Volcker Rule

So finally Paul Volcker is heard.  After his proposal of seperating the trading activity from commercial banking was ignored for much of 2009, he finally has a say.

Obama announced y’day what he calls as Volcker Rule to curb financial sector risks and size:

Now, limits on the risks major financial firms can take are central to the reforms that I’ve proposed.  They are central to the legislation that has passed the House under the leadership of Chairman Barney Frank, and that we’re working to pass in the Senate under the leadership of Chairman Chris Dodd.  As part of these efforts, today I’m proposing two additional reforms that I believe will strengthen the financial system while preventing future crises.

First, we should no longer allow banks to stray too far from their central mission of serving their customers. 

…..Our government provides deposit insurance and other safeguards and guarantees to firms that operate banks.  We do so because a stable and reliable banking system promotes sustained growth, and because we learned how dangerous the failure of that system can be during the Great Depression. 

But these privileges were not created to bestow banks operating hedge funds or private equity funds with an unfair advantage.  When banks benefit from the safety net that taxpayers provide –- which includes lower-cost capital –- it is not appropriate for them to turn around and use that cheap money to trade for profit.  And that is especially true when this kind of trading often puts banks in direct conflict with their customers’ interests.

The fact is, these kinds of trading operations can create enormous and costly risks, endangering the entire bank if things go wrong.  We simply cannot accept a system in which hedge funds or private equity firms inside banks can place huge, risky bets that are subsidized by taxpayers and that could pose a conflict of interest.  And we cannot accept a system in which shareholders make money on these operations if the bank wins but taxpayers foot the bill if the bank loses.

It’s for these reasons that I’m proposing a simple and common-sense reform, which we’re calling the “Volcker Rule” — after this tall guy behind me.  Banks will no longer be allowed to own, invest, or sponsor hedge funds, private equity funds, or proprietary trading operations for their own profit, unrelated to serving their customers.  If financial firms want to trade for profit, that’s something they’re free to do.  Indeed, doing so –- responsibly –- is a good thing for the markets and the economy.  But these firms should not be allowed to run these hedge funds and private equities funds while running a bank backed by the American people.

In addition, as part of our efforts to protect against future crises, I’m also proposing that we prevent the further consolidation of our financial system.  There has long been a deposit cap in place to guard against too much risk being concentrated in a single bank.  The same principle should apply to wider forms of funding employed by large financial institutions in today’s economy. 

The factsheet is here.

He takes on wall street lobbying  as well:

My message to members of Congress of both parties is that we have to get this done.  And my message to leaders of the financial industry is to work with us, and not against us, on needed reforms.  I welcome constructive input from folks in the financial sector.  But what we’ve seen so far, in recent weeks, is an army of industry lobbyists from Wall Street descending on Capitol Hill to try and block basic and common-sense rules of the road that would protect our economy and the American people.

So if these folks want a fight, it’s a fight I’m ready to have.  And my resolve is only strengthened when I see a return to old practices at some of the very firms fighting reform; and when I see soaring profits and obscene bonuses at some of the very firms claiming that they can’t lend more to small business, they can’t keep credit card rates low, they can’t pay a fee to refund taxpayers for the bailout without passing on the cost to shareholders or customers — that’s the claims they’re making.  It’s exactly this kind of irresponsibility that makes clear reform is necessary.

Hmm. strong words…i hope there is some action as well. There are some good links on this proposal:

  • WSJ Blog lists econ/expert views of the proposal. 
  • Time to read on Glass Steagall Act. Comparison with Glass Steagall
  • Paul Mason of BBC Blog says Obama is serious with this
  • UK to follow Obama
  • Krugman says unless we really rein in shadow banking nothing will work really

So after Obama proposed the Bank tax (sorry fee), followed by a funny story that wall street planning to build a legal case against the fee, we have another proposal from Obama. There are two ways to think about it – One. it is all happening randomly. Two, Obama admin is waking up to new challenges from the wall street practices/ lobbying everyday.

There is a very useful timeline by WSJ Blog on various US admin initiatives on financial sector. The war does not look over as these are just proposals. Real thing lies in implementation.

Simon Johnson looks at the politics and says it does not look the recent proposals would be passed. He instead suggests to look at making anti-trust cases against major banks.

2 Responses to “Volcker Rule”

  1. Going back to Glass Steagall Act « Mostly Economics Says:

    […] back to Glass Steagall Act By Amol Agrawal Though Volcker rules have in a way gotten back to Glass Steagall, this paper by Jan Kregel of Levy Institute advices […]

  2. Robinhood tax!! « Mostly Economics Says:

    […] the Obama’s proposal to seperate commecial banking from speculative finance. By calling it Volcker rule, it could go either way. Some politicians/economists might associate the proposal as a very good […]

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