Saturday, April 8, 2017

The Strategic Use of Regulation in Government: A Proposal to Split-Up the Big Banks

The strategic use of regulatory reform is no stranger to businesses—especially to the strongest both financially and, relatedly, politically. Such proposals of more regulation are crafted not to benefit the macro economy or even the industry; rather, the point is to enhance a dominant firm’s competitive advantage over rivals. It follows that such proposals are not counter-factual to the thesis that republics are susceptible to the gravitational pull of plutocracy, the rule of wealth. A case in point is the U.S. Trump Administration’s consideration of a legislative proposal to reinstate the main content of the Glass-Steagall Act, which had separated commercial and investment banking such that a bank could not do both.
Gary Cohn, former number two at Goldman Sachs, talking to U.S. senators on behalf of the Trump Administration.
(source: Andrew Kelly, Reuters)
Gary Cohn, formerly President of Goldman Sachs, told U.S. senators on the Senate banking committee on April 5, 2017 in his new capacity as President Trump’s chief economic advisor that the administration was considering a proposal that would require banks to be either a retail or an investment bank. Interestingly, U.S. Treasury Secretary Steven Mnuchin, formerly a VP at Goldman, had expressed support for some version of the proposal. Meanwhile, JPMorgan’s CEO, Jamie Dimon, declared to stockholders that the existing regulations and capital requirements had largely eliminated the chance of a big bank failing. “Essentially, too big to fail has been solved,” he wrote.[1]
Only months before, Dimon had argued for financial deregulation, so had he been urging the removal of necessary safeguards? Perhaps the prospect of a renewed Glass-Steagall changed his view of the added regulation in Dodd-Frank. More likely, his positions were merely a reflection of the financial interest of his bank; his view of the value of the existing regulations and capital requirements was likely only strategic in thwarting a larger financial threat—having to sell off either the commercial or investment side of his bank. We cannot rely on his statement, therefore, that the problem of the systemic risk of a major bank collapsing has been solved; his changing views have one constant—the financial interest of his bank. Indeed, U.S. Senator Elizabeth Warren insisted at the time that despite “the progress since 2008, the biggest banks continue to threaten our economy.”[2] Dimon’s declaration looks self-serving in comparison. Put another way, the public should hesitate to put much stock on macro assertions made by CEOs, as their primary focus and perspective is firm-level (and at a particular firm).
Why would Goldman Sachs alums in the Trump Administration support invoking Glass-Steagall rather than join with Jamie Dimon? Breaking up the large banks could benefit Goldman Sachs, “whose retail deposit business is relatively recent and small: It would have a greater impact on Goldman rivals like JPMorgan Chase and Citigroup."[3] Dennis Kelleher of Better Markets said Goldman Sachs “would be king of the financial world where bank holding companies couldn’t compete.”[4] Hence, we have the difference of opinion on the proposal between the Goldman alums in the government and JPMorgan’s CEO. What they all share is an orientation principally to their respective banks.
The question whether reinstating some version of the Glass Steagall Act would reduce the systemic risk from a major bank going bankrupt (i.e., the risk that the financial system would collapse, thus upending the U.S. and perhaps the world economies) goes beyond whether such law is good for some banks and bad for others. In other words, the public-policy analysis is rightly societal, oriented to the common good rather than being a function of the strategic use of regulation by a bank whose alums have power in the U.S. Government. The danger of plutocracy, moreover, is that private interest trumps the public good. This danger puts society itself at risk because the impetus in legislative reform is not looking primarily at the big picture, but, rather, at particular parts.
By analogy, a captain of a cruise ship, who began his career managing the hot-chocolate bar on deck, still gets a kickback based on the revenue from that bar. When crossing from America to Europe, he tends to take the ship he is commanding unnecessarily north, into waters in which icebergs are possible. The colder air on deck is good for the hot-chocolate business, even if it is not good for passengers wanting to lie out on deck and use the swimming pool. More important than their inconvenience, which outweighs the pleasure of the hot-chocolate loving minority on board, the entire ship could sink were it to hit an iceberg. Yet the captain minimizes this risk even as his choice renders it higher.
What is in the strategic competitive advantage of one large bank is not necessarily the best route from the perspective of evading systemic risks to an entire financial system and economy. The implication is that one bank, or even the banking sector, should not be dominant in the halls of government, for such power is not likely to have a systemic perspective that gives due diligence to societal and even global risks of catastrophe.

[1] Michael Corkery and Jessica Silver-Greenberg, “Trump and Warren Agree? Maybe, on Plan to Shrink Big Banks,” The New York Times, April 6, 2017.
[2] Ibid.
[3] Ibid.
[4] Ibid.