2017 has been a year of great speculation. In terms of politics and economy, all of us have been following discourses in an unprecedented manner. One can’t blame the people either; the very nature of the discourse has been in a manner which will leave the people divided and polarized. Amidst the mud that is being thrown at subjects such as migration, border security etc., there exists certain policies and topics which should catch the attention of the layman. This article, attempts to bring to light one such statement made by the president of the United States.
The president went on to say that he shall be repealing the Dodd-Frank regulations. At first glance, it seems like a pretty innocuous statement, but the ramifications of the same can and will be extraordinary. A little bit of background here to truly understand the Dodd–Frank regulations and their mandated purpose. Rewind to 2009 when the US was reeling under a major economic crisis. Ticker tapes read straight zeros, jobs were lost, revenues plummeted, and people lost all faith in the market economy which had always been attributed to be a resounding success. To put in simple terms, the American dream was shattered. America was falling down an abyss and was doing its best to drag everyone else along with it. One may ask, why did this happen? And the answers to the same are many, but at the heart of it was unfettered power, influence and insatiable greed which made the economy slide down.
Wall street, the very definition of American ingenuity and hustle, has for a very long time dictated a plethora of terms and trends in the economy. Their job in one word is to hustle shares and stocks. This they did with such vigour and efficiency, that an activity that was pursued by a few, later became the favourite leisurely pursuit of the American population.
Back in the 1980s, a shrewd broker from Salamon Brothers (the erstwhile trading major) came up with mortgage backed securities. He noticed that the American economy functioned on debts, and many lenders and borrowers were looking for newer avenues to make money. To exploit these circumstances, he came up with a plan to use the loans that an everyday man would borrow as a gambit, add some incentives to the same, and then package the same into attractive products for the consumer to buy. The USP of the mortgage backed security was and is very simple: if there is a loan that is under performing and the lender wants to get rid of the same, then under such circumstances, he can sell it to another person. The above explanation of mortgage backed securities is not very elaborate, but it is best to leave it that for the moment.
Around the time that Salomon brothers began trading in mortgages, the per capita income of the average American rose. A considerable section of the working class had a considerable amount of extra cash. Naturally they wanted to multiply their wealth and stocks seemed like the best way to do that. The American working class began to brag about their supposed victories in the stock market during coffee breaks. The hitherto passive listener would reflect on the same, call up the nearest stock broking firm, and decide on whatever it was that he wanted to pick from the opportunities afforded by the firm, without realising that the only real winner in this game of dice was the guy who gave you the dice: the stock trader. This charade of sorts went on for a couple of years and a large number of firms went overboard by creating risky products, overselling subpar products and generally not caring about the interests of the consumer. This was reflected in the sentiments expressed by a former Goldman Sachs employee who said that the industry moved away from servicing the clients to a game where the sole motivation of the stock trader was to get the highest bonus. In hindsight, this was not the biggest problem: real issues began cropping up when the individual stock trader began placing bets against his own clients’ bad investments. In one word, he played the game against his own teammates.
This was around the time that the investment banks began engaging in newer avenues and their total value was now being expressed in terms of the fractions of the US GDP. These institutions became money making machines. It was almost magical for the employees because they knew that the tangible work that they were doing was no way to the extent of bonuses that they were pulling in. It was somewhere around this time, that the problem that these banks posed caught the attention of economists and policy makers.
This is what Bernanke termed as ‘too big to fail’, meaning a firm or an establishment whose size, complexity, interconnect-ness, and critical functions are such that should the firm go down, the rest of the financial system and the economy would go down with it. This is exactly what happened in 2009, when the economy crashed, various economists identified certain core issues including a widespread acceptance by analysts that the banks were given a hand too free and they over played it to disastrous levels. With too much spending power and an insatiable greed to make more money, the employees began using methods which were not illegal, literally, but which bent the rules just enough while crossing their fingers that the federal government didn’t throw them behind bars. <p><br>
Thus, in 2009, when the crisis was ripping the country into pieces, the policy makers felt that it was time to place some control over these banking systems, and decided upon a policy framework to ensure the same. This exactly what the Dodd-Frank regulations sought to moderate. By placing certain restrictions on the spending capabilities, asset holdings and the total amount of portfolio investment of the shares, the regulations seeks to limit the asset creating ability of the banks, in turn limiting the possible liabilities of the banks. The Dodd Frank regulation was the Federal government’s answer to the Behemoth that these investment banks had become. The problem that was identified was that there were too many pies in which the banks had stuck their finger in. If any one of these pies burnt fingers, the loss would be substantial in nature and if these establishments suffered losses, there would be a ripple effect in the economy. And these ripples will be costly, my case in point, the 2009, crash’s far reaching effects are being felt to this day. This situation at Wall Street had been placated to an extent, with the passing of the regulations, despite heavy lobbying by banking institutions. Some members of the financial community have termed this as a hasty measure, but it is important to remember that the times were desperate and quick measures were required to be put in place to ensure that a similar situation did not arise in the near future.
The year is 2017, and it seems that the fed has not learnt any lessons. The administration of the New Government in the US, seems to have turned a blind eye to the 2009 crash and the subsequent lessons learnt from the same. The Administration has filled its key policy making positions with people who have had certain corporate baggage with them, and it will be interesting to see how the same will play out.
With the President announcing that the Dodd-Frank regulations will be completely repealed, the question that arises here is whether he truly understands and fathoms the repercussions that such a move might have.