FOOT-DRAGGING ON WALL STREET / THE FINANCIAL TIMES EDITORIAL

May 12, 2014 6:48 pm

Foot-dragging on Wall Street

Washington must guard against a creeping complacency

Forgetting is supposedly a great healer – but not when applied to financial markets. It has been almost six years since the Lehman Brothers meltdown and four years since the Dodd-Frank reform was passed. The world came perilously close to a second Great Depression. To judge by the lack of urgency in Washington, those days are fading from memory. Barely half the rules required under Dodd-Frank have been written. And many of those that have been promulgated have diluted the law’s intent. Furthermore, Congress has yet to pass a bill to wind down Fannie Mae and Freddie Mac, the giant mortgage underwriters that were at the heart of the subprime crisis. The chances of that happening soon are also fading. Complacency is displacing fear. It is vital that Washington tackles the unfinished business of 2008 before it takes root altogether.

The largest outstanding item must be to wind down government-sponsored enterprises. Fannie and Freddie’s near bankruptcy just a few weeks before Lehman’s collapse prompted a $187.5bn taxpayer bailout. This was essential to preserve liquidity in the US mortgage market at a moment of acute stress. But it has long since passed. The US housing recovery is in its fifth year and household leverage ratios are almost back to pre-crisis levels. The temptation will be to leave the GSEs in federal “conservatorship”, since they are paying a handsome flow of dividends to the US Treasury. Congress must find the spine to wind them down.

Democratic lawmakers want to preserve homeowner assistance for the poor. That is a questionable goal that should take second place to creating a robust and affordable rental market for low-income Americans. In any event, it should be delivered by a pure public entity with transparent subsidies rather than via two privately held but implicitly guaranteed behemoths. Meanwhile, lawmakers in both parties are susceptible to hedge fund investors who own grey-market shares in the GSEs and want their cut of the renewed dividend flows. Again, the argument holds little water. Shareholders ought to have been wiped out when the US Treasury took over the GSEs. And the hedge fund lawsuit is irrelevant to the debate on Capitol Hill. The sooner Congress winds down the GSEs the better.div>

Progress on Dodd-Frank is also patchy. The fact that Congress was unable to consolidate Washington’s Balkanised regulatory set-up has made it easy for Balkanised regulatory set-up has made it easy for banks to lobby against the law’s toughest elements. They continue to shop around for the lightest-touch regulator. As Tim Geithner, former US Treasury secretary, explains in his memoirs, the so-called Volcker rule was integral to Dodd-Frank. It requires too-big-to-fail banks to hive off proprietary trading from their publicly insured subsidiaries. Yet banks have succeeded in eviscerating much of its contents. Other key rules, including one that would strengthen the ability of shareholders to undo reckless compensation practices, have yet to be written. If the big banks have their way, they never will. The same applies to rules on “dark pools” created by high-frequency trading, margin and capital requirements for money market funds, and addressing the conflicts of interest among rating agencies. These rules are long past due.