Corporate exemption is still not a done deal; Dodd is unconvinced it’s not a ruse.
The Senate Banking Committee passed Senator Christopher Dodd’s financial regulatory reform bill along party lines this week, but that doesn’t mean the corporate exemption from clearing and trading OTC derivatives is necessarily dead. Senate Republicans (and some Democrats) have been working hand-in-glove with Wall Street flaks to ensure a corporate exemption is part of the final bill, since most banks will find ways to exploit any such exemption, and when speaking in their cups, refer to corporates as their stooges in this theater of financial reform.
The ostensible main goal of the Republicans is to gut the consumer financial protection entity, championed by the remarkable Elizabeth Warren, which has already had its incisors ground flat by putting it within the Federal Reserve, a conflict of interest obvious to all but acknowledged by few. Like those who want the Fed to be the chief systemic risk watchdog (Senator Dodd among them), those who argue that a consumer safety organization should be housed within the central bank are intellectually bankrupt, although that’s of little concern in Washington.
Why’s that? Well, the Fed’s current dual mandates—keep inflation low and employment high—are already hopelessly conflicted. Now that it will be in charge of the health of banks and consumers, will it be able to cut or raise rates as necessary from a macroeconomic point of view? Will it put the systemic health of banks ahead of the health of the economy—when such a trade-off requires a painful choice of raising or lowering rates? More to the point, would, say, Paul Volcker be able to administer the medicine he did during his tenure within a Fed tasked with such a broad mandate?
The unanimous opinion of The NeuGroup’s peer group members notwithstanding, Senator Dodd, for all his many flaws, is right when it comes to opposing a corporate exemption. One only has to spend a few soul-destroying minutes over a beer with a Wall Street flak to realize that banks are already devising ways exploit it. And there’s little evidence—despite plenty of attempts to gather it—that the spreads dealers garner on OTC derivatives are less painful than the margins corporates will be forced to pay on centrally cleared derivatives. (Although the argument that bilateral deals are similar to credit extensions does have some merit—if, as has not been proven, the dealer is able to make good on the contract.) Yes, corporate treasurers are unified in their opposition to clearing and exchange trading. But to calculate the cost of hedging, absent the cost of managing counterparty risk, is kabuki. As the counterparties to Bear Stearns or Lehman Brothers learned, bilateral contracts are fine. Until—as they say on Wall Street—they’re not.