By Dwight Cass
Corporates risk becoming the cat’s-paws in Too Big to Fail banks’ lobbying schemes.
Ben Bernanke admitted in late February that Title VI of the Dodd-Frank Wall Street Reform and Consumer Protection Act, better known as the Volcker Rule, would not be ready by its implementation deadline this coming July. The comment period for the nearly 300-page draft rule closed in mid-February, having elicited frothing doomsday prophecies from banks seeking to kill it off.
The banks, in general, took two tacks. First, they equated the health of the economy with their own health – that is, the prospects of TBTF banks like JP Morgan Chase, Bank of America, Citigroup, Goldman Sachs and Morgan Stanley. Second, they argued that forcing these banks to stop prop trading would cause irreparable dam age to liquidity in the capital markets, forcing up borrowing costs for corporates and others.
Wall Street mouthpiece SIFMA hired Oliver Wyman to write a justification for this scheme, and the consulting firm obligingly came up with a suitably frightening number: $350 billion. That’s how much Oliver Wyman claims the rule will cost consumers and corporates in higher borrowing costs. (See “The Volcker Rule: Con siderations for Implementation of Proprietary Trading Regulations,” http://www.oliverwyman. com/volcker-rule-proprietary-trading.htm) The Wyman study is the principal bit of analysis undergirding SIFMA’s claims.
Volcker = Lehman?
Wyman’s report is based on a study of the liquidity shortfall that developed in Septem ber 2008 during the financial crisis, and draws its conclusions from the unwarranted assump tion that the Volcker Rule would somehow be comparable in destructiveness to the crisis itself. The report (and Wyman’s reputation) soon came in for a shredding. Shortly after its release, Fed Governor Daniel Tarullo called the study “analytic advocacy.” In his January 18 testimony before the House Financial Services Committee, Simon Johnson, professor at the MIT Sloan School of Manage ment and a fellow at the Peterson Institute for International Economics said, “Specifically, the Oliver Wyman study assumes that every dollar disallowed in pure proprietary trading by banks will necessarily disappear. But if money can still be made (without subsidies), the same trading should continue in another form.”
Johnson pointed out that if the prop desk strategies being spun out by the likes of Gold man or Morgan Stanley were profitable, others would pursue those strategies. But if they are only profitable because of the government’s implicit subsidy on TBTF bank borrowings, their access to the Fed window, or the network effect they get from being primary dealers, then those strategies should face extinction rather than being back-door taxpayer subsidies. And if banks can only provide their current services to customers because of those subsidies, the any good free-marketer should agree that those banks should not be in those businesses.
Compare Johnson’s view to the near-hysterical tone in Goldman Sachs’s comment letter: “With out substantial revisions, the proposed rule will define permitted market making-related, under writing and hedging activities so narrowly that it will significantly limit our ability to help our clients—businesses and investors in the United States and around the world—raise capital, manage their risks, invest their wealth and gen erate liquidity from their holdings.” The implicit assumption, again, is that if Goldman doesn’t do it, no one will. And pain for Goldman equates to pain for the economy.
Former Treasury (and Goldman) boss Hank Paulson did his old firm little good when he went on CNBC in mid-February and said, ostensibly as a critique of the Volcker Rule, “A prop trade clearly brings with it risks, but there are many practices that do. And from my experience, banks get in trouble even more from customer accommodating trades, bridge loans or stepping in to do a big oil-hedging transaction or whatever.” Precisely the sort of activities Goldman said it wouldn’t be able to do in a post-Volcker world.
Creative Destruction? Not Us.
So if the SIFMA/Oliver Wyman estimate is made from whole cloth, how can one judge the broad economic impact, let alone the impact on corpo rate borrowings, of the Volcker Rule? Vanguard’s John Bogle made an attempt to shed some light at a recent conference on the topic.
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Let The Fur Fly
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