Obama and Banking: Another Bust?

The cynic in me wants to begin by asking: will he screw this one up as well?

But, I should think more positively and at least attempt to be pleased with the gruel the White House keeps packaging as gourmet food.

We cannot get into a discussion of the latest rumors about finance reform without at least commenting on the ridiculous election result in Massachusetts. So allow me to go there first with a rant – I promise I will keep it short!

It is frankly astonishing that the Democrats could be astonished. They screwed themselves royally. Their candidate was a complete twit and committed the full allowance of electoral mistakes. Her campaign should henceforth be held up as how to not to defend a safe seat. The irony is so vast: the Democrats and Obama screwed up health care reform by losing Teddy Kennedy’s seat. This would be the same Ted Kennedy who devoted his life to health care reform. Nice one Obama.

But the blame extends everywhere: the insipid performance of the Senate majority as it wandered through its self-absorbed and delusional debate over health care reform was both an insult to the people of America and a fiasco of political suicide. I have never been so aghast at politicians. The ridiculous and foolhardy outreach to Republican,s who had absolutely no intention of compromise, was a scene straight from a comic book: the president and his fellow travelers deluded themselves into believing that folks like Snowe and Lieberman were actually worth reaching out to. For what? They did not support health care reform in any shape, form, or way. They wanted to kill it from day one. So we were all condemned to watching the Obama frog be boiled. Apparently the only person unaware of his fate was Obama himself. His obsession with bi-partisanship will destroy him. Someone needs to tell him the simple rule: it takes two to compromise.

Maybe the truth is more simple: he doesn’t have any beliefs. He certainly was quick to give up on reform. Too quick in my book. There was no fire. No anger. No heavy leaning on waverers. No attempt to shape debate. All we got was a pallid and soft ‘reality checked’ view that we have to ‘reach out’ and water down so as to ‘get something’ done. Having sold us on the watered down version, the least Obama could do was get that Massachusetts win and assure that even the weak reform was passed. Instead he failed to be energized by the prospect of that loss. I have to conclude he wasn’t committed to reform in the first place.

Those who argue he had no choice are part of the problem too. Look what his vision has brought us: a diminished party presence, a diminished opportunity, and a diminished nation. Some change we can believe in.

Now what? having run away from all the big fights in 2009, what capitulation can we expect in 2010?

Well: finance reform.

Which ends my rant and begins the commentary.

The Wall Street Journal is reporting that Obama is going to announce, later today, measures that will significantly restrict the big banks. Notice that wording: ‘restrict’ not ‘reduce’.

In other words: here we go again.

Obama is congenitally unable to be tough. So instead of starting in a strong position and then working back to the middle compromise, he anticipates where the end will be and starts there. The obvious result is that he has to compromise from there and ends up giving into the opposition. That was the fate of health care and it could be the fate of bank reform.

We need smaller banks for two major reasons: one is that we simply cannot afford to bail out big banks anymore. The biggest banks are now so large that to bail them out would bankrupt the US Treasury. If not bankrupt, the damage would be so great that we would be severely limited in our fiscal policy options were we in another recession. Don’t forget that this last crisis began as a result of banking stupidity. The limited fiscal response – the weak stimulus – was conditioned by the fact we were already swimming in a sea of red ink courtesy of the Reagan-Bush years and the bank bail outs of 2008/2009. Had we been in a modest surplus, as we were at the end of the Clinton era, our response could have been more robust and the recession less damaging. People’s jobs were destroyed by our history of fiscal ineptitude stretching back to 1981.

The second reason we need smaller banks is competition. The record profits now being reported by the banks, in their trading accounts at least, stem in large part from the reduced competition in many fields of investment banking. Our entire banking system lacks sufficient competition to keep the big players honest. The suspicion of rigged markets and abnormal profits hangs over Wall Street because there are so few active players in the game. We need more, not fewer, banks. The quickest way to get more banks is to break up those we already have. It wouldn’t be the first time America has gone down that road.

The proposal Obama is expected to announce include negative incentives to discourage bank growth, and rules to reinstate the separation of investment and commercial banking. These are two very important actions needed to shore up the banking system, but already we can detect the Obama weakness.

Instead of proposing outright break up for the big banks – splitting them into two or three and breaking out their investment banking pieces as new organizations – the administration is simply proposing ‘rules’ and ‘regulations’ to achieve the same goal in a less aggressive manner.

This sounds like a slippery slope again.

The banks are already ramping up their formidable lobbying efforts. We can almost hear certain senators trembling at the thought of the money that will flow into their coffers if they suddenly find a reason to oppose anything too disruptive. The Federal Reserve Board opposes bank break ups as being unnecessary. Bernanke recently gave his opinion on the causes of the crisis: he attributed it to a lack of sufficient regulation, so he supports the creation of more rules as the preferred method for reform. Presumably he will make sure these rules are enforced – unlike the rules he didn’t enforce before. Larry Summers and Tim Geithner are too wedded to Wall Street to argue for anything radical. In fact, nowhere in the current corridors of power do I see an advocate of anything remotely like strong reform. Except for Paul Volcker perhaps.

We are ruled by timid or corrupt bureaucrats.

The analogy that springs to mind – in view of the health care mess – is of Neville Chamberlain and appeasement. I have a vision of Obama stepping off a plane waving a book of new rules and regulations, claiming to have reformed the banks, and having saved us from a new melt down. While in the background armies of lawyers and accountants trample through those same rules and regulations and reduce them to valueless garbage within hours of the ink having dried.

The risk of fighting tanks with paper is that tanks tend not to notice the paper. And the banks are acting like armies of tanks raging through the economy and pillaging it at will. They need to be blown up.

Fundamental reform is just that – fundamental. If we honestly believe the banks are too large then we should have the courage and foresight to make them smaller. We shouldn’t ‘suggest’, ‘guide’ or ‘ask’. We should force. Frankly force is the only language the banks seem to understand given their total disregard for the public as expressed in those annual bonuses they are handing out to themselves.

Of course we might disagree as to whether the banks are too large. In which case lets discuss that. The onus is on the banks to prove that they are not anti-socially managed or constructed. And yes I mean ‘anti-social’. I have read some commentators argue that the banks have no social responsibility and that their only goal is to make profits for their shareholders. That is true only in part, and even then the banks fall short.

As long as taxpayers are acting in bail out mode the banks have to take social claims against their behavior seriously. They are not solely beholden to private interests if social money is to be used at any point. Society has both a right and an obligation to interfere in bank management to ensure our money is being deployed wisely. Having smaller banks is one way to get such assurance.

Even if we don’t agree that society has an active interest in internal bank affairs, shareholders surely do. In which case we should ensure that shareholders actively participate in matters such as bonus policy. At the moment bank shareholders – and in particular the institutional shareholders like retirement funds – are far too passive. The idea that 60% of Goldman Sach’s revenue is syphoned off for pay and bonuses suggests that the managers have the upper hand against the shareholders. Imagine the retirement fund’s valuations if that revenue was passed on to the shareholders instead of being carved out for the employees. If your retirement fund has shares in Goldmans Sachs you should be wincing every time you read about those bonuses – its your money being paid out to those traders!

So what do we conclude?

The health care mess gives us little assurance that Obama has the character to take on an entrenched industry. He seems not to have the stomach for big political debates. Instead he is a bureaucrat and thinks that tweaking rules will ‘nudge’ the banks to do the right thing. Later today we will learn how he interprets the lessons of the Massachusetts election. Will he become even weaker? Will he trim even more to the right? Will he cave in more quickly to the powers that be?

The good news is that he appears to be taking that advice of Paul Volcker who has been an active advocate of braking up the banks. This may be a sign that the lesson learned was that the country needs strength at the top.

We can hope can’t we?

Hope … I seem to remember a presidential campaign in which that was a big word.

Doesn’t that seem a long time ago?