Snowball: Strategies For Banking Reform

I was on a Capitol Hill panel yesterday morning, organized by the National Community Reinvestment Coalition, with Jim Carr and Mike Lux; Nancy Cleeland was the moderator.  We had a wide-ranging discussion about the origins of our current economic crisis (the banks, their regulators, their lack of regulation), progress to date with financial sector reform (not much), and what should be the legislative agenda (a long list, ranging from protecting individuals to better safeguarding the system; if you can get any sensible measure past the lobbies, take it).

I was particularly struck by one point made by Mike Lux.  Sometimes it seems the administration talks in terms of having limited political capital and of needing to decide where to spend it – perhaps, for example, it has all been stored up to address health care.  Mike’s model is somewhat different – once you defeat one powerful industrial lobby, it becomes easier to defeat others; success can snowball.  Drawing on the experience of FDR, in particular, Mike stressed that early success (e.g., initial recovery measures that were opposed by industry) laid the political foundations and generated the kind of public support necessary for further achievement (e.g., the introduction of social security).

What does that mean in today’s context?

It means that the banking reform agenda is likely to run for a long while.  Sensible measures may not at first succeed and, let’s be honest, the prospects for the fall legislation do not currently look encouraging – various parts of the financial lobby are flexing their muscle already.  But that is not necessarily the end of the conversation.

In particular, if banks make further mistakes – even if not on the recent scale – this will shift opinion towards reform.  Jamie Dimon, for example, has another brilliant statement on why banking, or at least JP Morgan Chase, should be allowed to go back to “business as usual”.  But his reasoning rests largely on the idea that JP Morgan has a culture that can manage risk, forever.

From all accounts, Dimon’s personality and demeanor are a critical determinant of the firm’s culture in general and the fact that it (partly) sat out the housing craze.  Everything we know about the evolution of firms is that while some aspects of culture survive growth and a rise to predominance (and JP Morgan is now #1, in case you’re keeping score), generally attitudes change as top people change.  And any rise to power brings with it potential sclerosis of various kinds – just ask Citigroup or Bank of America.

So major banks will run into some variety of trouble, probably sooner rather than later – remember there is a potential global credit boom underway (check your local oil prices for details).  If enough transparency, accountability, and public discussion is preparing and waiting for that moment, attitudes towards permissible banking behavior can change quickly.

And this administration will at some point, hopefully, prevail against some powerful industrial group or other.  If they can just get some political momentum vs. recalcitrant lobbies going, such success can be brought over into the financial sphere.

The wave of “reforms” this fall will likely not solve anything.  But this is not the end of attempts to better regulate the functioning of finance and to make sure it can never again run us into a crisis that results in doubling the national debt.  What we are looking at now is just the beginning of a 5 or 10 year struggle for real change in the structure of economic and political power around finance in the United States.

By Simon Johnson

28 responses to “Snowball: Strategies For Banking Reform

  1. Although I agree with the “snowball thesis,” I am prone to look upon it as a bad sign for things to come from Obama and his administration. His presidency will be defined–for good or ill–over the next two months as the healthcare reform debate heats up and (as I think it will) concludes.
    If Obama caves on the issue of a government plan as an alternative to existing programs, he will have failed the American people badly. And he WON’T get another bite out of THAT apple.
    If he fails on healthcare reform, his chances of later reforming the financial services industry are slim and none, with slim being on vacation.

  2. Sometimes it seems the administration talks in terms of having limited political capital and of needing to decide where to spend it – perhaps, for example, it has all been stored up to address health care. Mike’s model is somewhat different – once you defeat one powerful industrial lobby, it becomes easier to defeat others; success can snowball…

    So major banks will run into some variety of trouble, probably sooner rather than later – remember there is a potential global credit boom underway (check your local oil prices for details). If enough transparency, accountability, and public discussion is preparing and waiting for that moment, attitudes towards permissible banking behavior can change quickly.

    And this administration will at some point, hopefully, prevail against some powerful industrial group or other. If they can just get some political momentum vs. recalcitrant lobbies going, such success can be brought over into the financial sphere.

    I have always believed that if Obama had not been simply lying when he ran on the promise of Change, that if he had taken the people’s proclaimed desire for Change at face value, and come into office pushing for great, even radical Change across the board, that this would have had a great chance of achieving great successes.

    The people were angry and willing, the Republicans were on the ropes, the banksters were relatively cowed, and Democrats are always cowardly, so even the ones who didn’t want Change would likely have rolled over in the same way they usually rolled over for Bush.

    There was a tremendous political space temporarily open for a real stimulus, for real FIRE reform, for real foreign policy and weapons spending reform, for real health care reform…..

    …and instead, Obama simply threw it all away. From day one (really, from days after the election) he practiced the paltry politics of cowardice, “continuity”, appeasement, and betrayal. In every way he has sought the continuity of the feudal status quo.

    This can only mean he was lying from the outset, or he is simply politically craven. Political capital doesn’t have to be like fossil fuels. It can be a renewable resource, even a self-increasing one, if it’s used with verve and grandeur and the relentless will to seize the historical moment.

    Nor can it be said he “made a mistake” which he’s since learned from when e.g. he imposed prior restraint upon himself in volunteering that a large proportion of the “stimulus” could come from tax cuts, stupidly thinking the enemy would reciprocate such a gesture. (All they did, of course, was to regard Obama’s self-imposed concessionary line as the new baseline from which the real fight would begin.)

    No, he’s now repeated the same mistake with health care, having his own administration gratuitously volunteer that single-payer was “off the table”, while he personally assured the feudal private insurance parasite that he considers it a legitimate “stakeholder” with a legitimate “place at the table”.

    Anyone who thinks, as he apparently still does, that such giveaways will be reciprocated is simply impervious to learning a lesson.

    No, either by real ideological desire, or through the simple process of character fecklessness, here again, as with tax cuts, as with bailouts, as with the not-so-stressful stress tests, as with exec comp, as with re-regulation, Obama stands firmly on the side of rentier entrenchment and the continuity of the status quo, while real Change truly is “off the table”.

  3. Herbert Abrams

    We forget faster than we ever, if we ever realize what caused our nation/world eciniomic downturn.

    We need the causes to become mainstream news everyday.
    Try to find a way to get the world to want to know the cause before moving on /fixing.

    Won’t happen.

    Then there is Korea, Iran, the bomb,
    China et al’s economy when ours is fixed.
    And perhaps the Martians.

    It would be nice is we could be Baseline on mainline TV.

    Bank Stock is probably a buy.

  4. Frank Costello

    Excellent and correct political capital analysis. The industries the admin is taking on right now are health care and energy —- two gigantic ones.

    Both are spending huge money to defeat reform, and prospects right now are good in both areas. Climate/energy is further along, and given the lobbying power, we are headed towards a good and malleable (re: emissions target) results. Hopefully health care will be equally or more successful…

    And then, financial reform may be next…the capital cascade concept is key.

  5. Obama appears behind the curve of his own sizeable majority support.

    For some reason, he won’t bring to bear the power of his own public. Strange.

  6. ” What we are looking at now is just the beginning of a 5 or 10 year struggle for real change in the structure of economic and political power around finance in the United States”

    Good luck with that. A major catastrophe that shakes this nation in it’s bones is the only way that will happen. 9/11 wasn’t enough, financial meltdown of last fall wasn’t enough. US politicians are solely reactive. For them to risk their positions, and have to get a real job after disobeying their minders goes against their best interests.

  7. One can only hope for a snowball, but amid all the talk of green shoots, if you forgive the metaphors, who will be willing to till the soil? Once the banks are seen to be on the road to prosperity, how can reform be politically undertaken? Reformers believe the banking system is once again on the road to ruin, but if a little reform is applied to the green shoots, it will be the reformers who are blamed for any downturn. Better to have acted in the crisis than to hope for openings later.

  8. What I would say is that this crisis has opened up the possibility of further reforms going ahead, by showing that the existing system was unstable in the long run. It will take years to build a coalition for reform that agrees on the best basis for a sustainable, or less catastrophe prone, or more able to withstand catastrophe, system.

    So I agree with the point of your post.

  9. Absolutely correct. We got a prior glimpse of Obama’s gullibility with Rev. Wright.

  10. Also, why else would he pick a tax evader, Geithner & a fat head pseudo-intellectual, Summers.

  11. I just watched “Moneymasters” on google. There is one question which was asked by Thomas Edison many years ago which has stuck in my brain for the last weeks. That question is this: (paraphrase) “If we can issue $30B in debt why can’t we issue $30B in currency?” The stability and taxing authority of the country is what guarantees both. Right?
    The Fed’s ability to keep us out of these periods seems pretty poor. Also, to Simon’s point without the legitimacy of the Fed the major transfer of wealth to the Oligarchs would not be possible.

  12. The BEST banking reform is to tighten up the labor market so that wages go up so that interest rates go up.

    Get rid of the cheap labor, get rid of the cheap debt, get rid of 80% to 90% of the problems of the world.

    STOP letting the financial oligarchs EXPLOIT human beings for their own personal gain!

  13. ““If we can issue $30B in debt why can’t we issue $30B in currency?””

    because they do NOT want the lower and middle class to get ahead. They want NEGATIVE real earnings growth. They also want the lower and middle class to be DEBT SLAVES!

  14. “Also, to Simon’s point without the legitimacy of the Fed the major transfer of wealth to the Oligarchs would not be possible.”

    People need to understand what I consider to be the fed’s true function, to maximize debt and maximize the chances of that debt getting repaid (thru taxes, interest payments, and/or bailouts). Debt should be viewed as a weapon about control and transferring wealth.

  15. TonyForesta

    Brilliant and cutting commentary Russ. Obama’s backtracking and betrayal have shattered what little hope I held in America. It is now self evident, that America’s government is owned and controlled by, and beholden to the predatorclass and select predatorclass oligarchs.

    All the babel and chari vari bruting the false hopes and hollow promises of reform, change, transparency, accountability, equality, justice for all, liberty, human rights and dignity, and peace on earth and goodwill toward men are empty substantless words, nothing but hot noxious air, ‘…full of sound and fury, signifying nothing.”

    America has shapeshifted into a nation of the predatorclass, by the predatorclass, and for the predatorclass exclusively.

  16. I don’t know if JP Morgan Chase is truly a well-run company – apparently it is the #1 bank in America. If it is in that position because its leadership took a pass on the housing market blackjack game that had become so popular in the financial community, then I hope that this kind of leadership snowballs and becomes the norm, not the exception.

    What has bothered me most about this crisis is the absolution given to our business leaders – they were richly rewarded for terrible behaviors that led to the crash and now they pay no price, bear no burden for getting the economy back on track.

    The bailout may have been essential – but it also took accountability off the table for all those who worked so hard to build up the mountain of toxic assets. They got the money to stay in business (or else!) and they got their bonuses too, for the most part. If government is to meddle at that level, we cannot continue to reward terrible behavior – that must indeed change.

    I’m no Reaganite, but I think Jamie Dimon is right when he says:

    “Ultimately, however, it is up to us to manage our own companies wisely. That is why we have what I call a fortress balance sheet. What that means is a significant amount of capital; high quality of capital; strong liquidity; honest, transparent reporting; and excellent risk measurement and management. We have more common tangible equity than many large financial institutions. We’ve always been that way, keeping plenty of liquidity. We have to balance risk taking with doing what’s right for our customers and shareholders. I always say my grandma could have made those crazy profits by taking more risk. But are you building a better business?”

    I want the leaders of financial firms – and other American businesses – to truly focus on what it means to build a business – that’s what is missing today. Government needs to regulate – needs to determine adequate regulations so that the US Treasury Secretary never again must go to Congress and say give us trillions – or else. Regulations are needed so that our food is not needlessly contaminated in the pursuit of profit; that our drugs are safe and not deadly.

    But in the end, if we are to thrive as a culture, our business leaders need to be visionaries – they need to understand that true success comes from wisely running their business, not engaging in risk for the sake of risk, common sense be damned.

    We’ve been missing visionary leaders in the American business community lately (not just on Wall Street – look at the airlines, at Motorola, at GM, Chrysler, the NY Times – the list of poorly run American corporations appears endless).

    If Jamie Dimon truly means what he says – and has truly acted responsibly as a leader, then I hope other leaders follow his example. Then, and only then, will we crawl out of our hole.

  17. The great advantage of the presidency over every other branch of government and agency head and all the lobbyists… is that he can directly address the people. Teddy Roosevelt’s bully pulpit.

    Obama seems to crave conciliation, however. And this has been the greatest source of criticism from the moderate left.

    But we do not yet know if this is a signal of weakness… Recognize that the markets stand ready to punish – instantly – even the hint of any “anti-business” legislation, and for the last several months this has heavily constrained his activity. Consumer and business confidence mattered a lot.

    Like Kirk, I suspect the next 2 months will be revealing… But I’m not quite as pessimistic. The Obama Administration already surprised us by not rolling over on the warrants repurchasing issue. Moreover, (as noted earlier) if the general public perceives Obama as having successfully stopped the recession, that lends him the credibility to take his case to Congress (and even go over Congress to the general public).

    Interestingly, Obama’s failed initial attempts to win bipartisan support for several initiatives – the stimulus package among them – ended up working to his advantage when he later on pushed the stimulus package through a highly polarized Congress. He was able to say, “I tried to compromise, but they were intent on throwing up roadblocks.”

    And lest we judge too quickly, remember that Teddy Roosevelt didn’t make full use of his latent talents until his second year in office.

  18. Simon, you mentioned health care in your post which rung a bell. Health care is provided by doctors, nurses & health care providers, not the government. That is successful doctors, nurses & health care workers. Not failed doctors, nurses & health care workers propped up by the government. And how do we distinguish between successful & failed doctors, etc? The customers & Medical Care Regulators do.

    Just like banking is provided by successful banks, not failed banks. And what are failed banks? Those requiring free money stolen from taxpayers to stay in business. Again as with medical care, customers & bank regulators determine which banks are successful & which have failed.

    But in this case the hundreds & thousands of banking regulators, up to & including the Chairman of The Federal Reserve & Treasury Secretary, whom we have been paying to prevent bank failures for years, were too dumb to see this crisis coming. Which has been coming for years, not months.

    So now the same people who were too dumb to see this crisis coming are trying to tell us they are smart enough to determine when a bank is too big to fail? How can that be? Have they gone from being too dumb to prevent a crash to smart enough to fix it? And also brilliant enough to tell us which banks are too big to fail? Have they become brilliant overnight by taking some smart pills or something? I seem to be missing something.

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  21. “In particular, if banks make further mistakes – even if not on the recent scale – this will shift opinion towards reform. Jamie Dimon, for example, has another brilliant statement on why banking, or at least JP Morgan Chase, should be allowed to go back to “business as usual”. But his reasoning rests largely on the idea that JP Morgan has a culture that can manage risk, forever.

    From all accounts, Dimon’s personality and demeanor are a critical determinant of the firm’s culture in general and the fact that it (partly) sat out the housing craze. Everything we know about the evolution of firms is that while some aspects of culture survive growth and a rise to predominance (and JP Morgan is now #1, in case you’re keeping score), generally attitudes change as top people change. And any rise to power brings with it potential sclerosis of various kinds – just ask Citigroup or Bank of America.”

    Rule of law or rule of human beings? Civilization has advanced largely by increasing the role of law in governing our lives. But the law cannot prevent every ill without becoming a draconian burden, spawning ills of its own. In the end we cannot escape the human factor. Nor should we fear it. We are humans, not machines or cyborgs.

    To many suggestions of regulatory reform we get the reply, Yes, but. Or rather, the reply that it will not work because clever executives or lawyers will find a way to evae or subvert the regulations. This reflects a corporate culture that indeed attempts to do just that. Someone pointed out on a different blog recently that if you do a web search for “citi fines” you find a record that looks like one from a criminal enterprise. That suggest both a failure of regulation and a serious defect in corporate culture.

    Mr. Diamond speaks out for a responsible corporate culture, one in line with traditional American “main street” values, not the “greed is good” culture of Wall Street. His words are welcome, but that does not mean that we should not improve and strengthen regulation. We need both better regulation and cultural change.

    While Diamond’s personality and character have a great deal to do with the corporate culture of J. P. Morgan, I suspect that that culture has not changed very much from how it was under J. P. Morgan, the man. Remember, it was he who took the lead in the crisis of 1907.

    I applaud Mr. Diamond’s words, and hope that they have some effect upon the corporate cultures of his fellows.

  22. What Obama needs to do is to bring in some new, qualified people to replace the old unqualified ones. He needs to get rid of those who have proven themselves to be too dumb or too lazy or both. Proven failures. It’s not like there aren’t a large number of very qualified people out there to replace the failures.

    And the failures truly thing they are succeeding when all they have done besides failing to prevent this crisis is to put a temporary patch on a failed overleveraged banking system and shifted the problem to a failed over leveraged Treasury & failed overleveraged Federal Reserve. A real success story but, probably not the one Obama was looking for.

  23. On Obama’s tactics:

    Remember his history. As editor in chief of the Harvard Law Review he worked with opposing factions to produce a quality publication. As a community organizer he had to harmonize different interests, to resolve actual and potential conflicts. His mistake — I think it is a mistake — in dealing with his political opponents is that they are far more intractable than students or ordinary citizens. Their interest lies in foiling and defeating him, and that is an interest that he cannot reconcile. He may, in time, win some of them over, or change tactics. We shall see.

  24. Tippy Golden

    Success can snowball, said Mike Lux.

    Robert Reich is doing something very-very interesting right now. He has identified health care reform, and financial reform, as the two big fights coming up for the Obama administration.

    Reich’s blog is at: http://robertreich.blogspot.com/

    It looks like the first “big fight” is health care reform by virtue of timing. If the health care reform is meaningful, it will bode well for financial reform.

  25. Sorry chaps,
    But don’t buy in to the ‘snowball’ effect at this juncture in time.
    Currently on Capitol Hill high level discussions are underway regarding major reforms to the regulatory structure of finance within the US, similar debates are taking place in the European Union – remember the G20 meeting anyone.
    All discussions currently have been slow about reforming the system, that reform is necessary is a ‘no brainer, regardless of the ‘big boys’ repaying TARP funds.
    What shape this new system will take is any ones guess currently, and of course the recipients of TARP are trying to inform the agenda with their parasitic lobbyists in Washington.
    However, as stated, you need to think carefully about reforming the regulatory environment of the US – which is highly complex due to both State requirements and Federal government requirements – something countries like the UK do not have to worry about.
    Having dealt with a few senior figures at the Fed recently, most actually would concur with Simon’s advice on reform, but a unitary or ‘twin peaks’ regulatory environment is impossible under the Constitution, ie, States rights verses Federal rights.
    I believe most policy makers are also aware that knee jerk reactions and ill conceived reforms can backfire as much as no reform whatsoever – please see the real effect of Sarbanes Oxley, which again did not prevent the current crisis, even though as William Seidman once observed, “those that sign-off on financial figures as true and accurate are liable to prosecution if the opposite is the case.” Indeed, if Charles Bowsher does not wish to sign off on financial statements under the revised Rule 157, something really must be wrong.
    Hence, root and branch reform is necessary, all observers understand this, however, Geithner and the Wall Street clique will fight tooth and nail to avoid this, or at least water it down.
    The fact remains that the bankster have thus far cost the US taxpayer US$12 trillion and counting, the world is in a recession and financial service regulatory reform is both under discussion and in many instances underway.
    For me, I just hope the views of Bowsher et al prevail in Washington.
    But from a constitutional point of view just wanted you to be made aware that the debate is not restricted to Washington alone, and this has a tendency to muddy the water and allows the parasitic lobbyists to exert influence that quite frankly should be banned outright.

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  28. I completely agree with Mike’s suggested ‘early success’ strategy–as doable and politically prudent. Let’s not draw out the pain. Is there any downside to an early success?

    Now on the culture comments…I think there are a lot of org. behavioral profs out there who do think that company culture transcends a leader…and as far as Dimon goes. He didn’t build JPMorgan…he just currently runs the show…I view him as pretty dispensable–and probably didn’t really change the culture of JPMorgan when he came on board from Bank One?? Just my perspective…