A couple of hours before the Senate narrowly passed the Dodd-Frank fin-reg bill today, Sen. Chris Dodd, one of the bill’s two namesakes, spoke some common sense on the Senate floor:
We can’t legislate wisdom or passion. We can’t legislate competency.
Dodd did not allow this point of truth to inform the bill that he helped write, though.
The financial system’s failures made themselves obvious starting in 2007 in part because legislators and regulators thought that they could conjure up on command not only wisdom and competence but omniscience.
In the years leading up to the financial crisis, regulators allowed financial firms such as AIG to create derivatives that evaded the old-fashioned limits on borrowing and trading. The people in charge figured that the financial guys had figured out every angle and made these things perfectly safe.
Regulators, too, allowed banks to borrow far more than old-fashioned rules would have allowed on mortgage-related securities and other instruments rated AAA — because competent people had determined that such securities could never fail.
Finally, regulators allowed people to buy houses with no money down — even though we learned in the 1920s that it’s not a good idea to let people borrow limitlessly to speculate that the price of something will continue to rise.
The lesson to be learned here is that we need borrowing and trading rules that apply to everyone and everything for those times when bankers, regulators, and tens of millions of ordinary Americans aren’t right.
The bill offers no evidence that anyone in Congress has learned this lesson.
Instead, by next week, we will have a new Financial Stability Oversight Council (D.C.-ers are already referring to it as “ef-sock”) to determine which financial activities and investments are dangerous and which are safe.
We’ll also have new derivatives regulations that still allow some users, including big industrial companies and their banks, to escape consistent rules. All that means is it’s more likely that a decade hence, reporters will be scratching their heads about how a mild-mannered Midwestern farm-machinery company managed to bankrupt itself and the economy with trillions of dollars’ worth of bets via some previously unheard-of ”exotic” financial instrument.
Maybe then, a truly chastened Congress could start out with what Dodd said today instead of what’s in his soon-to-be law.
– Nicole Gelinas, contributing editor to the Manhattan Institute’s City Journal, is author of After the Fall: Saving Capitalism from Wall Street – and Washington.