“Democrats don't like Wall Street bailouts. Republicans don't like Wall Street bailouts. The American people are disgusted by Wall Street bailouts.”
So spoke Massachusetts Democrat Elizabeth Warren on Friday, and the reason she rose on the Senate floor to speak those words was language enabling the next big Wall Street bailout, which had appeared, almost as if by magic, in the emergency, end-of-session, must-pass continuing resolution omnibus spending bill (aka the CRomnibus).
The language, a repeal of part of the Dodd-Frank financial reform act of 2010 known as the Lincoln Amendment, again allows the largest financial institutions to take risky bets on exotic financial products with federally insured bank assets like consumer deposits. It was just such behavior by just such institutions that brought the economy to the brink in 2008, and brought forth the largest government bailout in United States history.
These exotic, bespoke financial gimcracks, which populate the derivatives market, are supposed to be used as hedges against bad bets by the investment houses. But in order for the hedge to work, for errors in one direction to roughly balance out miscalculations in the other, the institutions making these deals have to bear the risk.
When a party is allowed to take more risk than it can handle because there is an assumption that another party will compensate the loss, it creates what is called “moral hazard.” And a bank shooting the moon on a big score, with no worry that a failure to bet correctly will cost it or its principle officers one thin private dime is pretty much a textbook example.
The way this particular hazard was inserted into the CRomnibus at the 11th hour during a lame-duck session of Congress is a story itself. As Sen. Warren said, no one likes bailouts — and make no mistake, this language is a bailout in the making, with the top three banks holding, as of June, $182 trillion in derivative contracts, up from $158 trillion in 2008. There was no champion of the language to repeal the Lincoln Amendment, no session-long push to right this “wrong” before the November midterms, so the voters could weigh in, no stem-winding speeches made on behalf of the put-upon banks. In fact, the language had been pushed by lobbyists from Citigroup for months, in advance of next year’s fuller implementation of Dodd-Frank reforms, with pretty much no members of Congress willing to stick his or her neck out.
But come the lame duck, and come the thousand-plus pages of a CR, passage of which was essential to the continued operation of the government through the Christmas recess, and lo-and-behold, the language, nearly line-for-line identical to what was written by Citi, appears in the bill.
And even with all that subterfuge, the Citi text almost scuttled the whole CRomnibus. To gain final passage, it took dozens of high-pressure phone calls to Democrats from President Barack Obama and from Jamie Dimon, president and CEO of JPMorgan Chase, the only financial house with more derivatives exposure than Citigroup, leading one congressional observer to remark that representatives “were lobbied by both presidents.”
The spending bill, however, did pass the House, and, despite Warren’s protestations, it passed the still-for-the-moment Democratically controlled Senate, too, giving a nod and a wink to current risky behavior and engendering more dangerous bank behavior in the future.
But that fiscal slap in the face to 99 percent of Americans might turn out to be only the precursor to a grander, systemic moral hazard.
Just as the too-big-to-fail financial institutions are now free to risk more of their depositors’ capital with little fear of repercussions, so now, it seems, members of Congress feel inoculated against accountability when they vote contrary to the interests of their constituents. The December CR was not the first of its kind, and it is pretty much assured it will not be the last. The bill just passed only funds the government through September 2015, and only provides money for the Department of Homeland Security through February. And the notion that a new annual budget will make it through both Houses and see a signature from the president seems fanciful.
And it’s not like with the passing of Christmas, Wall Street will be done with its wish list. Paired with the Lincoln Amendment, which was supposed to police risky products, another part of the Dodd-Frank reforms, the Volker Rule, was put in to limit risky activity. Without going into a lengthy explanation, let’s just say that how the banks felt about the Lincoln Amendment, they feel about the Volker Rule in spades. Even before there was a Dodd-Frank bill, Wall Street sought to hamstring or eliminate Volker provisions, which are supposed to keep certain types of investments separate from the kind of high-stakes trading that took down some big traders, and ate a lot of investor capital, in 2008.
The emergency resolutions that are now all but certain to hit Congress in February and September are tailor made for more bank-lobby-drafted insertions, and, frankly, a host of other favors to moneyed interests. Think lightening can’t strike twice? It already has. The language blowing up Glass-Steagall was pretty much snuck into the Commodity Futures Modernization Act of 2000 — the legislation that set in motion the runaway train that led to the last financial crash.
The reaction to that crisis was the Dodd-Frank Wall Street Reform and Consumer Protection Act, large parts of which have still not taken effect. And the reaction to that reaction is what we are seeing now.
By creating a system that allows the richest, most powerful segments of American society to profit from the hair-on-fire atmosphere of last-minute spending deals, without much political capital having to be expended by elected officials, Congress and the president have incentivized this type of misgovernance, this self-replicating moral hazard, seemingly without end. As a saying from the last Great Depression goes, “That’s a heck of a way to run a railroad.”
As it turns out, it’s a heck of a way to railroad a government too.