Author: Simon Johnson

Eugene Fama: “Too Big To Fail” Perverts Activities and Incentives

By Simon Johnson, co-author of 13 Bankers

In our continuing financial debate, one of the central myths – put about by big banks and also not seriously disputed by the administration – is that reining in “too big to fail” banks is in some sense an “anti-market” approach.

Speaking on CNBC at the end last week, Gene Fama – probably one of the most pro-market economists left standing – pointed out that this view is nonsense. (The clip is here, and also on Greg Mankiw’s blog; TBTF is the focus from about the 5:50 minute mark.)

Having banks that are Too Big To Fail, according to Fama, is “perverting activities and incentives” in financial markets – giving big financial firms,

“a license to increase risk; where the taxpayers will bear the downside and firms will bear the upside.” Continue reading “Eugene Fama: “Too Big To Fail” Perverts Activities and Incentives” →

The Consensus On Big Banks Shifts, But Not At Treasury

By Simon Johnson, co-author 13 Bankers: The Wall Street Takeover and The Next Financial Meltdown

Attitudes towards big banks are changing around the world and across the political spectrum. In the UK, the new center-right government is looking for ways to break them up:

“We will take steps to reduce systemic risk in the banking system and will establish an independent commission to investigate the complex issue of separating retail and investment banking in a sustainable way; while recognising that this will take time to get right, the commission will be given an initial time frame of one year to report.”

The European Commission, among others, signals that a bank tax is coming; presumably, as suggested by the IMF, this will have higher rates for bigger banks and for banks with less capital. And other European officials are increasingly worried by the lack of capital in German banks, by the recent reckless lending sprees in Ireland and Spain, and by the dangers posed by banks that are much bigger than their home countries (e.g., Switzerland).

Yet top Obama administration officials refuse to change their opinions in the slightest; they have dug in behind the idea that they represent the moderate center on banking policy. This is a weak position; it is simply a myth with no factual basis – the people who pushed effectively for more reform over the past few months were the center, not the left, of the Democratic party. Continue reading “The Consensus On Big Banks Shifts, But Not At Treasury” →

Is The SEC Still Working For Wall Street?

By Simon Johnson

The Securities and Exchange Commission (SEC) under Mary Shapiro is trying to escape a difficult legacy – over the past two decades, the once proud agency was effectively captured by the very Wall Street firms it was supposed to regulate.

The SEC’s case against Goldman Sachs may mark a return to a more effective role; certainly bringing a case against Goldman took some guts. But it is entirely possible that the Goldman matter is a one off that lacks broader implications. And in this context the SEC’s handling of concerns about “high frequency trading” (HFT) – following the May 6 “flash crash”, when the stock market essentially shut down or rebooted for 20 minutes – is most disconcerting. (See yesterday’s speech by Senator Ted Kaufman on this exact issue; short summary.) Continue reading “Is The SEC Still Working For Wall Street?” →

So Damn Little Money

By Simon Johnson

The financial reform legislation currently heading into a June Senate-House conference will, at best, do little to affect the incentives and beliefs at the heart of the largest banks on Wall Street. Serious attempts to strengthen the bill through amendment – such as Brown-Kaufman and Merkley-Levin – were either shot down on the floor of the Senate or, when their prospects seemed stronger, not allowed to come to a vote.

Senator Blanche Lincoln is holding the Alamo with regard to reining in the big broker-dealers in derivatives. But these same people are bringing to bear one of the most intensely focused lobbying campaigns of recent years, bent on killing her provisions (or weakening them beyond recognition). All the early indications are that the lobbyists, once again, will prevail.

At one level, Robert Kaiser nailed this topic in his recent book, “So Damn Much Money: The Triumph of Lobbying and the Corrosion of American Government.” Elections have become more expensive, with most of the funding provided by special interests. You can argue about which is the chicken and which is the egg, but the basic facts are inescapable. Continue reading “So Damn Little Money” →

The Last Hold Out: Senator Blanche Lincoln Against 13 Bankers

By Simon Johnson

By now you have probably realized – correctly – that “financial reform” has turned into a victory lap for Wall Street.

When they saved the big banks, with massive unconditional support (both explicit and implicit) over a year ago, top administration officials promised they would be back later to fix the underlying problems. This they – and Congress – manifestly have failed to do.

Our banking structure remains unchanged, the rules will be tweaked at the margins, and the incentive and belief system that lies behind reckless risk-taking has only become more dangerous. (The back story, if you can still stomach it, is in 13 Bankers).

There is only one small chance for any sensible progress remaining – and you are about to see this crushed in conference by the supporters of unfettered big banks. Continue reading “The Last Hold Out: Senator Blanche Lincoln Against 13 Bankers” →

The Road To Economic Serfdom

By Peter Boone and Simon Johnson

According to Friedrich von Hayek, the development of welfare socialism after World War II undermined freedom and would lead western democracies inexorably to some form of state-run serfdom.

Hayek had the sign and the destination right but was entirely wrong about the mechanism. Unregulated finance, the ideology of unfettered free markets, and state capture by corporate interests are what ended up undermining democracy both in North America and in Europe. All industrialized countries are at risk, but it’s the eurozone – with its vulnerable structures – that points most clearly to our potentially unpleasant collective futures.

As a result of the continuing euro crisis, European Central Bank (ECB) now finds itself buying up the debt of all the weaker eurozone governments, making it the – perhaps unwittingly – feudal boss of Europe. In the coming years, it will be the ECB and the European Union who dictate policy. The policy elite who run these structures – along with their allies in the private sector – are the new overlords. Continue reading “The Road To Economic Serfdom” →

Focus On This: Merkley-Levin Did Not Get A Vote

By Simon Johnson

After 9 months of hard fighting, yesterday financial reform came down to this: an amendment, proposed by Senators Jeff Merkley and Carl Levin that would have forced big banks to get rid of their speculative proprietary trading activities (i.e., a relatively strong version of the Volcker Rule.)

The amendment had picked up a great deal of support in recent weeks, partly because of unflagging support from Paul Volcker and partly because of the broader debate around the Brown-Kaufman amendment (which would have forced the biggest 6 banks to become smaller). Brown-Kaufman failed, 33-61, but it demonstrated that a growing number of senators were willing to confront the power of our biggest and worst banks.

Yet, at the end of the day, the Merkley-Levin amendment did not even get a vote. Why? Continue reading “Focus On This: Merkley-Levin Did Not Get A Vote” →

The Very Bad Luck of The Irish

By Peter Boone and Simon Johnson

With the European Central Bank announcing that it has bought more than $20 billion of mostly high-risk euro zone government debt in one week, its new strategy is crystal clear: We will take the risk from bank balance sheets and give it to the central bank, and we expect Portugal-Ireland-Italy-Greece-Spain to cut fiscal spending sharply and pull themselves out of this mess through austerity.

But the bank’s head, Jean-Claude Trichet, faces a potential major issue: the task assigned to the profligate nations could be impossible. Some of these nations may be stuck in a downward debt spiral that makes greater economic decline ever more likely. Continue reading “The Very Bad Luck of The Irish” →

The Middle Ground On Financial Reform

By Simon Johnson

In Politico this morning, I question whether the president should really be seen as “centrist” or “moderate” with regard to financial reform. His staff goes to great lengths to make this claim, including both the specific quotes and general tone in the Financial Times on Tuesday (May 18, p.7).

Treasury Secretary Tim Geithner:

“I would say [the president] is fundamentally at the centre and pro-market. But he recognizes the market cannot solve all problems.”

Larry Summers:

“Sometimes the most courageous thing to do is not to take the largest and most sweeping course of action.”

But if this is the correct way to frame the president’s position, how can we explain the fact that it is moderates – not left-wing radicals – who are pushing (against the White House, among others) for stronger reform both within the administration and in Congress? I suggest another interpretation: On financial reform, the president does not hold the middle ground.

Fire Up Twitter

The White House has over 1.75 million followers on Twitter.

The latest presidential tweet is a bit stale (17 hours ago), but right on target.

“Obama to Senate GOP blocking increase in oil company liability: “stop playing special interest politics” http://bit.ly/d65jfY“

The White House needs to send out the exact same message, but replacing “increase in oil company liability” with “financial reform”, and then linking to the Merkley-Levin amendment and the imminent failure of the Volcker Rule and meaningful financial reform.

How hard can that be?

Update (12:40pm): at about 10:30am, the president’s staff put out this tweet (@BarackObama; i.e., http://twitter.com/BarackObama, with nearly 4 million followers):

“It’s time for Wall St. reform that gives greater security to folks on Main Street. Call your Republican Senators today: http://j.mp/cwhtg7“

Good tweet – but the president should call explicitly for Merkley-Levin to pass; this is his own Volcker Rule, after all. Here’s Senator Jeff Merkley, to the point: http://twitter.com/senjeffmerkley

In Defense Of Europe’s Grand Bargain

This guest post is by Jacob Funk Kirkegaard, a research fellow at the Peterson Institute for International Economics. He is more positive than the current consensus on recent economic and political developments in the eurozone.

The frantic spectacle of European leaders struggling to avert a financial crisis caused by Greece has seemed unsettling and at times amateurish. It is certainly easy to point fingers at policy makers patching solutions together solutions that immediately unravel under pressure from the markets, and to do so again and again over the last several weeks.

But if you look less at the sausage-making process and more at the final result, you have to be impressed. There are of course many painful steps that still need to be undertaken by all sides – the Greeks, the weaker European economies, the European banks and the European governments. But the derision of some commentators and the uneasiness of the markets seems overstated.

Recall the disdain, for example, when the TARP was introduced in late 2008 or the bank stress-tests were carried out last year. Today most would argue that they ultimately played a large and constructive role in containing the immediate crisis contagion. In time, Europe’s response to the Greek crisis will be viewed in a similar positive light. Continue reading “In Defense Of Europe’s Grand Bargain” →

Finally, The Republicans Come Out To Fight. Where Is The President?

The Senate Republicans are refusing to allow a vote on the Merkley-Levin amendment, which would put a meaningful version of the Volcker Rule into law (splitting off proprietary trading from major banks).

After weeks of dancing around, the Democrats finally have a signature issue on which to fight. Senator Carl Levin frames it exactly right: “It’s a sad day when the power of Wall Street can overwhelm the power of the American people in the US Senate.”

This is the opportunity that White House claims it has long sought – to have an intense fight on a financial reform issue that everyone can understand. Paul Volcker made his determination long ago: the big banks are too big and must, in this fashion, be broken up. Senators Merkley and Levin negotiated the precise language of their amendment in good faith. The Republicans have made their answer clear: No way.

Time for President Obama to make the call. Continue reading “Finally, The Republicans Come Out To Fight. Where Is The President?” →

Senator Ted Kaufman: Financial Reform Against The Odds

By Simon Johnson, an excerpt from my latest column on Project Syndicate

America’s financial sector has shown renewed strength in recent months – political strength, that is – by undermining most of the sensible proposals for banking reform that remain on the table. If we are still making any progress at all, it is because of the noble efforts of a small number of United States senators.

Most notable has been the work of Senator Ted Kaufman, a Democrat from Delaware (yes, a pro-business state), who has pressed tirelessly to fix the most egregious problems in the US financial sector. Kaufman understands that successful reform requires three ingredients: arguments that persuade, the ability to bring colleagues along, and a good deal of luck in the form of events that highlight problems at just the right time. On two fronts, Kaufman has – against long odds – actually managed to make substantial steps.

The rest of this article is available (free) on Project Syndicate.

Thinking About Financial Reform

By Simon Johnson, co-author of 13 Bankers

There are three contending narratives regarding the financial reform legislation that this week approaches its final hurdles in the US Senate.

The first narrative is “the reforms would make things worse.” This view, advanced recently by some Republican leadership, seems to have receded in recent weeks – at least with regard to systemic risk – particularly after Senator Ted Kaufman dealt with it rather brutally on the Senate floor. For the most part, this line has sunk down to the level of sneaky astroturf campaigns.

There is still a rear-guard action by special interests against consumer protection on financial products, but here the administration started out with a sensible vision and – with strong support along the way from the likes of Elizabeth Warren – reasonable safeguards will eventually emerge. The biggest remaining item is probably the Whitehouse Interstate Lending Amendment, which would definitely help – call your senator, but only if you don’t like being gouged by credit card companies.

The second narrative is “Obama administration as heroes.” Against the odds, in this view, the administration has prevailed in the teeth of tough opposition. Continue reading “Thinking About Financial Reform” →

13 Bankers: Lehrer Newshour Edition – And Another Connection

By Simon Johnson

On Thursday evening, the Lehrer Newshour ran my discussion with Paul Solman on American financial history and previous attempts to constrain the power of big banks – covering the main points in chapter 1 of 13 Bankers. On Paul’s part of the Newshour website, we also talk about “astroturf” organizations that pretend to be reformist but are really just stalking horses for corporate interests opposed to reform.

We covered a lot of ground (and much of Manhattan) in 8 minutes, but we missed one potential irony. At the American Museum of Natural History, above the Teddy Roosevelt statue (and not readable, it turns out afterwards, in any of the shots) there was a huge banner celebrating an exhibit made possible in part by David Koch (a trustee and major funder of their dinosaur wing).

Teddy Roosevelt would have loved the irony of appearing under a banner with Mr. Koch’s name.

Continue reading “13 Bankers: Lehrer Newshour Edition – And Another Connection” →