Now Its Wall Street Reform

The Senate hearing with Goldman Sachs contributes substantially to the atmosphere in which the “financial overhaul” bill is progressing in Congress starting with the fact that “Wall Street Reform” is now the name by which Democrats would prefer it to be known, having found that this name resonates beneficially for them with the American public. Sitting through the Senate hearing with Goldman Sachs some patterns began to stand out. The patronizing air of the Goldman management, repeating again and again that they only deal with “sophisticated investors”, and “these are very complex transactions”, implied that “you Senators just wouldn’t understand”. We hope and believe that the Senators do indeed understand the American laws that Goldman Sachs has broken and are getting some good ideas about what laws are needed to strengthen the American financial system so as to avoid such the games that Wall Street is playing with our money.

We weren’t the only ones who found Goldman’s patronizing manner with the Senate unconvincing. Heidi Moore writes, “They seemed to be saying, ‘It's a high-stakes game for experienced players; they all know the real rules; the public shouldn't care. Don't fret over the higher workings of the princes of finance, because it's not as though Mom and Pop lost money in their deals’.” Moore’s explains very clearly what Goldman are accused of: “Giving favored financial treatment to Paulson's firm, allowing him to advise on the creation of a security, Abacus, that he wanted to fail; Goldman later sold it to investors who wanted the security to succeed, but it didn't tell them Paulson had played a role in creating the thing and shorted it to bet it would fail. To sell the deal, Goldman apparently withheld information about Paulson's involvement from the buyers, including Royal Bank of Scotland and Germany's IKB Deutsche Industriebank. The buyers lost about $1 billion on the deal, according to the Securities and Exchange Commission”.

As Moore points out, “Economists call this ‘informational asymmetry’”… everyone else calls it "not telling the whole story". We call it deception because, as we all know, America's securities laws require disclosing all risks to potential buyers. The money invested on Wall Street by “institutional investors” such a pension fund managers are investing the hard earned money belonging to millions of individuals so this prevarication about “sophisticated investors” is a red herring (distraction). The ethical and legal standards for Wall St. should be at least as high as those for Main St. and perhaps higher as the average deal on Wall St. affects more people than the average deal on Main St.

Another Washington Post commentator, Ezra Klein, provides a great insight, “they're so intent on proving that what they did was legal that they can't see that what they did was wrong…they played by the market's rules: Make as much money as you can without going to jail.” The great insight that Klein has is that the American public are interested in “fairness”, while, as we now know “fairness is not…how Wall Street makes decisions. Banks mislead customers, make money from betting against housing bubbles they helped fuel, get bailed out with taxpayer dollars and then pay out massive bonuses to their executives while the rest of the country is mired in a recession that they caused.” Thanks to Mr. Klein for saying it so well. He goes on to explain that this scenario was particularly “unfair to Main Street rather than Wall Street. Americans think they were punished for Wall Street's sins…they want reform that will bring this industry more in line with fundamental values.” You have got us pegged Mr. Klein.

Klein helps us to understand that “the real divide over Wall Street Reform is not so much a partisan political party divide as “between those who think that the financial sector's business model needs to change and those who think that we can get by giving regulators more information and power so they can better police Wall Street.” In this regard, the banking committee started from the later position and is moving towards the “change” position. Sen. Blanche Lincoln a Democrat from Arkansas, proposed wording for the bill that “actually bars banks that get cheap government funds from trading in derivative swaps.” The other part of the legislation that would bring substantial “change” is the Consumer Financial Protection Agency, an independent watchdog meant to ensure that financial firms don't rip off consumers, which we reported on a few days ago in our post The Fight Over Bank Reform Outreach and which at that time was a point over which the Republicans were balking. Now Republicans have included it in their bill as well. We are in the "business model needs to change' camp and happy to see Congress coming closer to consensus on this point.

The financial community doesn’t seem to realize yet, as Klein explains so well, that “In 2008, Americans were forced to buy a pretty large ownership stake in the financial system because it had gotten so out of control, and now, as partial owners and continual back stoppers, they want to remake the business into something they are comfortable insuring.” We believe that the creation of the Consumer Financial Protection Agency is the most important and potentially most powerful component of the Wall Street Reform (Financial Overhaul) bill currently being developed in Congress because the Congress is not able to spend the time necessary to work out all of the small details of what needs to be done. This will be a very intensive technical process and will be an on-going process that will require the competency and work of dedicated experts. The sooner the Consumer Financial Protection Agency is established the sooner it can get to work on its mandate.

For more information please see:
Big Money: Debunking the myth of the 'sophisticated investor Heidi Moore Sunday, May 2, 2010 With financial reform for Wall Street, fair is fair Ezra Klein May 2, 2010