Dogs and Cats Living Together
A Tea Party-Occupy Wall Street agenda
Nov 14, 2011, Vol. 17, No. 09 • By PETER J. HANSEN
What if the two prominent grassroots movements of the day, the Tea Party and Occupy Wall Street, joined forces to support an agenda that would be good for America?
A Tea Party gathering in Orlando, April 2009
UPI / Roger L. Wollenberg / LANDOV
Both groups are short on policy specifics. As popular movements, they lack organizers and spokesmen; both are to some extent expressions of mood. Nonetheless, there are several policies that reflect the concerns of at least a large part of both groups and that would be beneficial for the ordinary Americans whom both claim to represent. These policies would be a departure, however, from the current positions of the Democratic and Republican parties—whose shortcomings caused the two movements to spring up in the first place. So here it is, the Tea Party-Occupy Wall Street agenda.
Prevent bank bailouts
Both Occupy Wall Street and the Tea Party are disturbed by the way the federal government handled the financial crisis of 2008. The problem is not that people on Wall Street make a lot of money (though some in Occupy Wall Street might think it is). The problem is that when they lose money, at least when they lose a lot, the rest of us have to bail them out.
In addition to being unfair and heightening income inequality, this arrangement corrupts Wall Street itself. It produces an incentive for traders at financial institutions to take foolish risks, in particular to follow strategies that usually yield modest profits but occasionally produce spectacular losses. In other words, this arrangement rewards bad traders and thereby misallocates capital.
The most significant way in which the taxpayer stands behind financial institutions is federal insurance of bank deposits, which began as a response to the massive bank failures of the Great Depression. Federal deposit insurance clearly serves the public interest, but it is not without cost. It commits American taxpayers to support every insured deposit at an American bank. People in the Tea Party are rightly suspicious of government regulation, but where the federal government puts taxpayers on the line, it should exercise strict oversight.
The Dodd-Frank financial legislation passed in 2010 includes the so-called “Volcker rule,” named for proponent Paul Volcker, former chairman of the Federal Reserve. The Volcker rule is a step in the right direction, but it doesn’t go far enough. It forbids banks from trading for themselves, but it allows them to engage in what is called “market-making”—offering prices at which one is ready to buy and sell a particular instrument, such as a foreign currency or a stock. Doing so involves taking short-term positions—buying or selling until one can offset the transaction—and market-makers often also take longer-term positions, based on their sense of where the market is going.
The distinction between trading and market-making will be difficult if not impossible to enforce in practice. Even if it could be enforced, market-making itself is a risky activity which should not be underwritten by insured bank deposits. We should go further and reinstate the division between commercial and investment banking that existed until the partial repeal of the Glass-Steagall Act in 1999. (There is also much we don’t need in Dodd-Frank, notably the establishment of an Office of Fair Lending and Equal Opportunity, which may help ensure that the recent financial crisis is not our last.)
Any financial institution that accepts FDIC-insured deposits should be deemed a commercial bank. Commercial banks should not be permitted to engage in investment activities other than lending to borrowers and purchasing U.S. debt instruments. They should be permitted to buy only U.S. debt instruments, not those of Italy or California or Fannie Mae or any private corporation, and certainly not stocks, options, futures, currencies, mortgage-backed securities, swaps, and so on. The United States is the entity issuing the guarantee—and holding the bag if troubles arise. It should not be compelled to guarantee anybody else’s creditworthiness.
In a word, commercial banking should be boring. Other financial firms—investment banks, private equity firms, hedge funds, venture capitalists—can take big risks and reap big rewards. When things go awry, as they will from time to time, the taxpayer should not have to pay. The government should ensure that no firm is in a position to cause a financial crisis which might require a taxpayer bailout. And that will be easier to do if we reinstate the division between commercial and investment banking. Panics will occur from time to time, but for the most part they won’t affect regular banks or endanger insured deposits, so the damage will be limited.