President Obama appeared at Federal Hall in New York this afternoon to reiterate his support for a massive overhaul of financial services regulation. The Wall Street reform issue has just as much potential to impact the future of the American economy as other major debates on Capitol Hill, such as heath care and energy reform. Undoubtedly, regulators played a significant part in creating the financial mess of the past year, though how and to what degree remains undecided. One thing that everyone agrees on is the need for change in the current financial sector regulatory structure.
What isn’t agreed upon is whether change should take the form of new regulations or the repeal of old, problematic rules. As a part of a broader effort to enhance America’s financial stability, President Obama and his economic team have proposed a series of changes that would dramatically overhaul financial services regulation. In his speech today, the president explained his philosophy for regulation:
I have always been a strong believer in the power of the free market. I believe that jobs are best created not by government, but by businesses and entrepreneurs willing to take a risk on a good idea. I believe that the role of the government is not to disparage wealth, but to expand its reach; not to stifle markets, but to provide the ground rules and level playing field that helps to make those markets more vibrant -- and that will allow us to better tap the creative and innovative potential of our people. For we know that it is the dynamism of our people that has been the source of America's progress and prosperity.
This foundation is exactly what should be driving Wall Street regulation reform. Unfortunately, it is not the philosophy of the actual plan the White House has proposed.
The 89-page proposal was sent to Congress on June 17, 2009 to guide the creation of a regulation overhaul bill. (For more on the specifics of the reform proposals, see this breakdown.) But the proposals depends too heavily on anticipating every future risk to the financial sector. The Administration is overly confident in the power of regulators to collect and analyze information from financial institutions. It simply is impossible for the government, or any private firm, to have complete knowledge of the currents of the financial markets.
The president continued on in his speech to criticize the doctrine of “too big to fail” that led to the massive bailouts of financial firms, and he pledged that taxpayers would never again have to shoulder the failures of risky Wall Street firms. But the type of resolution authority proposed combined with the three tiered structure for regulating financial institutions will essentially codify the too big to fail doctrine. As the proposal is written now, the regulatory overhaul will turn all major financial institutions into government sponsored enterprises, JP Morgan Mae and Citi Mac, if you will.
President Obama said he wants to promote a "global race to the top," inspiring companies to innovate and create wealth. But the restrictions he plans to put on firms like hedge funds and private equity groups, which didn't cause the problems in the first place, will instead discourage entrepreneurship.
The president argued that businesses are best at creating jobs. But this doesn't jive with the billions the White House has used to try and create jobs on its own. Nor is this statement represented in the tax policies of the administration. The president's speech supported the idea of free trade, but his decision to levy a tariff on Chinese tires last Friday says otherwise.
Finally, the president's true philosophy came out at the end of his speech when he argued that businesses have an obligation to the American people:
It is neither right nor responsible after you've recovered with the help of your government to shirk your obligation to the goal of wider recovery, a more stable system, and a more broadly shared prosperity. So I want to urge you to demonstrate that you take this obligation to heart. To put greater effort into helping families who need their mortgages modified under my administration's home ownership plan. To help small business owners who desperately need loans and who are bearing the brunt of the decline in available credit. To help communities that would benefit from the financing you could provide, or the community development institutions you could support.
If businesses have any obligation it is because of the bailouts forced on them. But it this kind of policy of businesses would be repeating the errors that really got us to this place. Banks shouldn't lend to communities or small businesses out of obligation—they should because it makes good business sense. To do otherwise, would be like the government policies of the past three decades that have encouraged support of lending to low-income families so that all could be homeowners. That policy directly led into the housing bubble and many of the problems we face today.
I write about all of this in my study "Rebuilding Wall Street: A Review of the White House Proposal for Reforming Financial Services Regulation" published today. In the study I take a look at the Obama administration's proposals to reform Wall Street regulations and offer recommendations to ensure that taxpayers are no longer forced to bail out banks and companies deemed "too big to fail."
Also see my policy brief from August breaking down the Obama and GOP regulation plans in basic form here.