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Could Financial Reform Make Bailouts, ‘Too Big to Fail’ Less Likely?

Financial reform legislation ran into a roadblock in the Senate Monday afternoon as Republicans blocked the start of debate on a plan backed by many Democrats. Gwen Ifill gets four points of view on the overhaul's road ahead in Congress and whether the effort could halt future global banking crises and bailouts.

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    The Senate cast its first vote this evening in the evolving debate over financial reform. The early test vote fell short, but there is much more to come.

    Right up until today's key procedural vote, Republicans and Democrats continued to spar over the details of what would be the most sweeping overhaul of U.S. financial regulations since the Great Depression.

    Three hours before the vote, Senate Majority Leader Harry Reid accused Republicans of putting the economy at risk.

    SEN. HARRY REID, D-Nev., majority leader: Today's vote to begin debate on Wall Street accountability will answer many questions. It will reveal who believes we need to strengthen oversight on Wall Street and who does not.

    It will demonstrate who believes we need to strengthen the protections for consumers and who does not. And, in light of the extraordinary effort we have seen from the Republican leadership, it will force each senator to publicly proclaim whether party unity is more important than economic security.


    Meanwhile, Minority Leader Mitch McConnell insisted Republicans do support efforts to, in his words, tighten the screws on Wall Street.

    SEN. MITCH MCCONNELL, R-Ky., minority leader: But, as we consider this legislation today, Republicans are also acutely aware of the fact that government solutions to big, complex problems like this one are rarely as effective as they're made out to be, especially when they're rushed.

    And Republicans are conscious of something else this morning, too. When it comes to fixing the problems that we see in the economy or in our health care system or anywhere else, the days of taking the Democrats' word for it are over.


    Republicans oppose creating a $50 billion fund to help liquidate troubled financial firms. They contend it will lead to future bailouts.

    They also disputed the need for a proposed consumer protection watchdog and plans to regulate the derivatives market. Appearing Sunday on NBC's "Meet the Press," Democratic Senator Chris Dodd, chair of the Banking Committee, made the Democrats' case.


    Here we are, 17 months after someone broke into our house, in effect, and robbed us, and we still haven't even changed the locks on the doors. And we need to get it done.


    In turn, Republican Richard Shelby said that, despite the disagreements, a deal is very close.


    I think we will get a bill, if the Democrats want a bill and will give us some things that we think that are substantive in nature, let — like make the too-big-to-fail, send a message that nothing is too big to fail in this country, and tighten up the language. There's some flexibility in the language there that we're talking about, and it's — and…

    DAVID GREGORY, moderator, Meet The Press: But this is inches you're talking about.


    Well, but inches sometimes are miles. But I'm hoping they are half-inches.


    Public opinion seems to lead in the Democrats' favor. A new Washington Post/ABC News poll showed about two-thirds of those surveyed support stricter regulations.

    At the White House, spokesman Robert Gibbs said, ultimately, the bill's opponents will have to give way.

    ROBERT GIBBS, White House press secretary: I think, in the end, we're going to get a bipartisan vote, because I think the position they're in right now is just simply untenable.


    Any bill that does emerge from the Senate will have to be combined with a separate measure that has already passed the House.

    So, the remaining sticking points boil down to an essential question: Would this bill go too far or not far enough?

    We get a range of views. Yves Smith writes the blog Naked Capitalism and heads the financial advisory firm Aurora Advisors. She thinks the bill falls short. Alan Blinder is a professor of economics at Princeton. He is a former vice chairman of the Federal Reserve and served on President Clinton's Council of Economic Advisers. He thinks the bill is on the right track.

    Robert Glauber was undersecretary of treasury for the President George W. Bush. He now teaches at the Kennedy School of Government at Harvard and believes the measure could lead to future bailouts. And Robert Litan is with the Brookings Institution and the Kauffman Foundation, which focuses on entrepreneurship. He says the bill moves in the right direction.

    Mr. Glauber, I will start with you, picking up on where we left off with Senator Shelby when he talked about the too-big-to-fail question. Would this bill, as it is emerging now, do enough to break up those bill banks or those big financial institutions that abused the process?

  • ROBERT GLAUBER, Harvard University:

    Oh, I think by designating a large number of them as important systemically, it puts them on a list of institutions that are too big to fail. And I think that's a mistake.

    It's just not the right way to approach solving the problem of bailing out banks.


    Alan Blinder, what do you think about that? Does this do enough to get to the heart of that problem?

    ALAN BLINDER, former vice chair, Federal Reserve: I think it comes pretty close.

    There isn't any perfect solution. But I disagree with my friend Bob Glauber. The approach I have always favored — well, I shouldn't say always — since all this came up — is name the too-big-to-fail institutions, and then penalize them, subject them to higher capital liquidity charges, tighter supervision, and so on.

    It's simply not realistic to think that, in the future, if some gigantic financial institution is going under, maybe pulling down a lot of other institutions with it, that we're just going to sit by and watch it happen.


    But does this bill do that, what you're suggesting?


    I think it does.

    I mean, one notable thing in the Dodd bill is that a lot of people like myself that were talking about systemic resolution before had two alternatives in mind — and both are actually used in practice — receivership, which is a way to lay it to rest, and conservatorship, which is a way to bring it back to life in a safer way.

    The Dodd bill only perceives receivership, so it's a death sentence to these banks that go into that procedure.


    Yves Smith, do you see a death sentence for these too-big-to–fail banks?

  • YVES SMITH, Naked Capitalism:

    I'm concerned that the provisions for doing even that are not realistic. The very biggest institutions are global. And this is a U.S. bill.

    As a consequence, they have got foreign operations, which are subject to legal jurisdictions that we don't control. So, the very notion that the very biggest institutions could be put into receivership under a U.S. regime is a nonstarter.


    So, you don't agree with Alan Blinder that receivership is a tough enough approach. What would you prefer to see?


    Well, we have got two separate problems. I'm a little bit distressed that the problem is being framed as too big to fail.

    There are some institutions that are large enough that, you know, yes, if you're talking Bank of America or, say, a Wells Fargo, they're so large, that they pose a threat. But, for example, before the crisis, no one would have thought that Bear Stearns was on a systemically important list. It isn't merely a matter of their size. It's a matter of the position that some of these trading firms occupy in certain markets.

    So, it's a multilayered problem that's being approached in a simplistic fashion.


    Robert Litan, let's talk about size. Is that what matters here?

  • ROBERT LITAN, Kauffman Foundation:

    Well, I think it's not just size, but it's also the degree of interaction. I think Yves was talking about Bear Stearns, for example, of having too many positions open with respect to other parties.

    That was one of the reasons — in fact, the main reason — that the government tried to marry it off. So, I think, actually, the Dodd bill strikes the right balance. It uses, actually, two procedures to address this problem.

    On the one hand, it sends non-bank large institutions into bankruptcy court as a first resort, and only as a last resort, in case of a national emergency, do you end up with the FDIC or the government putting it into receivership and giving it a death sentence, as Alan talked about.


    Well, let me stay with you, Bob Litan, and ask you this question about this — this government rescue plan that they're now voting on tonight and will be voting on, we assume, in a series of votes for the rest of the week at least, will this stop future government rescues?

    We have heard many of the opponents of this bill saying this is just a guarantee of future bailouts.


    Well, I actually believe, regardless of which party the president is, that, in a future national emergency, there will be a temptation to bail out, if you will, creditors of a large institution in order to save the economy. I don't care who is president.

    The issue really is, is how to make bailouts less likely and safer, so — or safer for the system, so that we don't have to bail out people. I think the Dodd bill moves in the right direction. Nothing is perfect, as Alan talked about, but I think the bill goes a long way in the right direction.


    Robert Glauber, I want to ask you about that. Do you think that it goes enough in the right direction when it comes to this question of guaranteeing against future bailouts?


    Well, I don't think it goes enough in the right direction.

    I think it fails, for example, to have a really coherent regulation of institutions, other than banks that could get into trouble, the kinds of institutions like Bear Stearns. This is very complicated stuff. And it would really have been better if, somehow, Congress could have presented this and approached it in a bipartisan way, taken its time, gotten a bipartisan debate over these very complicated issues, and, I think, arrived at a better solution than they have.


    Given the way you have seen Congress not work together in a bipartisan way and in so many different issues this year, do you — why do you believe that that would have fixed the substance of this — this particular approach?


    Well, simply because, if the issue is no longer partisanship, and you can have a debate among people who respect each other and are knowledgeable, you're going to get to better answers on what are very, very complicated issues.

    Bob Litan, Alan Blinder, Yves have all pointed out just how complex these issues are. You can't do this in a partisan environment. And I believe, if we had gotten beyond the next election, there was a chance of having less than a totally partisan environment.


    Alan Blinder, what do you think about that?


    I think, it seems to me, we waited a long time.


    This crisis is getting long in the tooth. We had a quite good, I thought, proposal from the U.S. Treasury back last June. The House acted already in December.

    As we know from media reports — not my firsthand knowledge — Chris Dodd made tremendous efforts to try to get some bipartisanship in the Senate, and the Senate Republican leadership just pulled the plug. There were serious negotiations going on several times.

    And, indeed, you can see some of the traces of that bipartisanship in the bill that is now presented as a partisan bill, because, having gotten some concessions, none of the Republicans want to support it.

    So, I very much agree with Bob Glauber. It would be better to do this on a bipartisan basis. But suppose one side won't play in the game? Then I think we have to go forward.


    Yves Smith, I want to talk to you about one of the other hot-button issues which have come up lately, especially in the last week or so, in the debate over this book — bill, and that's about regulating derivatives, that complicated betting process in which people are trying to bet against what these instruments will do in the future.

    Do you think this bill goes far enough, or is it throwing the baby out with the bathwater, taking what is in essence a not-bad idea, but then over-regulating it?


    Well, actually, again, I come at it slightly differently.

    On the one hand, the core idea in the bill, that of clearing derivatives centrally, certainly will reduce risk. The problem is that some of these derivatives, and in particular credit default swaps, that approach is not going to be sufficient.

    This is a bit technical, but one of the issues with credit default swaps is that, when a particular company gets in trouble on which a credit default swap has been written, the — the payout jumps massively. It's what they call jump to default. So, you may think you have got that position covered. Suddenly, they're not. It's like a tsunami coming in. Suddenly, there are a lot of people who may not be able to settle on those wagers that they have written.

    And the clearing mechanism, the central clearing mechanism will not solve this inherent problem with credit default swaps, and suggests that we need stricter approaches there.


    Is that something that is fixable in something like this? You mentioned it's a really complicated issue. And it's a complicated fix, too., especially for legislators.


    Well, no, the real issue is that credit default swaps, in my opinion, need to be regulated much more aggressively, you know, specific procedures to try to discourage their use.

    That's not a philosophy that's very popular with the financial services industry. It's been a very profitable product for them.


    Robert Glauber, as you look at this process, as it has played out, whether it's partisan, nonpartisan, whether it's even identified the right problems to solve, do you think, on balance, that — that this — this process that Congress is going through now is going to end up fixing the problem at hand, the biggest problems at hand, or is it going to create bigger problems to be solved down the road?


    Oh, I think it will fix a number of problems at hand. I think it will go a long way to fixing the derivatives problem, which is very important.

    It extends regulation of safety and soundness regulation to institutions beyond banks, which is a big plus. It won't solve all of them. And what's discouraging is, we only get an opportunity like this once every 20 or 30 years to do massive regulation in the financial industry.

    And I think there are so many opportunities mixed that could, in fact, be grasped if we did this in a more orderly and a more cooperative way.


    What do you think about that, Bob Litan?


    Well, actually, I wouldn't be so gloomy. I mean, we just heard Senator Shelby talk about how — the fact that they're inches close to a deal.

    And I think, right now, what we're seeing is a bunch of maneuvering, and we're eventually going to see a compromise. And I think, eventually, we're going to see an overwhelming vote or at least a substantial vote in favor of a bill. And the reason is very simple.

    The public wants a bill. The Republicans at the end of the day are not going to vote against this bill, at least en masse. They do not want to be accused, when it comes to election time, of siding with Wall Street, which is exceedingly unpopular right now in the public.

    And, so, right now, there's a gamesmanship going on. But I think, at the end of the day, we're going to see a bill.


    But it's all the games — when all the games are played, will you be satisfied with what's in this bill? Sometimes, the games can obscure the essential problem that you're trying to fix initially.


    Well, I think on a scale of one to 10, it's probably, in my view, a seven or an eight.

    I was encouraged to hear Bob Glauber talk about a few of the things he likes in the bill, namely tougher derivatives regulation, which is good. I actually think the too-big-to-fail provisions are actually better than what Bob has talked about.

    And I'm sympathetic with Alan's view on this. Bob talks sympathetically about the fact that the bill will regulate large non-bank institutions more effectively. So, I think there are a lot of things to like about it in this bill. There's nothing that's going to be perfect.

    We're not going to be able to end all bailouts. We're not going to be able to end all crises, but I think this bill will make both bailouts and crises less likely.


    So, Yves Smith, pull out your yardstick and tell me, on your scale of one to 10, where you think this bill lies in terms of getting to the essential problems that need to fixed.


    I actually give it only a three or a four.

    And I would say, one of the reasons that we have had the — the discussion has turned out to be partisan is the fact that people are disagreeing on facts. There is no — not sufficient understanding of exactly why this crisis came about.

    There's not been enough forensic work. And, in fact, I would — I believe that the public actually would have tolerance for a more extended process if there was real serious digging done. I mean, when you go back to the 1930s, you know, the crash took place in 1929. We didn't have durable legislation until 1933 and 1934.

    And a good bit of forensic work had been done at that point. We have a much more complicated financial system, and yet we really don't understand the full dimensions of what happened and why.


    Alan Blinder, you get the final word on that.


    Well, I think it — it is true and it's always going to be true that more study could lead to more information, probably would. Whether that leads to better legislation, I don't know.

    The mapping from the good information to the good legislation is very fuzzy and often doesn't work. I'm pretty happy with this bill. I always say government work should be graded on a curve. And as I look at — by the way, there's a Frank bill and a Dodd bill which would have to be compromised.

    If you view the likely compromise of the Frank bill and the Dodd bill, I think it's quite a good piece of legislation. On the Bob Litan scale, I would inclined to give it an eight.


    Alan Blinder, Robert Litan, Robert Glauber, and Yves Smith, thank you all very much.


    More than welcome.


    Thank you.


    Thank you.