Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Is the U.S. financial system more resilient and stable than before the Great Financial Crisis? Tough to know for sure, but there are lots of hints that it isn’t. MF Global and the missing $2 billion. JPMorgan and its $6 billion in trading losses.The manipulation of LIBOR, the interest rate which underlies some $350 trillion in financial derivative contracts. Oh, and the biggest banks are even bigger than before the GFC, despite the Dodd-Frank financial reform law.
All of which presents a tremendous and ongoing political problem and political/policy opportunity for Mitt Romney, who made hundreds of millions as a venture capitalist and private equity investor. “Romney’s biggest problem is that, for most Americans, he appears to be a banker,” said Eurasia Group’s Ian Bremmer on Twitter recently. “If I’m advising Obama, that’s my A game. My B game too.”
And bankers, never the most popular folks, are particularly unliked right now. In addition, the Obama campaign has attacked Romney as wanting to restore the economic policies of George W. Bush, which it says caused the financial crisis in the first place. The winning electoral equation as they see it: A Romney presidency = George W. Bush’s third term = a return to economic catastrophe.
But if Romney presented an aggressive, free-market, anti-crony capitalist, financial reform agenda — something beyond the fuzzy “Repeal Dodd-Frank and replace with streamlined, modern regulatory framework” pledge on his website — he could demonstrate he’s neither a creature of Big Money nor a Bush clone. Oh, and he would be putting forward some smart policy ideas, too.
Here’s a possible Romney financial reform agenda:
1) Endorse the Hoenig Plan. Thomas Hoenig, vice chairman of FDIC and former president of the Kansas City Fed, wants to bust up the big banks. He would only allow banks to engage in traditional activities that are well understood and are based on long-term customer relationships so borrowers and lenders are on the same page: commercial banking, underwriting securities, and asset management services. Banks would be barred from broker-dealer activities, making markets in derivatives or securities, trading securities or derivatives for their own accounts or for customers, and sponsoring hedge funds or private equity funds.
2. Go after high-frequency trading. Financial markets seem more volatile than ever, and one reason might be super-fast, or “high-frequency,” trading, where computers buy and sell bonds, stocks, and derivatives in milliseconds. As my friend Martin Hutchinson of the Asia Times puts it:
High-frequency trading is objectionable for two reasons. First, its proponents claim it provides liquidity to the market, but that’s not really the case. In periods of turbulence, the liquidity that HFT supplies is quickly withdrawn, as the institutions operating the trading systems shut them off for fear of large and destabilizing losses. Indeed, liquidity that switches off when it is most needed is of no use at all. To the contrary, it destabilizes the market rather than stabilizing it.
The second reason high-frequency trading is bad is that it uses machines to get trade information before competitors. Of course, trading based on extra-fast knowledge of the trading flow should qualify as inside information, and thus be illegal.
Unfortunately, it can’t be made illegal, because market-makers do it all the time. And what’s more is that stock exchanges make huge sums of money by renting space within feet of the exchanges’ computers to high-frequency traders.
Hutchinson recommends a 0.01%-0.02% Pigovian tax on trading stocks and bonds and a 0.05% tax on derivatives to tamp down on such speculation. The revenue could be used to lower the overall corporate tax rate.
3. Endorse the mortgage refinancing plan of his own economic adviser. Economist Glenn Hubbard, along with his colleague Christopher Mayer at Columbia University, has devised a plan where every homeowner with a GSE mortgage could refinance his or her mortgage with a new mortgage at a current fixed of 4.20% or less. Nearly $4 trillion of mortgages could refinanced, helping roughly 30 million borrowers save $75 billion to $80 billion a year. As Hubbard and Mayer see it, it would be like a long-lasting tax cut for these 25 or 30 million American families. The plan would have an immediate fixed cost to the government of $242 billion, with half that cost split equally between the government and banks.
Some of these ideas I like, some perhaps less so. And many of them would better be done jointly with other advanced economies if at all. But if the Romney policy wonks could make the economic case for them to their boss, they would seem to have a lot of political upside for the Republican nominee.
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Jan '12
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Plan no.1 seems by far the best. Besides having a certain degree of primal satisfaction attached -- should have happened four years ago!! -- Trust-Busting is, by and large, a good impulse. We're trying to encourage entrepreneurship and the little guy, not "Man-in-the-Grey-Flannel-Suit-ism" right?
Mar '11
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
James Pethokoukis:
1) Endorse the Hoenig Plan. Thomas Hoenig, vice chairman of FDIC and former president of the Kansas City Fed, wants to bust up the big banks. He would only allow banks to engage in traditional activities that are well understood and are based on long-term customer relationships so borrowers and lenders are on the same page: commercial banking, underwriting securities, and asset management services.
I also agree with this idea. If the government is going to backstop certain banks through the FDIC, it absolutely has a duty to keep those banks' risks within certain controllable parameters.
Only one problem: we already had that law (in the Glass-Steagall Banking Act), and it failed us. Why? Because the banks put pressure on regulators to quietly ease their restrictions, and they willingly obliged.
When the economy is good, voters simply can't be bothered to pay attention to such arcane issues. What's to prevent a hypothetical "Hoenig Rule" from suffering the same fate?
Aside: since he didn't mention it directly, here's Jim's full article in TWS on the issue. Very engaging and worth reading.
Edited on July 17, 2012 at 8:43pmMar '11
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Where the heck is the plan to break of Freddie and Fannie and become just as independent from the government as any other bank.
Although I do agree with number 1 also because the moral hazard big banks present under out current system. However, point two and three are socialistic ignorant nonsense. Even in my current job at a medium size company, I am annoyed how much people get up in arms over meaningless volatility with budget projections. Point two is trying to correct something that is a side effect of highly liquid markets it is not a problem. It is like saying people losing money investing in companies in a free market is a problem that needs to be fixed.
Edited on July 17, 2012 at 8:26pmDec '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Brian Clendinen: Point two is trying to correct something that is a side effect of highly liquid markets it is not a problem. It is like saying people losing money investing in companies in a free market is a problem that needs to be fixed. · 0 minutes ago
Edited 0 minutes ago
If the argument regarding liquidity is sound-- and this is way above my pay grade, so beats me-- then I completely buy no. 2.
If one's trading position depends on fractions of a second, one is simply engaged in speculating arbitrage. That sort of trade has absolutely nothing to do with the efficient allocation of capital.
I have always bought no. 1.
No. 3 I have to noodle some more.
AFTERTHOUGHT
To the point of the initial post-- is this an opportunity for Romney to have a Nixon goes to China moment-- I say "yes." This is a brilliant idea.
But given what I believe about corporatism and guild protection, it sounds very unlikely.
Edited on July 17, 2012 at 8:33pmJun '12
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
After watching Generation Zero, I am inclined to think that anything that constrains the banks to a more traditional role would be a good thing. The intricacies of how the whole derivatives arrangement worked always seemd like a a bunch of smoke and mirrors to me. I think any time you get into financial arrangements that can directly and dramatically affect the life average reasonably well informed citizen, but that said average reasonably well informed citizen is utterly baffled by when you try to explain it, that seems like a bad business model for a democratic republic.
Apr '12
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
I endorse #1. It is the right thing to do and good politics but I see no sign that Romney would ever do it.
Apr '12
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
I agree. Private equity is the opposite of banks but I find private equity guys assume everyone knows that. I am delighted to read this article. Finally! Someone is saying it!
Oct '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
#1 seems to be based on the notion that you can't trust the system to refrain from bailing out failing banks, so we should restrict what banks can do to an 'authorised list' of activities. Which (as has been noted above) just invites another generation of lobbying from banks as to what goes on the list. Can I volunteer to be the regulator?
#2 is just low-grade sophistry. By the logic of point 1, there is no difference in liquidity during crises whether HFT is permitted or not. So why ban it? Point 2 is equally ludicrous: if I read faster than you, should my possession of a newspaper also qualify as "inside information"? What if you can read Mandarin and I can't? Should those who are above average at arithmetic be banned from trading on the public markets?
#3 seems to transfer wealth from the investors in banks to imprudent homeowners. Isn't it a sort of amnesty for greed?
I like the idea of bold financial reforms from Romney - just not these ones...
Apr '12
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Further on why #1 is a good idea. The largest banks have grown so large they hold the rest of us hostage. While Dodd-Frank supposedly ended "too big to fail" in reality it did not - it actually gave the largest banks a further competitive advantage against smaller banks. The situation in the banking sector is very different than that posed by any other business sector. GM did not pose a similar threat when it faced bankruptcy and if Apple went bankrupt it might be unfortunate but would not risk taking the entire US economy. Politically it's also smart because the largest banks tend to be run by Dems - Lehman (before its collapse), Goldman, JP Morgan, Citibank.
Sep '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
I'm in favor of idea #1. I'm also in favor of making bankers personally, financially accountable for running their banks into the ground; making their personal assets as part of remediation to creditors. Romney should formulate such a plan, but wait until an opportune moment--say, his acceptance speech at the GOP Convention--to announce it. It should be made so big a change that the Democrats can't effectively counter with something bigger.
The main reason I'm in favor of it is what Rob Long said on a podcast a while ago: "Why aren't these guys selling apples on the street?" And it's both financially and politically a very smart move.
Dec '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Going after High Frequency Trading (HFT) with any form of transaction tax is a bad idea. Without getting into the narcolepsy inducing details of how electronic markets work, there's a substantial body of research that details why HFT's are good for markets ... 1) HFT's provide for liquid and deep markets, HFT's are market makers and in some markets "the market maker"; 2) HFT's actually dampen price volatility; and 3) HFT's lower trading costs, Vanguard has found that it's trading cost have declined 50% with the advent and development of electronic trading.
There's nothing that needs fixing, e.g., the exchanges are implementing techniques to efficiently monitor quote traffic so that illegal strategies like quote stuffing can be detected. It's the exchanges that are the most competent to advocate and manage best practices.
James, what about dark pools? Sooner or later the scare mongers and Luddites will demand government action to protect the public from all of the bad stuff that must be going in those kind of places.
Edited on July 18, 2012 at 12:28amOct '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
On option 3, while everyone agrees something must be done about the mortgage mess (which, after all, the government created in the first place), 232 billion dollars is a bit much; even if banks take half the cost, that's still over 100 billion dollars.
Oct '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
I disagree on #1. I think large banks are inherently more stable than small ones. Remember the Great Depression; Canada, with its large banks, did pretty well, while the U.S., with its fragmented unit banking system, suffered an uncontrollable crash.
Large banks provide diversification; properly done, geographic diversification manages risk almost well as FDIC insurance does for small banks. Too big too fail is a problem, yes, but one that can be managed by (much) bigger FDIC premiums and capital surcharges.
Mar '11
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Mendel
James Pethokoukis:
1) Endorse the Hoenig Plan. Thomas Hoenig, vice chairman of FDIC and former president of the Kansas City Fed, wants to bust up the big banks. He would only allow banks to engage in traditional activities that are well understood and are based on long-term customer relationships so borrowers and lenders are on the same page: commercial banking, underwriting securities, and asset management services.
I also agree with this idea. If the government is going to backstop certain banks through the FDIC, it absolutely has a duty to keep those banks' risks within certain controllable parameters.
Only one problem: we already had that law (in the Glass-Steagall Banking Act), and it failed us. Why? Because the banks put pressure on regulators to quietly ease their restrictions, and they willingly obliged.
Eased then repealed, let us not forget that crucial point. Bringing back Glass-Steagall in full force should be a Day One decision for the next administration. I can't see Romney ever going for it though.
Jun '11
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Conservatives are foolish when they line up to defend rent-seekers like bankers, insurance companies, and pharma.
Oct '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Number 3: Another 4 trillion in mortgages that can be packaged, securitized and sold. I can imagine that there are some forms who strongly support this idea. I wonder if Professor Hubbard is paid by any of them?
Edited on July 18, 2012 at 2:36amOct '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Roberto
Eased thenrepealed, let us not forget that crucial point. Bringing back Glass-Steagall in full force should be a Day One decision for the next administration. I can't see Romney ever going for it though. · 2 hours ago
Is there any evidence Glass-Steagall actually reduced systemic risk? I seem to remember the big problem with banks in the 30s wasn't that they speculated in securities, it was that they were lending money to broker-dealers, who did the speculating.
Separating investment banking from retail has always struck me as similar to reserve requirements and fractional-reserve theories: pure constructs with no basis in reality. Everyone "assumes" that fractional reserve requirements are somehow important, and everyone "assumes" that separating investment banking from retail will somehow make the system safer, but no one ever gives any satisfactory answers as to why that is the case.
After all, retail banks can still lend to investment banks. And I suspect investment banks are much safer than, say, small businesses lending, or home mortgages.
Edited on July 18, 2012 at 4:01amMar '11
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Joseph Eagar Is there any evidence Glass-Steagall actually reduced systemic risk? I seem to remember the big problem with banks in the 30s wasn't that they speculated in securities, it was that they were lending money to broker-dealers, who did the speculating.
Separating investment banking from retail has always struck me as similar to reserve requirements and fractional-reserve theories: pure constructs with no basis in reality. Everyone "assumes" that fractional reserve requirements are somehow important, and everyone "assumes" that separating investment banking from retail will somehow make the system safer, but no one ever gives any satisfactory answers as towhythat is the case.
After all, retail banks can still lendto investment banks. And I suspect investment banks are much safer than, say, small businesses lending, or home mortgages. · 1 hour ago
"Systemic Risk" there's an ugly phrase birthed to give credence to statist interventions in the markets. You misinterpret, of course there will always be speculation, foolish lending given to enterprises doomed to failure and risk . The point of Glass-Steagal is not to prevent the impossible but to protect depositors while insuring taxpayers are not bailing out losers à la TARP.
Nov '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
There's no "of course" about this. All this does is open the door for investors to be convicted of a crime based on no evidence other than they happened to get the information faster than their competitors. Are people physically present in the stock exchange engaged in insider trading because those who trade from home have to wait for the relevant information? If not, where do you draw the line?
Oct '10
Re: Should Romney Pull a ‘Nixon to China’ and Aggresively Push Banking Reform?
Roberto
"Systemic Risk" there's an ugly phrase birthed to give credence to statist interventions in the markets. You misinterpret, of course there will always be speculation, foolish lending given to enterprises doomed to failure and risk . The point of Glass-Steagal is not to prevent the impossible but to protect depositors while insuring taxpayers are not bailing out losers à la TARP. · 11 hours ago
Except it doesn't. Whether banks lose money by lending to investment banks, or buying securities themselves, they are still losing money. Speculation by banks is never as widespread as banker populists would have us believe.
Edited on July 18, 2012 at 5:28pm