It’s one of the few things Congress is demonstrably good at these days: the open flagellation of American businessmen. The unprecedented sums of money doled out by Congress to private industry since 2008 has given Congress the pretext to drag the executives of bailed-out industries down to Washington for sessions of high-profile finger-wagging.
Now it’s Jamie Dimon’s turn. Last month’s revelation that Dimon’s bank lost somewhere in the ballpark of $2 billion to $5 billion. (The positions that have caused the bank’s losses are still being unwound by the bank, so the final tally is yet to be determined.)
The political points an endangered Senator might score from a documented chastisement of one of America’s most reviled business leaders are hard to resist. Add to that the fact that Dimon has been one of America’s fiercest resistors of increased financial regulation, and the banker’s testimony will surely be an occasion for some pretty nauseating political grandstanding.
But hopefully that’s not all that gets done at Wednesday’s hearing. The fact remains that the regulatory overhaul that was exposed as necessary by the 2008 financial crisis is far from over. Much of the Dodd-Frank legislation remains to be implemented – including the very controversial Volcker Rule, which seeks to prevent institutions with federally insured deposits from making risky bets with their own capital. The JPMorgan loss must serve as an instructive example of the risks our financial system still faces, and the Senate should use it’s time with Dimon wisely to figure out how to proceed.
Of course, given the divided nature of the political class in Washington, finding a single path forward will be a tall order. There isn’t even much agreement as to whether the trading loss is a big deal in the first place. After all, even if the loss grows to $5 billion, that number is dwarfed by the firm’s 2012 profit. Eric Fehrnstrom, a senior advisor for Mitt Romney’s presidential campaign, played down the severity of the loss, telling the Today Show: “There was no taxpayer money at issue here. These losses went to investors in the company, which is how it works in a market.”
Others see the loss as reflective of the fact that following the financial panic of 2008, nothing much has changed on Wall Street. It is still awash with complicated and opaque financial instruments that delude market participants into thinking they’ve mitigated risk when they have not. The nation’s largest banks are much bigger than they were even at the dawn of the crisis. And these Too-Big-To-Fail firms are able to borrow money at cheaper rates than their competitors because the market still doesn’t believe that the government won’t step in and save these institutions when push comes to shove. This funding advantage only makes it easier for banks to take giant risks, reinforcing the activity that would eventually lead to a bailout. And as evidenced by last week’s Senate hearing with bank regulators on the subject, Washington bureaucrats in charge of policing behavior that would increase systemic risk did not see this blow-up coming. It’s true that the size of the loss didn’t pose a systemic risk to the financial system this time — but what if this trade happened at a less-capitalized bank, or one where management wasn’t able to catch the bad trade as quickly?
So while Jamie Dimon’s appearance tomorrow on Capitol Hill will provide Senators an opportunity to appear tough on Wall Street, it offers a much more important opportunity to answer fundamental questions about our financial regulatory structure. Namely, what kind of structure will prevent this sort of thing from happening again?
Many on the center-left have faith in our regulatory institutions, and believe that given the right laws and rules, they will be able to prevent these sorts of mistakes from happening. But there are over 100 federal regulators inside JPMorgan headquarters, and none of these regulators had enough foresight to seriously question these trades before they went bad.
The same Senate Banking Committee that will depose Dimon tomorrow listened to testimony on the incident from Federal Reserve Governor Daniel Tarullo, Comptroller of the Currency Thomas Curry, and Acting Chairman of the FDIC Martin Gruenberg last week. Not one of these regulators gave listeners any reason to believe they were on top of the situation. As Curry noted in his testimony, “Our examiners were in the process of evaluating the bank’s current position and strategy when, at the end of April and during the first days of May, the value of the position deteriorated rapidly.”
In short, this incident shows both Wall Street’s inability to manage risk, and Washington’s inability to spot that incompetence before it’s too late. But there is a growing consensus on the political right as well as the left that the only solution is to forcibly break up the banks. The thinking goes that if the banks were simply much smaller, then it wouldn’t matter what complicated shenanigans they get up too, because their failure wouldn’t pose a risk to the rest of us.
This sort of rhetoric sounds an awful lot like slogans found in occupied public parks around the country, but in fact, having the government forcibly break up the banks is beginning to appeal to conservatives in many ways. If no bank posed a systemic risk, then there would be no justification for the recent beefing up of regulatory oversight of Wall Street by Washington.
So how exactly would you break up the banks? Warren A. Stephens, an investment banker and longtime supporter of deregulation and other conservative causes, thinks you should set a much tighter cap on the percentage of bank deposits one bank can hold, at 5% of all deposits in the U.S. versus the current level of 10%. In addition, Stephens believes regulators should use the opportunity to force banks to choose between investment or commercial banking. Stephen says this would be
“a logical outgrowth of the 5% cap, as breaking up along business lines would be an easy way for banks to make decisions about what to keep and what to sell off. But they must be forced to choose.”
This week, in the conservative Weekly Standard, writer James Pethokoukis argues the same point:
“America needs to break up its biggest banks, but not for reasons likely to give a tingle to Occupy Wall Street’s remnant rabble . . . America doesn’t need 20 banks with combined assets equal to nearly 90 percent of the U.S. economy, or five mega-banks—JPMorgan Chase, Bank of America, Citigroup, Wells Fargo, and Goldman Sachs—with combined assets equal to almost 60 percent of national output, three times what they were in the 1990s. That amount of complexity and financial concentration—which has grown worse since the passage of Dodd-Frank—is a current and continuing threat to the health of the U.S. economy.”
Forcible downsizing of the big banks appeals to the far left for obvious reasons: It penalizes the bankers they see as central to the financial crisis, and it utilizes aggressive government action to cure markets of their disformity. But at the same time, it appeals to conservatives by eliminating Too-Big-to-Fail in one fell swoop — and with it the liberal argument for the kind of massive and complex regulation that Dodd-Frank represents.
So instead of nitpicking Jamie Dimon on the minutia of his firm’s reckless trading this year, Congress should simply ask him to explain why we shouldn’t simply downsize his bank, big time.