign contributions, relentless lobbying, and multimillion-dollar payouts awaiting government officials who join Wall Street firms, no legislation can confer the necessary fortitude upon the regulators.
Finally, the act concentrates incredible responsibility and control in one person, the secretary of the Treasury. As Chairman of the FSOC the secretary is responsible for the final order to force a megabank into liquidation and for overseeing the required two-thirds vote of FSOC's members to compel material changes in the banks' size and structure. Therefore, even if an individual regulator shows a heroic resistance to being captured by the big banks, the key Dodd-Frank decisions will still rest with a political appointee whose job is to carry out the political interests of the governing administration.
Whether Democrat or Republican, given the political resources at the banks' disposal, it is almost inconceivable that any Treasury secretary will be able to make the tough decisions necessary to finally address too-big-to-fail by chopping the banks down to size. And from the front-row seat that I enjoyed during my tenure at SIGTTARP, Treasury was and continues to be an institution that has been captured by Wall Street's core ideology. It is simply inconceivable that, having crusaded against Brown-Kaufman's attempt to slim down the megabanks, the current Treasury Department would then turn around and seek to accomplish a similar result through the impossibly burdensome processes set forth in Dodd-Frank. The same political and procedural barriers make it similarly unlikely that a future administration will seriously challenge the structure—and therefore the power—of the largest banks. Dodd-Frank didn't change the postcrisis status quo of too-big-to-fail banks; it cemented it.”
(THE GROWTH OF the BIG INVESTMENT BANKS IS EVEN WORSE NOW THAN BEFORE THEY GOT IN TROUBLE LIKE MR. THOMAS HOENIG, FORMER PRESIDENT OF THE KANSAS CITY FED, SAID. THIS CAME AOBUT BECAUSE OF THE GROWTH OF BIG HEDGE FUNDS, PRIVATE EQUITY, VENTURE CAPITALISTS, AND EVEN VULTURE CAPITALISTS. ALL OF THESE INDUSTRIES USED LEVERAGE, WAY EXCEEDING THE USUSAL 30 TO 1 RATION WHICH WAS CONSIDERED RISKY BUT WENT WAY BEYOND THAT TO THE POINT OF 50 TO 1, 100 TO 1, OR EVEN 200 TO 1 WHICH IS TOTALLY RIDICULOUS BUT SO LONG AS THEY HAD OUR GOVERNMENT WILLING TO BAIL THEM OUT, THE BIG INVESTMENT BANKS WERE PERFECTLY WILLING TO GET INVOLVED WITH CASINO-TYPE GAMBLING. YOU CAN SEE WITH THE INCREASE in the SIZE OF THREE OF THE BIGGEST ONES. EVEN WORSE IS THE FACT THAT the FIVE BIGGEST BANKS CONTROL 95 PERCENT OF THE WORTHLESS DERIVATIVE MARKET, WHICH HAS BEEN PRETTY WELL SANTIONED BY THE FEDERAL RESERVE BECAUSE NOBODY HAS EXPLAINED IT. IT SHOULD START WITH THE FEDERAL RESERVE, THE SECURITIES & EXCHANGE COMMISSION, THE BONDING COMPANIES AND THE COMMODITIES FUTURES TRADING COMMISSION, RUN BY GARY GENSLER, WHO IS SUPPOSED TO REGULATE DERIVATIVES. I HOPE THE NEWLY-ELECTED SENATOR, ELIZABETH WARREN, WHO I REALLY ADMIRE, CALLS ALL THESE PEOPLE IN FRONT OF HER SENATE BANKING COMMITTEE. EVEN THE AUTHOR OF THIS BOOK HAD SOME NICE THINGS TO SAY ABOUT ELIZABETH WARREN. THE BOOK I JUST FINISHED READING BEFORE “BAILOUT” WAS “THE FINE PRINT' BY DAVID CAY JOHNSTON AND MANY OTHERS ,WHICH EXPLAINED HOW WALL STREET EXPLOITED US USING HEDGE FUNDS AND THE GROWING TOXIC DERIVATIVE MARKET, WHICH HAS GROWN FROM $5 TRILLION TO OVER $600 TRILLION WORLDWIDE IN THE LAST 20 YEARS AND IS STILL GROWING.
LaVern Isely, Overtaxed Independent Middle Class Taxpayer & Public Citizen & AARP Members