New York Times Editorial: Financial Reform

New York Times Editorial: Financial Reform
Copyright byThe New York Times
Published: May 21, 2010
http://www.nytimes.com/2010/05/22/opinion/22sat1.html?th&emc=th


After all the revelations about predatory lenders, bankers who bet against their clients and speculative booms and busts, it should be clear that weak regulation is a recipe for disaster. And open and transparent markets, with clear roles for regulators, are essential to the nation’s financial health.

So it was good news that, despite all the bank lobbying and all the Republican posturing, the Senate finally passed a financial reform bill on Thursday.

Whether it will fix the system is still not known. In many ways, the bill has moved closer to what is needed. But when House and Senate leaders meet in coming days to negotiate a final bill, they need to correct several deficiencies and omissions.

The political battle also is far from over. When the stock market sank on Thursday, hours before the final vote, opponents rushed to declare that that was because even the possibility of reform was destabilizing. The market rose again on Friday. The rhetoric didn’t stop.

Here is what needs to be addressed:

RISKY BUSINESS It was never going to be easy to rein in the multitrillion-dollar market in unregulated derivatives. The Senate bill went further than the House version in requiring most derivatives to be traded on exchanges and to be processed, or cleared, through a third party to guarantee payment in the case of default.

It still has a gaping loophole: regulators have no clear legal authority to stop or undo a derivatives deal that has not been properly cleared and exchange-traded. The House bill gives regulators more authority, but a final bill needs clear rules, with clear enforcement.

The Senate bill also waters down the “Volcker rule.” As proposed by President Obama, the rule would bar banks from making market trades for their own accounts and from owning hedge funds and private equity funds. The Senate calls for a study and a needlessly long implementation process. The House version — which was passed before the Volcker rule was proposed — only gives regulators the discretion to curb risky trading. The final bill should implement the Volcker rule without delay.

TOO BIG TO FAIL Both the House and Senate bills establish “resolution” procedures for dismantling firms if their failure threatens the system. The goal is to establish in law that stockholders and unsecured creditors — not taxpayers — will bear the losses of a failure.

The resolution power in the Senate bill is weaker than the House bill because it does not require banks to pay in advance to help cover the operational costs of dismantling a big institution. (The House bill would create a $150 billion fund.) By making banks pay for the risks they create, a resolution fund could also perform the important function of encouraging them to curtail their riskiest activities.

PROTECTING CONSUMERS AND INVESTORS Consumers of financial products would gain protections in both bills against deceptive lending and other credit abuses. Both are marred — though in different ways — by exceptions to the new rules, and by restrictions on the new consumer agency’s independence and rule-making authority. The final bill should establish an independent agency with full rule-making and enforcement powers.

The House bill imposes a fiduciary duty on brokers who give investment advice. The Senate bill does not. (Without that, brokers have leeway to pitch investments intended to boost their own or their firms’ profits, exposing investors to misleading pitches and overly expensive products.) After all that investors have suffered, it would be unconscionable not to include this provision.

All these reforms are essential for protecting investors, restoring confidence in the financial markets and ensuring that another meltdown does not happen. Congress still has work to do.