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Obama Reform Plan Fails to Fix Whats Broken

Posted By Barry Ritholtz On June 18, 2009 @ 10:38 am In Bailout Nation,Bailouts,Regulation | Comments Disabled

So much for “not letting a crisis go to waste.”

The initial read on the Obama Regulatory plan was an enormous disappointment. Both supporters and critics who expected him to take a hard turn to the Left have been left either surprised or disappointed, depending upon their leanings.

To the pragmatic center, including your humble blogger, what stands out is the number of half measures and omitted actions that were viewed as necessary to prevent a replay.

Some very obvious omissions from the plan include:

1) No major changes for the ratings agencies!

This is a giant WTF from the White House. It implies that the team in charge STILL does not understand how the problem occurred.

The ratings agencies are not the only bad actors, but they are a BUT FOR – but for the rating agencies putting a triple A on junk paper, many many funds could not have purchased them, the number of mortgages securitized would have been much less, the insatiable demand on Wall Street for mortgage paper would have also been much lower.

Why is this important?  If mortgages originators couldn’t sell a mass amount of loans, they would not have had the need to give a mortgage to anyone  who could fog a mirror — and that means no Liar Loans, no NINJA loans, and  no huge subprime debacle.

Better Solution:  Take apart the ratings oligopoly! Eliminate the Pay-for-Play/Payola structure.  Strip  Moody’s S&P and Fitch from their uniquely protected status — they have proven they are neither worthy nor competent. Open up ratings to competition –including open source [1].

2) Turn Derivatives into Ordinary Financial Products:  The Obama team does a series of minor steps for Derivatives, but they don’t go far enough.

Better Solution:  Force derivatives to be traded like option/stocks, etc.  (including custom one off derivatives) Trade them only on Exchanges, full disclosure of counter-parties, transparency and disclosure of open interest, trades, etc.  REQUIRE RESERVES LIKE ANY OTHER INSURANCE PRODUCT.

3) If they are too big to fail, make them smaller.”

That is the famous quote [2] from Nixon Treasury Secretary George Shultz, and it applies to the banks as well as insurers, Fannie & Freddie, etc.

We have a situation where 65% of the depository assets are held by a handful of huge banks – most of whom are less than stable. The remaining 35% is held by the nearly 7,000 small and regional banks that are stable, liquid, solvent and well run.

Better Solution:  Have real competition in the banking sector. Limit the size for the behemoths to 5% or even 2% of total US deposits. Break up the biggest banks (JPM, Citi, Bank of America)

4) The Federal Reserve, Despite its Role in Causing the Crisis, Gets MORE Authority:

Under Greenspan, the Fed did a terrible job of overseeing banking, maintaining lending standards, etc. Why they should be rewarded for this failure with more responsibility is hard to fathom. It is yet another example of rewarding the incompetent.

Better Solution: Have the Fed set monetary policy. They should provide advice to someone else — like the FDIC — who hasn’t shown gross incompetence.

5) Require leverage to be dialed back to its pre-2004 levels. Have we even eliminated the Bears Stearns exemption yet? This was a 2004 SEC decision to exempt five biggest banks from the mere 12-to-1 prior levels.  Note that all 5 are either gone, acquired or turned into holding companies.

Better Solution: 12-to-1 should be enough leverage for anyone . . .

6) Restore Glass Steagall: The repeal of Glass Steagall wasn’t the cause of the collapse, but it certainly contributed to the crisis being much worse.

Better Solution:  Time to (once again) separate the more speculative investment banks from the insured depository banks.

All of which suggests that the status-quo-preserving, sacred-cow-loving, upward-failing duo of Lawrence Summers and Tim Geithner are still in control of economic policy. The more pragmatic David Axelrod and the take-no-prisoners, don’t-give-a-shit-about-Wall-Street Rahm Emmanuel have yet to assert authority over the finance sector.


Article printed from The Big Picture: http://www.ritholtz.com/blog

URL to article: http://www.ritholtz.com/blog/2009/06/obama-reform-plan-fails-to-fix-whats-broken/

URLs in this post:

[1] open source: http://www.ritholtz.com/blog/2009/06/freerisk-who-needs-moodys/

[2] famous quote: http://www.ritholtz.com/blog/2009/01/too-big-to-succeed/

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