Category Archives: financial regulation

Visa and Mastercard Retail Debit Transaction Fees Restricted under New Reform Amendment

By Marc Seltzer; originally published on May 13, 2010, at care2.com

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A Senate amendment to the comprehensive financial reform legislation directs the Federal Reserve to cap retail debit card transaction fees at a level that is “reasonable and proportional” to the cost of processing the transactions.  Sixty-four Senators sided with retailers over banking industry objections.  33 opposed.

The restrictions are not contained in the House version of financial reform that passed in December.  Thus, if the current bill passes the full Senate vote, the provision will still have to make it into the final legislation during reconciliation of the House and Senate bills.  The banking lobbyists will push hard to stop the final legislation from containing the restrictions, which could cost banks billions of dollars.

Anger at banks has shifted the power in the Senate towards small businesses and away from large banks, for the time being.  The amendment was written by Senator Dick Durbin, Democratic whip, and brought for a vote by Senator Chris Dodd of Connecticut, who is managing the financial reform legislation as Chairman of the Senate Banking Committee.

Some of the savings would likely be passed from retailers to customers, especially in highly competitive markets like groceries and chain stores.

The law would only apply to large banks and would not apply to credit card transaction fees.  Still, it would give retailers a path to lower transaction costs.

The Columbia Journalism Review covered the change and noted that the press has been fairly mute on amendments to the financial reform bill and poor in explaining what’s at stake.  Spotty Coverage of the Financial Reform Amendments More information is available:  Reuters reportingProgressiveOhio

Marc Seltzer is also a contributor to SupremePodcast.com and Redefining America: Constitution and Leadership 2010.

Where the Stock Market Goes, Jobs Follow

By Marc Seltzer; originally published on May 10, 2010, at care2.com.

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Right on schedule, 2010 jobs numbers are improving dramatically, following in the footsteps of the U.S. stock market’s impressive, year-plus climb back from 2008-2009 financial-crisis lows.  “The best job growth in [the] manufacturing sector since 1998” as Senator Dodd described it on Face the Nation.  However, in the past week, the market has fallen 5%.  Does this indicate a problem for the recovery or signal that employment gains will not continue?

The stock market, which reflects a willingness to invest in companies on the prediction of future profits, gained 23% in the last twelve months.  However, many called this a “jobless recovery” because unemployment numbers were poor during much of this period.  Job growth typically follows many months after the stock market gains, as businesses turn increased prospects, sales and planning activity into action on the hiring front.

Look at the recent employment numbers:  290,000 new jobs in April; 230,000 new jobs in March, after 39,000 in February; and 14,000 in January.  While it will take a few years for the 8+ million unemployed Americans to find new work even if the economy creates three- or four-hundred thousand new jobs a month as the recovery continues, the strong stock market of the past year would suggest continued strength.

Following the same reasoning, does this past month’s stock market downturn foretell a loss of jobs in 2011?  That depends on whether the stock market slide reflects only a “correction” — temporary profit taking and selling in light of how extraordinarily fast the market rebounded over the past year — or a more negative economic prediction in light of financial instability in Europe.

On the bright side, the trouble in Greece, which has shaken Europe, is still small in proportion to the size of the U.S. economy — the entire Greek bailout package, somewhere above 100 billion dollars, is in the ballpark of what the U.S. government spent to bailout insurer A.I.G.  On the other hand, the European Union is not the United States, politically speaking (although public disapproval of the bailout is reminiscent), and if the rescue is not performed as well as it was in the US, instability could spread to larger EU nations.  As an important trading partner, what happens in Europe will impact the United States (More coverage of Greek financial issues in the New York Times).

Even with EU weakness, however, the North American and Asian economies are poised for growth.  After a severe recession, U.S. growth will be driven by pent-up demand and new innovation, as well as continuing stimulus spending.  The bubble and bust of the 2000s was very destructive, but there should be no doubt of the underlying demand for U.S. goods and services.  The need for quality health care, environmentally sound products, better energy solutions and cutting-edge technologies has never been greater.  Even the U.S.’s greatest liabilities, such as its over-dependence on fossil fuels, will force research, development and significant economic activity.

It remains to be seen how European economies will cope with the current crisis, but the United States is now beginning a significant economic recovery.  With plans for better regulation of financial markets working their way through Congress, a new period of sustainable economic growth, while by no means guaranteed, is within reach.  It will take more than a minor setback to derail the U.S. economy now, and that’s good for workers waiting to get aboard.

Marc Seltzer also podcasts about the Supreme Court at SupremePodcast.com

Stocks Tumble, Uncertainty Rises

By Marc Seltzer; originally published May 6, 2010, care2.com
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The U.S. stock market took a wild ride Thursday as the DOW index of stocks fell 1,000 points at its lowest and ended the trading day down 347, or more than 3%.  The economic concerns of the day centered on the turmoil in Europe as Greece needs a bailout to avoid default on its public debt.  However, the Securities and Exchange Commission (SEC) is investigating unusual trading activity to determine whether mistakes or manipulation caused a rapid drop of stock prices shortly after 2:30 p.m.

The crisis in Europe is serious.  Greeks have been rioting for several days over the economic hardships that are being imposed, as the government seeks to rein in public spending and convince European nations that it will show fiscal discipline, if given a new loan package.  Skeptics believe that even with new loans and belt tightening, Greece will eventually have to restructure its debt.

However, Greece is a small nation and its economy is only a small fraction of Europe’s economic power.  The market’s concern is that Greece’s problems might also surface in larger European economies such as Portugal, Italy or Spain.  Not unlike the U.S. bailouts to financial institutions in 2008, European governments today are stepping in to stop Greece’s failure from spreading.

While the decline in Greece is in itself too small to negatively impact the U.S. economy, greater weakness in Europe could hurt U.S. export sales and overall confidence in the recovery.  On the other hand, the U.S. stock market has risen dramatically since the financial crisis abated.  It may simply have been due for a correction.

Are Republicans Lying About Financial Reform?

By Marc Seltzer; originally posted on April 20, 2010, at care2.com

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As the Senate moves towards consideration of financial industry reform, politics again threatens to overwhelm substance in the debate.  Conservatives have attacked Democratic legislation with the moniker “bailouts forever.”  Political writer Mark Halperin charged Republicans with “intentionally misreading the law,” echoing claims of angry Senate Dems.  Unlike with health care reform, where budget complexity defied evaluation without experts and CBO forecasts, the core principles of financial reform are fairly straight forward.

The following is what you need to know to make your own decision:

A.  Protections against risky behavior by financial institutions


1. Capital Requirements

Companies will be forced to keep more money available — “capitalization” or “capital reserves” — to protect themselves against losses so that typical companies will not be at risk of collapse in a downturn.  Sufficient capital could have eliminated the need for bailouts of financial institutions in 2008-2009.

2.  Leverage Restrictions
Financial companies will be limited in how much money they borrow and put at risk. Many institutions make money by investing and taking risk with borrowed funds.  This extends their gains in boom times, but threatens overwhelming losses in a bust.  Private companies are still allowed to place their bets, even risky bets, but they cannot do so using such high percentages of borrowed funds, creating a risk of nonpayment when their investments go bad.

Capital and Leverage rules are the key to protecting the economy from a 2008-style crisis. No longer would the great extent of irresponsible risk be tolerated.  With each individual company taking less risk, a severe downturn in the economy could drive some financial entities out of business, but would not threaten the entire financial industry and thus require government assistance.

Watch out for “too big to fail” arguments from the Left (“break up the banks”) or Right (“endless bailouts”). Canada has five of the largest banks in the world and none faltered.  Canada’s financial institutions are regulated with the same type of serious oversight included in current US proposals.  Capital requirements for Canadian banks were held at 7 percent going into this crisis, while the global average was closer to 4 percent. Canada’s chief financial regulator, OSFI Superintendent Julie Dickson, remarked in November 2008, “We have seen how strong capital cushions in Canada have paid off to the benefit of our institutions and overall financial system.” (My comparison of the U.S. administration’s proposals with the Canadian regulatory system)

The point is, capital, leverage and risk management are more important than size.  In fact, no one financial institution in the US was too big to fail as far as the effect on jobs, small business loans or the stock market.  The problem was that many separate but co-dependent entities were unable to handle a downturn and would have failed within a period of months, if not for government intervention.  Early in the Great Depression 5000 banks failed.  Making each bank smaller is irrelevant, if they all fail.

B.  Specifically dealing with failing companies.

1.  Closing companies down — “FDIC Resolution Authority”
The administration’s proposal is to use the FDIC (Federal Depository Insurance Corporation), which currently closes banks that are failing, to close all financial institutions, when they fall below financial operating requirements.  The FDIC is highly regarded for efficient and effective “weekend” bank closures.  FDIC agents take over Friday at 5:00 p.m., and Monday the bank is open for customers, but under FDIC supervision.  The FDIC locates a new buyer quickly and gets out of the way once new management takes over.  Previously, there was no law permitting FDIC action on failing financial institutions that were not technically chartered banks.  Thus, Bear Sterns, Lehman Brothers, Citi, etc., could not have been closed by the FDIC.

The alternative approach, proposed by critics of the FDIC model, is to allow failing financial institutions that are not banks to file for bankruptcy.  Advocates say that bankruptcy courts have more expertise than the FDIC at large complicated business structures.  However, bankruptcy does allow the management to continue through the failure and to propose corrective plans, using the bankruptcy court to deal with creditors.

In the 2008-2009 crisis, insurer AIG would have had to file bankruptcy, if the federal government did not bail it out.  In bankruptcy, AIG and its management would still have aimed to protect their own interests, despite the anticipated international catastrophe of its own making. (Many financial institutions had used AIG to insure themselves against losses; AIG’s collapse would have led to additional major collapses worldwide)

According to the proposed “FDIC resolution authority” model, the financial institution will be taken over and immediately managed by experts with the public’s interest in mind.  Presumably, the bankruptcy model would also protect the larger financial system, since higher capital and leverage standards, discussed above, would serve to lower the amount of damage that any one institution could cause in failure. However, the FDIC, as a banking regulator, has expertise in the financial system, while bankruptcy courts handle competing public and private interests in all types of businesses, and may not always have a view to protecting financial stability.  Remember, the purpose of the new law is to stop poor decision-making of a few entities from impacting the entire industry and the wider economy.

2.  Industry-Financed Disaster Fund
The Senate legislation plans for the financial institutions to contribute to a fund to be used if needed in closing companies.  The 50 billion dollar fund would shield taxpayers from having to pay for any costs incurred by failing financial institutions.  While the new law intends to avoid bailouts altogether, by making financial institutions less risky, more self-sufficient, and by closing them before they create systemic damage, it provides that any bailouts that do occur will be paid from a fund created with private financial company fees.

Should industry-financed bailouts be allowed? Imagine, for example, that a financial institution failure would cause a functioning private hospital to be shut down for a week while it sought new financing from another bank.  In that case, not because of a threat to the wider economy, but because of other public purposes, short-term bailout financing, using the institution-financed fund, might be deemed appropriate, at no cost to the tax payer.

The reason that Congress is rejecting the idea of outlawing any possibility of bailouts, is that it is possible that public purposes will be served by having a bailout option.  What is different here is that the government will not be forced into bailout because the new capital and leverage requirements will protect the wider economy.  Thus, Republican claims that bailouts using public funds will continue, do not take into account the fact that new capital and leverage requirements are the primary defense against systemic risk.  It is not by pledging, even through legislation, to avoid bailouts that we will be protected.  It is by stopping companies from taking so much risk that the entire system is put in danger of collapse.

C.  Consumer Protection

Fundamental consumer protections already exist to keep financial institutions from stealing or mismanaging their customers assets.  However, as the Madoff scandal illustrates, the government is not always effective in policing.  In addition, in the real estate market, many homebuyers obtained mortgages without fully comprehending the terms and consequences.  The new law aims to provide additional protection for consumers.  Krugman: Looters in Loafers

The financial industry is strongly against the consumer protection provisions, partly because they do not know how aggressive the new body will be in regulating business practices.  (Auto-finance example)  The current proposal puts a new consumer-protection agency under the authority of the Federal Reserve.  As the Federal Reserve traditionally regulates banks and manages monetary policy, including the interest rates that banks are charged to borrow funds for their business operations, the issue for the new consumer protection regulator will be how independent it remains from Fed regulators with different goals, and determining what level of protection balances business objectives with consumer rights.

These are the core ideas behind the administration’s plan, as spearheaded by Treasury Secretary Timothy Geithner and now incorporated into Democratic legislation.  As Congressional leaders posture about whether to support or oppose the plan and why, decide for yourself what’s politics and what’s substance.

More by Marc Seltzer:  Hate that Obama’s Near the Middle, Think Again!
Questioning Conventional Wisdom

Will Republicans return to power in November?  Listen to Marc Seltzer and Jessica Pieklo discuss political prospects at Redefining America:  Constitution and Leadership 2010

April 22, 2010 UPDATE: NY Times updates Dems efforts to push forward in the Senate and Republican opposition.

Comment to NPR story: Experts Say Bills Won’t End ‘Too Big To Fail’

Comment to NPR story:  Experts Say Bills Won’t End ‘Too Big To Fail’

I disagree. The new legislation uses higher capital requirements and lower leverage limits to control systemic risk. This is the right approach. It makes the entire financial industry less risky and more insulated from downturns. “Break up the banks” sounds more anti Wall Street and sounds tougher, but remember in the Great Depression 5000 banks failed in the early years. It is no better for 5000 small banks to fail than it is for 10 large banks to collapse. What counts is that all banks are more regulated with stronger restrictions. Canada has superbanks, among the largest in the world, but suffered no financial crisis and required no bailouts. Canada’s banks incurred losses, but they were small compared to resources of the banks, because regulators there expect banks to be better capitalized and they can demand bigger banks, which pose more risk the system, to meet higher requirements than small ones. For a comparison of Geithner’s plans and Canadian approach: https://marcivanseltzer.wordpress.com/2010/01/29/what-can-canada-teach-us-about-banking/

Hate That Obama’s Near the Middle? Think Again

(Photo:  Obama speaking in Europe, where his views are well received and highly regarded)

By Marc Seltzer; originally published on April 13, 2010, at care2.com

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Contrary to all the talk of disenchantment with the state of the nation, there is reason to be optimistic that President Obama is leading the government in exactly the right direction.  While his critics voice disappointment and outrage, calling on Mr. Obama to govern to the left and to the right, President Obama governs by judgment, not ideology.  This will always disappoint ideologues who see the world through conservative or liberal glasses, but do critics have credible political ideas behind them?

At the outset, a few things need to be set straight.  First, the biggest thing President Obama has done since taking office is not health care reform.  (Complete Story)

To Protest or Reform — Who’s Messing with Our Minds?

(photo:  Greece’s P.M. Papandreou and France’s Sarkozy in Davos, Switzerland, recently, managing economic turbulence)
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By Marc Seltzer; originally published on March 19, 2010, at care2.com

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There is still a strong undercurrent of anger in the United States about bailouts and stimulus spending.  Republicans, and even Democrats and Progressives, have reacted angrily to President Obama and his financial team.  This is significant because President Obama lost political capital on the economic recovery plan, and has far less power now to push though health care, education and financial reforms than he would have absent these actions.

The common critique from the Right is that Mr. Obama is moving in a socialist direction, while from the Left it is that Geithner, Summers, Romer and Bernanke, the U.S. government’s economic chieftains, are corporatist and beholden to the bankers.

More puzzling than the conservative complaints about the administration’s stewardship of the economy, is the Left’s opposition to it.  A significant part of the Democratic party seems to believe that our current leadership is on the side of the wealthy in a new class struggle, and that the government bailouts have effected a transfer of wealth from the little guy to the fat cats.  To be fair, this antagonism towards saving the financial system is in part a more structural distaste for corporate political and legal power — unrelated to recent U.S. government actions.  None-the-less, Obama is now trying to enact reforms in this across-the-spectrum, anti-government political climate.

To challenge the idea that Obama’s actions were pro-bank, pro-corporate, or designed to bail out the fat cats at the expense of the public, I want to compare the European response to the financial crisis with U.S. actions.  European nations, often called “social democracies,” are respected by the American Left and cited as examples for their stronger safety net of worker protections, health care and liberal benefits.

Jean-Claude Trichet, the head of the European Central Bank, equivalent to our Federal Reserve Bank (Ben Bernanke), said recently about American and European government interventions:

“We had to put on the table on both sides of the Atlantic around 25% of taxpayer risk to avoid the Depression, a major Depression, which would have come had we not been that bold.  When I say we, I mean the governments.  Of course, the central banks also have been very bold, in engaging in non conventional measures — the Fed and us [European Central Bank].”  (Bloomberg on Demand, March 12, 2010, from interview with Tom Keene)

What is insightful here is that European governments and related institutions behaved much as the American government did.  As the New York Times reported in early 2009:

“So far, Europe’s largest economies, France, Germany and Britain, have been spared demonstrations. All three governments have introduced huge stimulus measures aimed at spurring employment and protecting banks.

Regardless of the outcome, the three countries will face large budget deficits and higher state borrowing, which economists say will be passed on to taxpayers. And in the case of France and Germany, the governments could find it more difficult to introduce bold reforms at a time of recession.” (New York Times, January 26, 2009.)

To be sure, European nations have faced public protests over the past year, including demonstrations in recent weeks against the Socialist government in Greece.  And modern European nations are a mix of strong state intervention in industry and free markets.  But despite their more left-leaning perspectives, European government actions to save banks and support their nations’ economies with emergency stimulus spending, resemble US approaches.

The underlying reason for this is plain: Healthy economies require healthy banking systems.  The only other option for lawmakers in 2009 would have been to nationalize, through government takeover, the major banks and investment companies.  This would not only have been too radical for a young American President in the first days of his Presidency, but was not favored by European nations, which, despite more Socialist political visions, prefer to keep most individual businesses in the hands of private owners.

It is as much of a stretch to believe that Barack Obama, community-organizer-turned-politician, attained the Presidency in order to embrace the rich and powerful over the little guy, as it is to draw the conclusion that the Socialist and left-leaning governments of Europe transformed in 2009 into standard bearers for corporate and special interests across the Continent.

Why the American Left should find itself so opposed to the positions of both European and American governments requires little guesswork.  The greed, irresponsibility and power in the financial system made the public angry.  The Republicans, with little post-election political power and prospects, turned anti-corporate anger into anti-government anger with some clever “grass roots” anti-Democrat marketing messages.

Now, instead of joining the administration and embracing reforms, many a Democrat flirts with anti-government energy, which is really just self-serving partisan manipulation pushed by the Republican party.

Democratic Congressman Dennis Kucinich, in discussing his last-minute decision to vote for the President’s health care reform, acknowledged the tension between pressing for progressive reform and falling into a trap laid by the opposition:

“With three years left in the Obama Presidency we have to continue to encourage him, but we’ve got to be careful that we don’t play into those who want to destroy his presidency and say, you know, the birthers and others who say he should never have been President to begin with.  There is a tension that exists. . . .  we have to be very careful about how much we attack this president even as we disagree with him because we may play into those who just want to destroy his presidency.”  (Democracy Now!, March 18, 2010 (radio interview with Amy Goodman))

Careful indeed!  It’s about time.