Will Financial Reform Be Legitimate? (AIG, GE, GS, JPM, BAC, FNM, FRE)

Print Email

Congressman Barney Frank and Senator Chris Dodd are not wasting any time after health care reform.  In a press conference this morning, the two well-known Democrats said financial reform was next on the agenda from Washington D.C.  The target for financial reform is now being set within the next month.  The target is for the new legislation to be sent to President Obama before Congress adjourns for the year.  Dodd noted that the propositions will harmonize the Senate and House reform bills, but again came the partisan slap that this will be passed through with or without Republican support.  Financial reform is needed.  Both sides agree on this, at least for now.  The question is whether financial reform will be legitimate reform that makes certain institutions utilities or whether it is illegitimate reform that in the end is just regulation on top of more regulation.

There is one giant notion and potential that is going to come into play here, and that pertains to historic US contract law.  The two today said that some large financial institutions would be unwound if they were not worthy of standing on their own as an attack on the “too big to fail” notion.    And then some creditors may get hit in the process.  This happens in bankruptcies routinely, but if the government starts to just seize firms that may be believed to be in trouble suddenly contract law is challenged that has been in place long before the reforms were removed which kept banks small in the first place.  Still, that is just one notion to consider here considering that states are already challenging the constitutionality of the healthcare reform.

The bills have much to work through far beyond some of these already mentioned issues.  The regulation is not just banks.  It is non-bank financial institutions, and in some extreme cases can apply to non-bank systemic companies.

Some of Dodd’s bill issues are supervision of hedge funds and derivatives trading, authority to handle too-big-to-fail financial institutions, a new consumer financial protection agency, a change to bank and financial regulators, investor protection, and the creation of a systemic risk regulator or council. There is also the creation of a Office of National Insurance and new regulation and oversight for Credit Ratings Agencies. .  Smoothing over issues this quickly is unfortunate, because there are many issues.  Dodd’s bill also includes regulation of non-bank financial companies and a break-up of large complex companies:
Authorized to require, with a 2/3 vote, nonbank financial companies that would pose a risk to the financial stability of the US if they failed be regulated by the Federal Reserve. With this provision the next AIG would be regulated by the Federal Reserve. That names American International Group, Inc. (NYSE: AIG) specifically.
Break Up Large, Complex Companies: Able to approve, with a 2/3 vote, a Federal Reserve decision to require a large, complex company, to divest some of its holdings if it poses a grave threat to the financial stability of the United States – but only as a last resort. Does this pertain to General Electric Co. (NYSE: GE) or not?  GE has said it is prepared to deal with regulation of broader regulation in some form, and it goes without saying that GE is actually an integral part of American business.

The trading regulations which have been proposed seem aimed directly at the likes of Goldman Sachs Group Inc. (NYSE: GS).  It just depends upon what is “proprietary trading” versus trading in the normal course of business.  Do J.P. Morgan Chase & Co. (NYSE: JPM) and Bank of America Corp. (NYSE: BAC) have keen and unique insights on consumer credit and business activity trends ahead of economic numbers based upon customer behavior?

Ratings agencies might have to reevaluate the major banks if the current propositions go through without any changes. If regulation automatically undoes all the extraordinary help that has been given in 2008 and then in 2009, imagine if the new regulation suddenly made healthy banks unhealthy all over again.