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Fix The Dodd Bill -- Use The Kanjorski Amendment

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At the heart of the currently proposed legislation on financial reform (e.g., the Dodd bill and what we are expecting on derivatives from the Senate Agriculture committee), there is a simple premise: Key decisions about exact rules going forward must be made by regulators, not Congress. This is obviously the approach being pushed for capital requirements, but it is also the White House's strong preference for any implementation of the Volcker Rule - first it must be studied by the systemic risk council (or similar body) and only then (potentially) applied.

Treasury insists that Congress is not capable of writing the detailed rules necessary for a complex financial system - only the regulators can do this. This is either a mistake of breathtaking proportions, or an indication that the ideology of unfettered finance continues to reign supreme.

The regulators who got us into our current mess include Ben Bernanke (a Republican from the Greenspan tradition of financial regulation), John Dugan (also a Republican, who makes Bernanke look progressive), and of course Alan Greenspan himself.

If legislation can only empower regulators then, given regulators are only as strong a newly elected president wants them to be, the approach in the Dodd bill simply will not work.

There is still a feasible alternative, based on a different approach - that proposed by Representative Paul Kanjorski (chairman of the Capital Market Subcommittee of the House Financial Services Committee) and adopted as an amendment in the House bill.

This amendment will allow federal regulators to preemptively break up large financial institutions that - for any reason - pose a threat to financial or economic stability in the United States. (Yes, there is a weak version of this idea currently in the Dodd draft, but it is very weak - allowing regulators to act "only as a last resort"; see p.3 of the official bill summary.)

Representative Kanjorski has exactly the right idea, but we need to go a step further - because we cannot at this point reasonably expect regulators to implement properly. Remember, in the Catch-22 type nature of these issues, the regulators can easily say: Implicit in Congress's decision not to mandate a break-up, will infer a congressional intent that no institutions currently meet the criteria.

The reality is this. As documented in 13 Bankers (see Chapter 7), six banks currently fit the Kanjorski criteria - they are, by any definition, "too big to fail." Congress should mandate their break-up rather than leaving this to the judgment of regulators.

We can discuss the best language and exact terms but the broader point is that we need change by statute, not "after further study."

Even if you trust and believe in the new-found regulatory zeal of our current regulators, Senator Dodd and all other Democrats should be concerned that the next president may be a free market Republican who will appoint regulators captured by Wall Street.

The Dodd legacy should be to break the doom loop for future generations. It would be unwise to let that legacy depend on the judgment of regulators to be named later.

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13 Bankers: http://13bankers.com (on sale now)
The Baseline Scenario: http://baselinescenario.com (economics blog)