If doing the same thing repeatedly and expecting a different result is the definition of insanity, then post-election pronouncements from Republican leaders regarding financial regulatory reform are nothing short of insane.
In the wake of this month's elections, newly empowered Republicans in Congress have raced to declare their intent to roll back financial regulations and rein in the agencies responsible for implementing them. This is particularly ironic since many of these same members campaigned on a pledge of "No More Bailouts." But experience has shown that even the most committed free marketeers will blink when faced with the prospect of a global economic meltdown.
The only way to credibly pledge to prevent bailouts then is to eliminate the conditions that make them inevitable. There are several ways to do that: 1) break up the large financial institutions so that they can be allowed to fail without taking the rest of the financial system with them; 2) disentangle the complex web of connections that creates a domino effect when one institution fails; 3) raise capital standards so that financial institutions have a bigger cushion when times get tough; 4) rein in the reckless and abusive conduct that lands financial institutions in hot water in the first place; and 5) create a mechanism to allow for the orderly dissolution of large institutions when all the other strategies come up short.
The Dodd-Frank Wall Street Reform and Consumer Protection Act enacted earlier this year does not attempt to break up the largest financial institutions, and many question whether its new resolution authority can handle the failure of a large multi-national financial institution, but the Act includes a variety of measures aimed at the other goals. All of them, however, rely on regulators to do well precisely those things that regulators did poorly in the run up to the financial crisis. And all of them are now, to one degree or another, in the cross-hairs of Republican congressional leaders.
One attack comes from those who are looking to cut the budgets of federal financial regulatory agencies, claiming such cuts are a necessary part of their pledge to eliminate the deficit without raising taxes. This threat to de-fund financial regulation is particularly troubling given Congress's failure as part of the Dodd-Frank Act to provide two agencies with key roles in its implementation -- the SEC and CFTC -- with the same type of secure funding other financial regulators enjoy. If Congress fails to come through with a funding increase for SEC and CFTC that matches the dramatic expansion in their responsibilities, these agencies' ability to provide effective oversight and implementation of the new law will be hamstrung. Thankfully, threats to defund the new Consumer Financial Protection Bureau are just hollow bullying. The CFPB's funds come directly from the Federal Reserve's budget, and the Act specifically forbids the House and Senate Appropriations Committees from reviewing the CFBP's budget.
Rep. Spencer Bachus, who most observers believe will be the next Chair of the House Financial Services Committee, has been particularly active in pushing the deregulatory agenda. In rapid succession over the past several weeks, he has joined with various colleagues to:
- fire off a letter to the Financial Stability Oversight Council urging that body to implement new limits on risky proprietary trading by banks in a way that limits the cost to industry and does not "unfairly disadvantage" U.S. firms;
- announce plans to back legislation in the next Congress seeking to weaken key provisions of the Dodd-Frank Act, including crucial provisions related to derivative regulations, credit rating agency reforms, and the new consumer protection bureau;
- promise a series of oversight hearings designed to grill regulators who get too bold in implementing the new law; and
- caution Securities and Exchange Commission Chairman Mary Schapiro against adopting any rules that could threaten capital formation or curtail economic growth.
The rhetoric Republicans fall back on in support of this deregulatory agenda is not new. Indeed, it is precisely the same anti-regulation rhetoric used to justify the actions that landed us in our current economic mess, whether the issue was failing to rein in unsound mortgage lending, weakening bank capital standards, permitting banks into risky new activities, or banning regulation of over-the-counter derivatives. Proponents of this view ignore the clear and painful lessons of recent experience -- that business cannot be trusted to regulate itself, that regulators are far more likely to be too weak than too bold, and that the costs of clean-up and the burdens on the economy of financial crises are far higher than the cost of effective up-front regulation.
If these policies are pursued, they will inevitably lead to a new financial crisis. Worse, when the next financial crisis strikes, politicians who feel bound by their "No More Bailouts" pledge may be unwilling to take the steps necessary to prevent a major economic collapse. If that happens, we could find ourselves nostalgic for the days when the Great Depression still provided the standard against which we measured the severity of our economic woes. Allowing that to happen would truly be insane.