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Sen. Ted Kaufman: 'We need to pass something so a similar crisis doesn't happen for another 50 years'


Earlier today, Sens. Ted Kaufman (D-Del.) and Sherrod Brown (D-Ohio) introduced the Safe Banking Act, a proposal to end the too-big-to-fail problem by ending too-big-to-fail banks. The legislation sets firm size limits and capital requirements and forces banks above those limits to either shrink or be broken into pieces. I spoke to Kaufman this afternoon, and an edited transcript of our conversation follows.

Tell me about the Safe Banking Act.

It's a way to bring down the size of banks and deal with too-big-to-fail. And it's just one piece of the puzzle. There'll be a bill that does a very hard Volcker rule. And I'd like to return to Glass-Steagall. But even if you did break these banks apart, you need to place caps on their size. And that's the Safe Banking Act. A bank can only have insured deposits as big as 10 percent of GDP. A bank holding company or thrift holding company's nondeposit liabilities -- including off-balance-sheet ones -- can only be 2 percent of GDP. And any nonbank financial institution's liabilities are limited to 3 percent of GDP.

Why do we need this? There's already the Dodd bill and the Frank bill. Both of them give regulators new tools and information to get into the financial system and detect and, hopefully, resolve problems. Why take this next big step and break the institutions up?

Regulators already have the power to do so many things. The 1970 Bank Holding Act, for instance, gave the Federal Reserve the power to terminate a bank's ability to engage in nonbank activity if the activities were creating undue concentration. They could break up a bank if it posed a threat. But the regulators didn't do it. Now, you can say we have new regulators. But you need to be thinking further forward to a future president who will implement another self-regulation strategy and let the regulators walk off the field.

In 1929, we had a massive depression. After it was over, Congress came in and put Glass-Steagall into place and other rules and that lasted for 60 years. Then it began eroding in the late 90s and we got ourselves in trouble. We need to pass something so a similar crisis doesn't happen for another 50 years. As they say, good fences make good neighbors. The Senate should put the fences up. And then the regulators can come in and do their work. But they need good rules.

In your speech introducing the legislation, you said that regulations have a “half-life.” Explain that.

The half-life is until Wall Street finds a way to get around it or we get regulators who don't want to enforce regulations. The people at these firms are very smart and it's just a matter of time till they find a way to work around regulations. Ezra, every person I talk to who is removed from the banking industry believes the number one thing we need to do is end too-big-to-fail. And another problem is that being too-big-to-fail means you also get better rates than smaller banks because the market knows the government will bail you out. So that gives them a competitive advantage. And that makes them even bigger!

Some say you're going too far. Yes, Wall Street got out of control in recent years. But it generally does good work, performing important functions for the economy. Break up the banks and you'll choke off legitimate innovation and efficiencies, which will hurt the economy.

So far as the advantages of size go, there's a wonderful report by the executive director of the Bank of England who says there are no economies of scale after you've got $100 billion in assets. Now we have banks with $2 trillion in assets. And we've complicated this by getting JP Morgan Chase to buy Washington Mutual and getting Wells Fargo to buy Wachovia. So now this problem is worse than it was.

Another criticism is that 'too-big-to-fail' is the wrong way to think about this problem. It's really too-interconnected-to-fail, or too-exposed-to-derivatives-to-fail.

But the point is, they'd be smaller. If you bring down Bank of America, it'll take a long time to do. These banks have wholesaling, they borrow short-term and lend long-term, they operate in countries around the world. Smaller is better when you're trying to wind things down. Number two, when you have these massive banks, their portfolios all look identical. But that increases the systemic risk. About 85 percent of the derivatives were among five banks! That wasn't how banks looked in Wilmington. Let's get a banking system that looks like how most banks in this country operate.

How, specifically, would your bill work? Let's take Bank of America, which is well over your limits. Your legislation passes. What happens to B of A? Who carries it out?

What they have to do is bring their size down over a period of time. I actually trust regulators. They just need the rules. If they don't do it in three years, the Federal Reserve requires them to raise capital or sell assets.

Photo credit: By Jonathan Ernst/Reuters

By Ezra Klein  |  April 21, 2010; 4:39 PM ET
Categories:  Financial Regulation , Interviews  
Save & Share:  Send E-mail   Facebook   Twitter   Digg   Yahoo Buzz   StumbleUpon   Technorati   Google Buzz   Previous: Re: Wall Street's complexity
Next: Reconciliation


I'd like to think we won't be back where we are now in fifty years, but I doubt it.

As soon as the new rules and regulation are in place the lobbyists will go to work trying to repeal them. That is what happened last time, it will happen again. Unless we put together some form of lobbying reform, expect more bank bailouts in a few decades.

Posted by: nisleib | April 21, 2010 5:00 PM | Report abuse

thank you!

And what chance do you give this of passing Ezra? I'm also thinking Senators Kaufman and Brown are now permanently off of Citi, Chase, BoA etc's Xmas card lists ;-)

What also is to stop them from separating and still being affilliated?

Also any chance they could work this magic with the concentrated insurance markets? just asking.

Posted by: visionbrkr | April 21, 2010 5:09 PM | Report abuse

Unfortunately, the "half-life" is measured in days and months, making regulation virtually meaningless. Witness the new credit card legislation. A New York Times columnist recently went on Bill Moyer's show and indicated that of the ten most important regulatory changes in the legislation "the credit industry lawyers have figured out how to get around eight of them".

This was not some right winger talking to someone at Fox News. This was a left-wing columnist from a left-wing newspaper admitting to a left-wing newsman that a left-wing Congress had failed to write effective legislative language, i.e. are in bed with the industry.

That about says it all with respect to how effective this new financial legislation will be.

Posted by: magellan1 | April 21, 2010 5:31 PM | Report abuse

To say that regs have a half-life doesn't mean they aren't worth having. Even Magellan1 notes that credit card attorneys haven't figured out their way around 2 of the 10 credit card changes. What's the option? Just say go for it and let the entire economy continue to be subject to every boom and bust until a bust is so big it takes decades and a world war to come out of it? Oh, yeah, we already tried that, and it didn't work out so well.

Posted by: greenmountainboy | April 21, 2010 6:11 PM | Report abuse

Frannie and Freddie are left out...along with other consumer-hitting aspects of the bill.

More corruption.

Posted by: joesmithdefend | April 21, 2010 7:05 PM | Report abuse

"And that's the Safe Banking Act. A bank can only have insured deposits as big as 10 percent of GDP. A bank holding company or thrift holding company's nondeposit liabilities -- including off-balance-sheet ones -- can only be 2 percent of GDP."

Um, isn't that still a giant bank? 10% of GDP in insured deposits plus 2% of GDP in non deposit funding sources would be a what, a $1.7 trillion bank back in 2008? Furthermore, isn't there a loophole of uninsured deposits? I didn't see a limit on those, and the 2% of GDP only applies to non deposit funding sources per Kaufman. You could probably get to $2 trillion by offering a little bit more for the uninsured deposits. I mean this might be addressed elsewhere but this interview suggests that the huge banks might be able to stay huge.

"But the point is, they'd be smaller. If you bring down Bank of America, it'll take a long time to do. These banks have wholesaling, they borrow short-term and lend long-term, they operate in countries around the world. Smaller is better when you're trying to wind things down."

That's technically not true. Having 20 $100 billion banks fail because of the same bad bet is just as bad in terms of credit availability to the economy as one $2 trillion bank fail - it might be easier for the government to physically wind them down, but I'm not even sure if that is true - it might be difficult since you've got 20 seperate institutions to wind down. Maybe the shock of the largest banks going under will be lower if the largest banks are smaller, I dunno.

Even assuming it is better, remember the banking crises of the 1930s were a huge problem for the economy even though it was for the most part lots of little banks - often single branch banks - failing all at once.

"There'll be a bill that does a very hard Volcker rule."

A ban on prop trading seems like it makes sense - if you want to be a hedge fund, be a hedge fund - but prop trading is hard to define. Especially via the use of hedging derivatives - you can over/underhedge and take a directional bet quite easily, and it would be difficult for the regulators to know you were doing more than just hedging. And of course it would be a bad idea to not allow banks to use derivatives for hedging purposes...

Posted by: justin84 | April 21, 2010 7:15 PM | Report abuse

I like this idea best of all. Mostly the part of limits of size. Concentrated power is always abused.

And the federal government and the liberals' constant attempts to concentrate and usurp power will also always be abused.

Limit the size of the federal government as well.....for exactly the same reasons.

Posted by: WrongfulDeath | April 21, 2010 8:05 PM | Report abuse

AT&T was broken up just for being big. No accusations about wrecking the economy. This seems to be an excellent occaision for the government to take similar action to clip the wings of these incredibly greedy and power mad executives. Sort of a modification of ex post facto. They didn't break the letter of the law but shattered the spirit. There should be consequences.

Posted by: BertEisenstein | April 21, 2010 8:53 PM | Report abuse

Maybe we need a bill that addresses the "too-complicated-to-fail" problem?

Posted by: wd1214 | April 21, 2010 8:56 PM | Report abuse

I was reminded by someone's comment elsewhere that One of the Biggest causes of the Wall Street meltdown was - Bush appointed SEC Cox in 2004 removed debt to asset leverage limits on Banks - allowing banks to gamble with as much as 30 to 1, 44 to 1, 60 to 1, or 80 to 1 debt vs. assets. "Agency’s ’04 Rule Let Banks Pile Up New Debt" -

"They wanted an exemption for their brokerage units from an old regulation that limited the amount of debt they could take on. The exemption would unshackle billions of dollars held in reserve as a cushion against losses on their investments." --- Mr. Anti-Regulation Cox approved this unlimited debt change -- and look what happened.

It sounds like this Bill is the only mention of Capital Requirements that will address this - and take that decision-making power away from Political appointees I hope.

Posted by: fair001 | April 21, 2010 10:08 PM | Report abuse

@Bert "AT&T was broken up just for being big."

No, it was broken up for being a government enforced monopoly. I am all for limits on what the taxpayers will insure against loss, but I still don't believe in too big to fail. The savings and loan debacle, for example, was not about too big to fail. It was about loads of smaller entities being taken out, in part precipitated by a drop in oil and real estate. Smaller entities are risky as well, especially if there are many of them exposed to the same asset classes.

If you have ten mini Citibanks running around, and they are all buying up mortgages where the underlying asset value falls 50%, you now have ten messes to clean up, ten sets of counterparties to provide liquidity, etc. Being subject to the same conditions causes similar reactions. It is only if you assume that the factors that lead to collapse are unique to particular firms, such as a rogue trader, that would cause you to think a big firm is a bigger risk.

The Fed and the Treasury control the risks we are willing to take as taxpayers. If we simply limit the funds availability to firms, as we already can, we limit our exposure to that risk. We arrange for wind downs and normal bankruptcies, but we don't bail out.

Of course, the biggest mess we have left on the books is Fannie and Freddie. Those corrupt organizations, created in the name of the deluded American Dream of home ownership, mortgage tax deductions, and the general sickness of private profit with public risk should be the biggest lesson of all. Beyond any bad behavior of the banks, the irresponsible behavior of leaders, and the irrational voters that elect them, is driving us into indentured servitude to the past.

Our baby boom generation has cleaned us out. Now the richest generation, they have plans to steal from the poorer younger generations all the riches of expanded Medicare and Social Security that they never actually bothered to pay for. Just say no. Means testing on all entitlements is coming.

Posted by: staticvars | April 21, 2010 10:33 PM | Report abuse

Serious question: How would Glass-Steagall have prevented the recent crisis?

Posted by: tomtildrum | April 21, 2010 11:37 PM | Report abuse

We need to put Barney Frank in jail along with Chris Dodd who engineered this collapse of our economy. Without them gone anything is a farce to be called regulation. They are who need regulating far more than any banks!!

Posted by: cdorbg | April 22, 2010 12:11 PM | Report abuse

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