"Financial Reform" Just Camouflage for Wall Street's Latest Power Play

Shah Gilani

Anti-Wall Street sentiment makes for a good cover, but behind the scenes and rhetoric, legislators are working with the country's largest financial firms to fashion a new system that concentrates even more risk and reward at fewer banks.

And what's more, the underlying socialization of the system will guarantee the success of excess with the full faith and credit of taxpayers.

On Dec. 11, the U.S. House of Representatives passed the Wall Street Reform and Consumer Protection Act of 2009, which among other things, creates a consumer protection agency, strips the U.S. Federal Reserve of certain powers and subjects it to politicization, calls for big banks to finance a $150 billion bailout fund and gives the government power to break up or coddle financial firms as they see fit.

The Senate will try and reconcile the House bill with an earlier version of its own bill. Legislators are hoping to have a final bill ready sometime in early 2010.

But, in a testament to the power of Wall Street, what's on the table is what works for bankers and the Street. The resulting de-facto socialization of American banking is nothing more than Wall Street's secret agenda to eliminate competition, grow bigger profit engines and rely on the perception of a socialized system to support cheap funding.

As far as banks growing, it would take several pages to list all the bank mergers that transpired over the past few years. And, a lot more are coming. The net effect of consolidation is that the top four banks in the United States already control $7.5 trillion of banking assets, which is 56% of all assets. That's up from $2 trillion or 35% of assets in 2000.

As far as Wall Street goes, a concerted shark attack on Bear Stearns, then Lehman Bros. Holdings Inc. (OTC: LEHMQ), then Merrill Lynch & Co. Inc. (which barely survived and was merged into Bank of America Corp. (NYSE: BAC), leaves Goldman Sachs Group Inc. (NYSE: GS), JPMorgan Chase & Co. (NYSE: JPM), Morgan Stanley (NYSE: MS), the still-teetering Citigroup Inc. (NYSE: C) and BofA in control of the vast landscape of investment banking.

But the unfortunate truth is that bigger is not necessarily better. Bigger may be sexier, but one size just doesn't fit all.

Big commercial banks and big investment banks and the re-marriage of commercial and investment banking in 1999 is tearing apart the fabric of credit extension and risk management that our economy relies on.

Wall Street has already won a clever and stealthy victory as the legislative posturing and populist pandering quiets down amid a surging stock market and signs of hope for the economy on the horizon.

The fallacy is that the doctrine of "too-big-to-fail" (TBTF) is being addressed. It's not.
The honest truth is that if legislators were to follow what the majority of academics and critics of TBTF are calling for, already too-big banks and investment banks would be broken up. They are already too big to fail. Have we really forgotten what just happened and what we're trying to fix? So, why aren't legislators attacking the issue?

Again, the truth is not being told. Big banks are leaning on legislators to facilitate and perpetuate the concentration of banking interests because it allows banks to eliminate competition and fatten margins. The problem is that if there are just a few of the same types of stores selling the same credit and investment services, there's going to be price collusion and a strong concentration of risk. We're not addressing TBTF; we're facilitating it.

As far as government power to break up TBTF institutions, doesn't that sound ridiculous? Do legislators think the American public is so stupid that it won't see that the planned interference of government in big business is a back-door route to socialization?

The House legislation gives the government power to keep TBTF faltering and systemically important institutions open and supported by taxpayer funding. If they are systemically important, they can't be unwound without across-the-economy pain and suffering. So, they will become wards of the state, perhaps permanently. This is where we're headed.

The $150 billion bailout stash the House is calling for big banks to fund is a joke. For some perspective, it amounts to less than one fifth of Bank of America's debt – not its assets which are in the trillions, but its debt.

There is little doubt that the Fed made mistakes in the past. And, there's no good reason that the Fed shouldn't be audited. What is in doubt and what there is no good reason to have is a politicized Fed. Is any incumbent administration ever going to raise rates in an upcoming election year? If your borrowing costs and the debt service you pay on your loans and borrowings are going to go up and choke you, are you going to vote for the folks who do that to you? That's why the Fed needs to be independent. Not unaccountable and not unfettered, just unencumbered by political winds.

Then there's the idea of a consumer protection agency. But, don't we already have a few of those? We have the Securities and Exchange Commission (SEC), the Commodities Futures Trading Commission (CFTC), the Office of Thrift Supervision (OTC), the Office of the Comptroller of the Currency (OCC), the Financial Industry Regulatory Authority (FINRA), the Fed, the Federal Deposit Insurance Corp. (FDIC) and several more state regulatory agencies.

Is another agency just another opportunity for smart players to play the regulatory arbitrage game? Apparently one size doesn't fit all, because legislators are already carving out favorite friends for exemption to oversight by the yet-to-be-formed new agency. Another agency? How about fixing all the agencies that failed us before?

The bottom line of what will be a quasi-socialized banking system is that the big banks presumably will be backstopped by taxpayers. That eliminates moral hazard. More risk equals more reward. And risks will be taken and leveraged. As long as institutions are not subject to market discipline and they can borrow cheaply with an implied government guarantee, bankers will swing for the fences, because they can.

The entire exercise of legislators jockeying to protect us from another Great Recession or Great Depression is an exercise in futility. They have already dropped the ball. Instead of heading into a pre-packaged socialization model, lawmakers need to be honest and do the right thing.

The right thing to do is steer away from socialization and back toward democratic capitalism. End too-big-to-fail, once and for all. Spread the pieces of dismembered institutions around the country and place credit closer to Main Street. We need to be governed by the people, for the people – not by Wall Street for bankers.

News and Related Story Links:

• House of Representatives:
  Wall Street Reform and Consumer Protection Act of 2009

• Money Morning:
  Anatomy of a Scam: This "Prime Bank Program" Has Already Cost Investors Billions

• Money Morning:
  Special Report: How the Government is Setting Us Up for a Second Subprime Crisis

• CNNMoney:
  Sweeping bank reform bill clears House

• Money Morning:
  How to Profit From the "Evil Genius" of Goldman Sachs

• Reuters:
  House approves sweeping financial reforms

• Money Morning:
  U.S. Sen. Christopher Dodd's Plan for Financial Reform as Ambitious as it is Antagonistic

Shah Gilani

About the Author

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Shah Gilani is Chief Financial Strategist for Money Map Press and boasts a financial pedigree unlike any other. He ran his first hedge fund in 1982 from his seat on the floor of the Chicago Board Options Exchange. When options on the Standard & Poor's 100 began trading on March 11, 1983, Shah worked in "the pit" as a market maker. He helped develop what has become known as the Volatility Index (VIX) - to this day one of the most widely used indicators worldwide. After leaving Chicago to run the futures and options division of the British banking giant Lloyd's TSB, Shah moved up to Roosevelt & Cross Inc., an old-line New York boutique firm. There he originated and ran a packaged fixed-income trading desk and established that company's "listed" and OTC trading desks. Shah founded a second hedge fund in 1999, which he ran until 2003. Shah's vast network of contacts includes the biggest players on Wall Street and in international finance. These contacts give him the real story - when others only get what the investment banks want them to see. On top of the free newsletter, as editor of The 10X Trader, Money Map Report and Straight Line Profits, Shah presents his legion of subscribers with the chance to earn ten times their money on trade after trade using a little-known strategy. Shah is a frequent guest on CNBC, Forbes, and MarketWatch, and you can catch him every week on FOX Business' "Varney & Co."

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