Friday, April 02, 2010

Shadow banking and casting a long aspersion

David Weidner sorta reviews Simon Johnson's "13 Bankers" in the WSJ.

Breaking Up the Financial Industrial Complex
One of Wall Street's favorite pastimes is to cast aspersions on regulators. Today's soft, compromise-laden effort to reform the financial services industry is getting the same derision.

We're told it will put U.S. banks at a competitive disadvantage. It will hurt credit. It's misguided. Regulators and Washington are playing politics and just don't know any better.

Simon Johnson is a professor at the Massachusetts Institute of Technology and former economist at the International Monetary Fund. His new book, "13 Bankers: The Wall Street Takeover and the Next Financial Meltdown", written with James Kwak, argues that the financial crisis has only helped consolidate power among the banks.

"As banking became more complicated, more prestigious, and more lucrative," Messrs. Johnson and Kwak write, "the ideology of Wall Street -- that unfettered innovations and unregulated financial markets were good for America and the world -- became the consensus position in Washington on both sides of the political aisle."

Banking arguably has grown more dominant than government. Through its lobby and contributions it's able to shape its own rules and guide the economy through bubble cycles—from the Internet to energy to housing. [See, Goldie as political hedge fund.]

Wall Street has replaced the military as the industrial complex, leading us from feast to famine and back. It is so commanding, Washington now acts as an arm of the banking industry.

As banks failed, big Wall Street powerhouses including Bank of America Corp., J.P. Morgan Chase & Co., and Wells Fargo Corp., have fattened up on the carcasses of doomed competitors. Those three banks, along with Citgroup Inc., now control a combined $7.34 trillion in assets and $3.57 trillion in deposits—56% and 39% of all U.S. assets and deposits respectively, according to SNL Financial. They are more than simply "too big to fail".

Mr. Johnson has a grand proposal: "do not allow financial institutions to become too big to fail and break up the ones that are." This could be done by placing a hard limit on an institution's ratio of assets to GDP -- 4% for commercial banks and 2% for investment banks, he argues.

A hard cap is just one of the ideas that have been floated since the crisis hit. Others include reinstituting Glass-Steagall separations and expanding regulation of "shadow banks" — insurance companies, hedge funds and private equity — as commercial banks.

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