01/28/2013 03:54 pm ET Updated Mar 30, 2013

How Jamie Dimon Shows Us Exactly What Is Wrong With Our Banks

At the World Economic Forum in Davos, the CEO of JPMorgan Chase, Jamie Dimon, launched a full-throated defense of banks and criticized the U.S. government for regulatory overreach. In Dimon's view, the banks are doing a great job of supporting our economy and regulators are doing a disservice to the American people by trying to rein in risk-taking on Wall Street.

Beyond the obvious fact that JPMorgan Chase's London Whale losses are a stark example of financial excess and mismanagement, Dimon's continued opposition to Wall Street reform highlights everything that is horribly broken in our banking system.

Banks today are involved in many lines of business: from taking consumer deposits and lending to investment banking and trading. While all of these have a role to play in our economy, the most crucial function of banks is to provide capital for businesses to survive and grow. In our leverage-based economy, the availability of credit makes it possible for small businesses, in particular, to flourish and compete in a frenetic market, and in this respect banks are a crucial part of the financial ecosystem.

However, despite the considerable assistance provided by the government to banks after the financial crisis of 2008, they have failed to keep their promise of providing credit to the small business community. Small business lending in 2011 declined by 6.9 percent from the previous year and the largest banks, including JPMorgan Chase, accounted for 51 percent of that decline. Some of this happened due to a lack of demand by businesses nervous about taking on debt in an uncertain market but a lot of it happened due to the tightening of credit on the part of the banks. By imposing more stringent requirements on businesses looking for loans and creating a bureaucratic minefield for businesses to navigate through, banks made it harder for companies to obtain capital even as they personally sat on cheap money provided by the government for lending.

So why don't banks want to lend? After all, they make money doing it. The answer is morbidly circular.

Part of the reason is the softness in the economy (and therefore the business prospects of borrowers), which then perpetuates itself when banks don't lend -- since businesses can't expand or hire, wages plummet, consumers don't have enough money to spend, and so on.

The other part has to do with the business model of banks like JPMorgan Chase. Prior to the dismantling of the Glass-Steagall Act, commercial banking was separated from more speculative activities, which insulated lenders from the consequences of risky activities and allowed them to deploy capital. Now, however, banks need to keep more capital in reserve not just because of government regulation but because more capital is needed to protect the banks from the consequences of their wild risk-taking.

While the London Whale losses, for example, might not have moved the financial needle for a behemoth like JPMorgan Chase, the bank cannot afford to be caught with its pants down if losses from future bad trades do amount to something. What this means is that Dimon's profit model (not to mention personal compensation), which relies heavily on the type of on-the-wire trading that can generate huge profits, also requires a big capital buffer, which then hampers the bank's lending and investment abilities and, by extension, its contribution to our economic progress.

The reality is that banks today have become self-serving profit machines whose primary goals are misaligned with our nation's larger interests, and are a far cry from the friendly neighborhood institutions that once made the American dream possible. They have gone from being the enablers of capitalism to mere beneficiaries, from being providers of resources to consumers of them; and that is a shift that is already having an adverse impact on our industries, employment, wages, and ultimately the prosperity of the American people.

In such a landscape, regulation of Wall Street is not only necessary but an urgent imperative. Dimon's oft-repeated lament that regulators move too fast shows either a lack of understanding of what is really going on or a lack of concern. The longer that our banks go without adult supervision and the longer they are allowed to take excessive risks with other people's money (whether that money belongs to depositors, clients, or shareholders is irrelevant), the more damage will be done to our economy. What the banks refuse to acknowledge is that every financial crisis, every market shock, and every major loss chips away at our foundation just that little bit more until eventually it becomes too weak to uphold the system, and that their business model is very much a part of the problem.

Dimon's stance, in fact, makes the perfect case for bank regulation, and his continued intransigence on the need for banks to rein in risk is a pretty clear sign that the banks themselves will not do so of their own accord. JPMorgan Chase may be just one bank but it is our biggest one, and the philosophy espoused by its CEO is shared widely on Wall Street.

Our banking system needs fixing badly, and Dimon's statements at Davos remind us of exactly why.

SANJAY SANGHOEE has worked at leading investment banks Lazard Freres and Dresdner Kleinwort Wasserstein as well as at a multi-billion dollar hedge fund. He has an MBA from Columbia Business School and is the author of two financial thrillers, including "Merger" which Chicago Tribune called "Timely, Gripping, and Original". Please visit his Facebook page for more information.