Friday, July 22, 2011

Dodd-Frank's First Birthday

. Friday, July 22, 2011

Mike "Rortybomb" Konczal interviewed Economics of Contempt to discuss Dodd-Frank one year on. There's some good stuff in there. Most relevant for readers of this blog are these parts:

The big financial firms have been coordinating [lobbying efforts] well with each other on some issues and throwing each other under the bus on other issues. Due to the sheer range of issues being addressed in the Dodd-Frank rulemaking process, this was inevitable. Big foreign banks have different incentives than big US banks on some issues (e.g., extraterritoriality), but they’re aligned on other issues (e.g., clearinghouse ownership). To be honest, I’ve seen more coordination between the major banks than I expected, but I think that’s primarily because the trade associations (SIFMA, Financial Services Roundtable, ISDA, etc.) have been so eager to get paid and stay involved.

The fact that firms in the same sector would have different preferences (at least in some areas) is an area that political scientists haven't spent enough time on. I presented an early draft of a paper at ISA this spring that tried to get at some of that, but I haven't gotten very far just yet. The role of the trade associations in actively seeking to coordinate behavior would not surprise those who study institutions and institutional behavior.

As you say, the “Dodd-Frank didn’t go far enough” crowd tends to think that one of the main reasons why the major banks should be broken up is that they have a dangerous amount of political power. I think that the big banks’ political power, especially after the crisis, is massively overrated by pundits, and I think the interchange vote proved this. The big banks spared absolutely no expense in trying to roll back the Durbin Amendment (i.e., the interchange rules). The big banks mounted an all-out, eight-month lobbying campaign against the Durbin Amendment, and they even had the powerful community banks on their side. But they still lost the vote.

It's easy to come to the conclusion that Goldman Sachs is a vampire squid (or is it evil octopus?) whose tentacles rules the world. And the banks do have more influence in D.C. than most, and there are a whole host of programs and policies that benefit them. But that influence still has limits. In the past year or so, we've seen the enaction of Dodd-Frank, which is a significant re-regulation of the domestic financial system, and the agreement of the new Basel accord.

One of the problems with lamenting the “financialization” of the US economy is that no one ever explains what they would consider a successful de-financialization. Finance is a global industry and US financial institutions provide significant financial services to foreign investors. It’s also fair to say that the US has a comparative advantage in financial services. So given that comparative advantage, and the global nature of the financial industry, where is the line between a healthy US financial industry and the unhealthy “financialization” of the US economy?

This is true. The US does have a comparative advantage in finance (and other high-end services), and specializing in your comparative advantage is what every econ textbook says to do. This can lead to other problems -- including shifting political influence from labor to capital, increasing income inequality -- but any call for a definancialization of the US economy must include some argument about what can replace it and still be successful in a global marketplace. In other words, it has to make the case that the US has some other comparative advantage that it is not exploiting. And I don't know what that would be.

In another interview, Rob Johnson is less sanguine:

For Wall Street, [the year since Dodd-Frank passage] has gone swimmingly. They have the process tied in knots and at the same time can complain about the muddle to further weaken government. For the rest of us, a weak bill is getting diminished further. It is the fate of money/lobby-driven political machinations to make everyone disenchanted with government. ...

It will be compromised and weakened regardless of whether Democrats or Republicans hold power. ...

It will have been a reflection of how powerful the financial sector was. Finance is too strong in politics, bailouts, and corporate governance imperatives. They are like a tax that descends upon society, collected for the bonus pool and used to defray the losses from past carelessness. The social contract between the financial sector and society is a pendulum rocked very far to one side. This tepid set of reforms in the aftermath of a colossal crisis will underscore how far the power of finance dominates our political economy. Inside Job indeed!


Dodd-Frank's First Birthday
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