United States: The unsurprising failure of financial reform

July 10, 2010
Picket against Goldman Sachs, the world’s biggest bank. Boston, May 7. Photo: americans4financialreform/Flickr

The financial reform legislation just passed by Congress was proclaimed by US President Barack Obama as “the toughest financial reform since the ones we created in the aftermath of the Great Depression”.

This is a kind of doublespeak. The entire thrust of financial reform in the decades since the 1930s has been toward financial deregulation. Being the toughest financial reform measure by that standard merely means that it didn’t give the house away.

The most important financial reform measure to be adopted in the 1930s was the Glass-Steagall Act, which was passed in 1933. It was repealed in 1999 at the instigation of the Clinton administration.

Glass-Steagall separated commercial and investment banking. Nothing like that is involved here.

Financial interests claim it is impossible to go back to that time. This means financial reform in the latest deal will not even create regulation as tough as it was when Bill Clinton’s second term of office began.

There is little in the new legislation actually set in stone. The most important measure has to do with the watered-down application of the Volcker Rule requiring the big banks to cut their stakes in their in-house hedge funds and private equity units.

These new rules are designed to curb, but not stop, banks from engaging in such risky investments in their own funds.

Yet, since financial institutions are allowed to keep a foot in the door, the percentage of such trading that they are allowed to engage in — 3% — could be increased at any point through future legislative action. This would be treated as a minor adjustment.

Major banks such as Goldman Sachs and Citigroup may have up to 12 years to comply with these new rules, Bloomberg Businessweek said on June 29.

This is an infinity from the standpoint of financial trading. The whole world could change by then. There is plenty of time for lobbying to have its effect.

Changes in Washington in 12 years (equivalent to three presidential terms) could substantially alter the name of the game. Compare this to Glass-Steagall, where the big banks were given less than two years to separate their commercial and investment banking operations!

There is no ban in this new legislation on proprietary trading (banks engaging in speculative trading with their own money). Banks are allowed to keep their derivatives units.

There are innumerable loopholes. That is undoubtedly why the legislation ended up 2000-pages long.

Much is left simply to the regulatory discretion of the Federal Reserve and the Securities and Exchange Commission. The Fed is given more power to intervene in the case of a failing bank, but it is not clear what this means.

There is nothing in the present legislation that ranks as a serious consideration of the “too big to fail” problem.

In 2008, the top 10 financial institutions in the US controlled 60% of total financial institution assets, compared to 10% in 1990. If one of these institutions were to fail, the federal government would be forced to bail it out — regardless of what administration officials and the Federal Reserve say.

In short, nothing has really changed.

The reason this legislation is so weak is that, given the public outrage about the financial crisis, it was necessary to make a show of doing something. But this was more to do with face-saving in a political crisis than limiting financial speculation.

No real change in the rules governing the financial superstructure of the economy was ever contemplated in this process. The reasons for this are to be found in the reality of today’s monopoly-finance capital.

The economies of the US and the other rich nations have been slowing for decades. The real rate of growth has dropped substantially.

US economist and New York Times columnist Paul Krugman recently referred to the current economic condition as “the Third Depression”. He compared it to the earlier long periods of stagnation in the late 19th century and the 1930s.

What has lifted the economy in this latest period of slow growth, given the stagnation of productive investment, is mainly the expansion of speculative finance. This has generated a long-run financialisation (shift from production to finance) in the economy as a whole.

What those at the top most fear is a stoppage in bank lending and a curbing of financial speculation. As a result, their hands are tied in terms of clamping down on finance.

The richest in the US, as can be seen in the Forbes 400, are increasingly dependent on the financial sector for their wealth. This represents a shift in the locus of economic power that also has had effects on the state.

Ironically, a new bubble is not so much to be feared as desired at this point from the standpoint of those in charge.

The same situation faces financial regulators generally when confronted with a bubble. To prick the bubble is to end economic growth. The usual response, therefore, is to try to expand the bubble as long as possible, even to deny its existence, until it eventually bursts.

The conclusion is the financial reform is basically a dead letter, as is financial regulation itself.

There is nothing in the new legislation that will prevent or even ameliorate future financial bubbles and their consequences. Nor is that the intention.

What this legislation does point to is the irrationalities of our present system — and the fact it is impossible to address such problems in a meaningful way without taking on the entire system.

[John Belamy Foster is a Marxist economist and ecologist. He is the editor of Monthly Review. He will be a featured speaker at the Climate Change Social Change conference at the University of Melbourne, November 5-7. The conference is hosted by Socialist Alliance and Green Left Weekly. See here for more information.]

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