Five Ideas for Financial Reform Amendments
Jason Stipp: I'm Jason Stipp for Morningstar and welcome to the Friday Five.
The government is turning its attention to financial reform now
that the healthcare reform bill has passed about 100 amendments
are being considered for this bill. And after yesterday’s bizarre
market activity, a few more might be added to the docket.
Morningstar's market editor Jeremy Glaser has a few ideas for
reforms that he'd like to add to the bill and he's here to tell me what
they are today. Jeremy thanks for joining me.
Jeremy Glaser: Always a pleasure, Jason.
Jason Stipp: So what are the five things that you might like to see added to the
bill that aren't being considered right now?
Jeremy Glaser: I think we need to talk about a consumer protection agency, this
idea of "Too Big to Fail," leverage in the system, derivatives. And
finally, we're going to talk about two parts of the banking system
that I think really need to be separated.
Jason Stipp: Consumer protection agency is possibly a contentious issue. What
would you like to see specifically added on that front?
Jeremy Glaser: This has been certainly one of the more contentious pieces of the
legislation where Republicans seem to be pretty opposed to it,
while Democrats continue to want to put a very robust consumer
protection agency in that would essentially regulate a lot of the
financial products that are coming out of the banks.
So if you wanted to create a new type of mortgage or a new type of
savings account, well maybe savings accounts aren't that
contentious. But they would have to go through some sort of
regulatory review process before they could be put in front of
consumers.
I think that this is a dual-edged sword. I think we certainly want to
make sure that banks are providing consumers with all the
information that they need to make informed choices about their
finances. So, important provisions shouldn't be buried in the small
print of a mortgage. You should know when it's going to reset and
what it's going to reset to, and what the resets look like in the
future. Information like that it’s really important to people. So
should the government necessarily be deciding exactly what kind
of things could be available to everyone? Probably not, but should
they make sure that people have the information they need?
Absolutely!
Jason Stipp: So for number two, TBTF, it's not a yogurt; it's "Too Big to Fail."
It's on everyone's lips recently. Tell us a little bit about "Too Big to
Fail" and what these reforms really need to capture on that front.
Jeremy Glaser: Certainly, "Too Big to Fail" is one of the big issues that need to be
solved by this regulatory regime. The problem that we saw before
with Lehman Brothers was that you could force a firm into
bankruptcy but then the entire capital market seized up because
nobody knew where any of the money is, nobody knew where
those assets were, and Lehman Brothers was counterparty to so
many different transactions.
So, whatever this new bill does, it needs to create a system in
which these firms can wipe out the equity holders, but stay
operating long enough in order to wind down these trains in an
orderly fashion, so that the market can actually correct for this.
And that we can punish the people who took the untoward risk, but
then also not worry about punishing everybody else because the
entire system would completely collapse.
Jason Stipp: For number three, leverage is a dirty word for a lot of people. It
seemed to get some firms into trouble. What should the reforms
account for on the leverage front?
Jeremy Glaser: Leverage is something the federal government definitely needs to
be looking at. As all the investment banks have now become bank
holding companies and that means that deposits are insured by the
FDIC. So the federal government is back there saying the full faith
in credit of the federal government is behind these deposits. So I
think that means the federal government should have a say in
saying, "All right”. This is what you need to do with these
deposits. You can't lever it to these extreme measures that you had
before.
This can be incredibly difficult to measure. Last week, we were at
the University of Chicago, Booth School of Business Management
Conference, and we talked about to Professor Steve Kaplan, who
was talking about these issues that he thinks capital requirements
would be a good way to do this to make sure the banks have more
capital. That would keep the leverage down more than coming up
with a firm number that would be there. But no matter how you
actually keep this leverage on track, I think it's something that the
bill needs to address. And something that if the banks are going to
be insured by the government, the deposits are, we need to make
sure that those deposits are actually being kept safe.
Jason Stipp: Sure. Number four, Obama was on the news recently because of
the nuclear reforms that he was making. Buffett had talked about
derivatives as being "weapons of mass destruction." What kinds of
reforms need to happen with derivatives?
Jeremy Glaser: Derivatives can be a big issue. So there certainly are cases where
derivatives serve a useful purpose. You have hedging for a lot of
operating businesses that want to be able to get rid of that fuel risk
or get of any risk that they're trying to look at. But at the same
time, we saw that derivatives got people into trouble and just added
a lot more kind of hidden leverage to the system and
interconnected to the system than people saw before.
So I think, at the very least, we need to have a central
clearinghouse where these derivative trades are happening. So that
way, we have a sense of how many of them are out there, who their
counterparties are. So if we do get into a "Too Big To Fail"
situation, if we do get into another crisis, we'll know exactly where
the risks are and can address them, instead of now where a lot of
those are just open questions.
Jason Stipp: For number five, I think this maybe would might impact the
consumers perhaps most directly of all your ideas. Tell us a little
bit about what you think needs to be separated in the banking
system.
Jeremy Glaser: There have been a lot of calls to bring back Glass-Steagall, which
is this idea that if you have a bank holding company, you shouldn't
also be able to own other financial institutions. And this had been
around since the Depression, was repealed in the '90s and there's a
lot of talk that this is what caused the financial crisis. But I think
what really needs to be separated is the pen from the desk.
I think it's time to finally get rid of that little chain that makes it so
difficult to write out those deposit slips. I think it's something that
consumers will really find helpful and should get the rest of the
banking system back on track.
Jason Stipp: I've noticed that the pens are good for etching my name into thing
but not so much for writing.
Jeremy Glaser: Yeah exactly.
Jason Stipp: Thanks for joining me, Jeremy.
Jeremy Glaser: You're welcome, Jason.
Jason Stipp: I'm Jason Stipp for Morningstar and thanks for watching.