New banking rules in the US, discussing the new Volcker Rule.

There are six big arguments against the Volcker Rule. Here’s why they’re wrong..


Today is the day we finally get to see the Volcker Rule, the new regulation that aims to prevent banks from engaging in speculative trading activity. (See here for an overview.)

Paul Volcker, former chairman of the U.S. Federal Reserve. (Bloomberg)

In all the excitement, a lot of commentators have been writing posts arguing that the Volcker Rule is either unnecessary or perhaps even counterproductive. Both Matt Levine and Tyler Cowen have summed up these cases well.

There are usually six different complaints about the Volcker Rule. By addressing them, we can lay out the case for why this rule is important and worth strengthening. I’ll take the complaints in order from least to most important:

1) “The Volcker rule isn’t a fix-all for Wall Street’s ills, and it might not even be a necessary component of reform. Why are we bothering to do this complicated thing?”

Let’s back up: The Dodd-Frank Act included a series of reforms that were designed to reinforce each other. The ultimate goal is to build a financial system that helps the real economy while also both preventing future crises and having the correct tools to deal with crises when they do happen.

In order to limit the government’s need to act as a safety net during a crisis, regulators are creating various tools that try to do three big things: First, the financial sector will have to internalize some of the costs of crises and insurance. Second, there’s more supervision of banks through things like capital requirements. Third, there are limits on the sorts of activities the banks can do.

The Volcker Rule mainly focuses on the third component — it prevents banks from engaging in “proprietary trading,” which essentially removes the parts of banks that gamble and act like hedge funds, because those parts can blow up quickly (see here for more).

It’s also a conceptual and cultural shift: Banks need to be boring again and focus on their core business lines. As Marcus Stanley of Americans for Financial Reform wrote, the Volcker Rule creates “a new definition of the dealer or market maker role that is more stable and reliable due to the removal of proprietary trading incentives.” This role will still support lending and credit but will also create a new “reliable utility role for dealer banks in the financial markets.”

That’s all just to say that there’s no one single “fix-all” reform here. All three components of financial regulation need to hang together. That involves a well-capitalized banking sector with high leverage, liquidity, and risk-adjusted capital. It also involves a sane over-the-counter derivatives market. And it requires a credible mechanism to force losses on to investors at firms that were previously “Too Big To Fail.” Those components have to work together.

2) “That’s fine, but seriously, this rule would have done nothing useful in solving the last financial crisis. It’s a solution in search of a problem.”

Perhaps. But “solving the last financial crisis” is only one of many goals here. There are other problems that the Volcker Rule does address, at least in part:

First, take resolution authority—the legal regime that’s designed to wind down very large banks and institutions that run into trouble. By preventing banks from engaging in proprietary trading, the Volcker Rule actually makes this task easier. Proprietary trading is notorious for creating quick, large losses, which makes it harder for regulators to deal with failing institutions (resolution authority typically involves nudging banks to better capital while giving regulators the tools necessary to take over failing firms—see more here).

The Volcker Rule also works in concert with other reforms, providing a backstop if those rules don’t work out. If derivatives regulations turn out to be insufficient, for instance, then the Volcker Rule still prevents large banks from carrying out huge bets on tail risk through the derivatives market.

The Volcker Rule would have also helped make the last financial crisis less extreme. “Certainly proprietary positioning played a role in the crisis,” says Caitlin Kline, a former derivatives trader who now works at the non-profit Better Markets. “Banks amassed inventories of high-yielding highly-rated products with largely overnight funding, and this street-wide carry trade helped cause a massive liquidity crisis and then solvency issues, which was a major factor. The Volcker rule will absolutely affect most front-office desk’s ability to warehouse huge positions like that.”


Plutocrats vs. Populists: Good Piece Until the End — Answers are Easy | Beat the Press

Plutocrats vs. Populists: Good Piece Until the End — Answers are Easy | Beat the Press.


Plutocrats vs. Populists: Good Piece Until the End — Answers are Easy

Sunday, 03 November 2013 08:17

Chrystia Freeland has a good piece in the NYT on the rise of plutocratic politics in the United States and elsewhere and the populist opposition it has provoked. The piece makes many interesting points but then towards the end strangely tells readers:

“Part of the problem is that no one has yet come up with a fully convincing answer to the question of how you harness the power of the technology revolution and globalization without hollowing out middle-class jobs.”

No, this is very far from true. There are very convincing answers to this question, it’s just the plutocrats block them from being put into practice.

Topping the list of course would be aggressive stimulus to bring the economy back to something resembling full employment. This not only would give tens of millions of people more income, it would make many bad jobs into decent jobs.

In a tight labor market employers will pay someone $15-$20 hours to work as a retail clerk at big box stores or fast food restaurants or as custodians. These jobs pay very low wages in the current economy because government policy acts to limit employment. If we didn’t have policy (fiscal and exchange rate policy) that reduced employment, then there would be more demand for labor and the wages in low-paid occupations would rise.

In terms of globalization, we have deliberately structured globalization so as to put downward pressure on the wages of low and middle wage earners. There is no reason, except for political power, that we could not have designed globalization to put downward pressure on the wages of the doctors and other highly paid professionals. This was a policy choice, it has nothing to do with the inherent dynamics of globalization.

Also, the high pay on Wall Street would be brought down to earth with the end of too big to fail subsidies. This policy reversal coupled with the imposition of financial speculation taxes or other taxes that would bring taxation in the financial industry in line with taxation in other industries (a policy even advocated by the IMF), would substantially reduce the take of Wall Street plutocrats.

And replacing government granted patent monopolies in the drug and high tech sectors with more efficient mechanisms of supporting innovation would also go a long way towards both reducing high end incomes and making essential medicines more affordable. These and other issues are discussed in The End of Loser Liberalism: Making Markets Progress, among other places.

Anyhow, it is bizarre that Freeland would end her piece by asserting the problem is a lack of answers. As she effectively documents, the plutocrats have managed to seize control over politics in the United States and elsewhere. There is no lack of good answers, the problem is that the plutocrats have power to stop them from being put into practice.

Rabobank agrees to pay $1bn Libor fine –

Rabobank agrees to pay $1bn Libor fine –

Rabobank agreed to pay $1bn to US, UK and Dutch authorities and admitted that dozens of employees manipulated Libor and other key benchmark interest rates over six years in a significant settlement that claimed the Dutch lender’s chief executive.

On Tuesday, Rabobank said that 30 employees were involved in “inappropriate conduct”, and that Piet Moerland, its chief executive, would resign with “immediate effect”. Rinus Minderhoud, member of the bank’s supervisory board, would replace him on an interim basis, it said.

The settlement marks the second largest fine against a bank for manipulating Libor behind the $1.5bn UBS paid to authorities last year. Rabobank is the fourth lender to settle Libor investigations, which has ensnared nearly a dozen banks and interdealer brokers.

Rabobank admitted wrongdoing as part of a deferred-prosecution agreement with the US Department of Justice’s criminal division and agreed to co-operate in the ongoing criminal investigation into the bank’s employees.

“For years, employees at Rabobank, often working with traders at other banks around the globe, illegally manipulated four different interest rates – Euribor and Libor for US dollar, yen, and pound sterling – in the hopes of fraudulently moving the market to generate profits for their traders at the expense of the bank’s counterparties,” said Mythili Raman, the acting chief of the DoJ’s criminal division.

“We are very focused on misconduct by individuals at Rabobank and that is a continuing focus of our investigation,” Ms Raman said. Individuals who worked at other banks embroiled in the Libor probe also remain under investigation, she said.

The Rabobank employees, including a senior manager, worked in offices in Tokyo, London, New York and Utrecht.

Paul Robson, a former money-market manager who left the bank in 2008, is one of those individuals under investigation, people familiar with the matter said. His lawyer has previously declined to comment noting that the DoJ has not made any charging decisions.

The misconduct was so “entrenched”, the Commodity Futures Trading Commission said, that new employees were trained in executing the unlawful practices. While most of the time Rabobank submitters manipulated rates to help their own positions, at times they helped other banks, including UBS, attempt to manipulate rates.

Some of the employees wore two hats, both submitting rates to the panel while also trading their own positions – in what regulators called an “embedded” conflict of interest that resulted in them placing rates at levels to benefit their trades and those of colleagues.

In August 2007, Rabobank’s senior yen trader asked the submitter where he was setting different rates.

“You tell me what you want mate,” the yen trader-submitter replied, according to court filings.

The senior yen trader sent him a list of rates for each of his positions.

“If you want me to give me them each day I’ll input whatever you want mate,” the trader-submitter said.

On another occasion in 2006 one money-markets manager said, “I am fast turning into your Libor bitch!!!” in response to a request from a dollar-derivatives trader at the Dutch bank to raise the rates for three-month dollar Libor submissions.

The misconduct crosses all borders. In the US dollar market, traders cowed at a senior trader nicknamed “Ambassador” and made his requests above all others.

At times, Rabobank submitters moved the rates knowing they were incorrect. In September 2007 after fielding a request from a trader to move the yen Libor rate higher, the Rabobank submitter said he would probably get a few phone calls complaining. “Don’t worry mate – there’s bigger crooks in the market than us guys!” he told the trader. That day the submitter moved the rate higher by 0.90, an increase of seven basis points from its previous submissions.

On another occasion a yen trader suggested to another submitter to “keep Libors [among] one of the lowest four banks is the good idea because it isn’t obvious so that [people] wouldn’t notice. If it is too obvious, [people] could start looking at us manipulating Libors.”

On some occasions, traders at other banks set rates to help Rabobank traders. In May 2006, a yen submitter at Rabobank asked a trader at another bank for a “silly low” fix on behalf of a colleague in Singapore. The trader at the other bank replied, “Tell him I’ll do [the] same if he gets me a job!!!!”

Authorities credited Rabobank with its significant co-operation. Rabobank spent almost four years trawling through millions of emails, chats and in-boxes. It wasn’t until November 2012 that management found the first incriminating communications between traders and submitters.

Rabobank stressed that no top managers were aware of the manipulation efforts. However, the lender said Mr Moerland, as well as his three colleagues on the executive board, voluntarily forfeited €2m in bonuses for 2010 and 2011. The bank sacked five former traders and submitters and a sixth one is still at risk of being dismissed. About a dozen others had been disciplined by taking management responsibility from them, through formal warnings and by reclaiming a total of €4.2m in bonuses.

“The conduct of these individuals, and the language of some of these individuals’ communications, has shocked me,” said Mr Moerland.

How Do We Force Cash Hoarders to Invest? Tax Them

How Do We Force Cash Hoarders to Invest? Tax Them.


How Do We Force Cash Hoarders to Invest? Tax Them

Wednesday, 26 June 2013 09:43 By Alejandro Reuss, Dollars and Sense | Op-Ed


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Tax words(Image: Tax words via Shutterstock)The supply-side economists of the 1980s famously emphasized how government policies (especially taxes) affect incentives. They argued that taxes act as disincentives to work, saving, and investment. Conservative think tanks like the Heritage Foundation repeat this, like a mantra, to the present day. The argument is basically that tax policy, by discouraging desirable economic activities, misaligns private incentives from the common good. In practice, of course, it has been used mainly to justify tax cuts for corporations and high-income individuals.

Today, it’s clear that incentives are badly misaligned, but not because of excessive taxation. Corporations are making record profits while investment remains at historic lows. Nonfinancial corporations are stockpiling enormous sums of cash—totaling almost $1.5 trillion at the end of last year, according to Moody’s. Apple alone has nearly $150 billion in cash reserves.

The investment shortfall is at the core of the sluggish “recovery” and chronically high unemployment.

There’s an obvious response—a tax on this idle cash that would light a fire under corporations to spend it now. If focused on expanded production and new investment, such spending would help close the still-enormous gap between the economy’s current production and its potential. And it could help boost employment, which has hardly grown (relative to the working-age population) during our current sluggish recovery.

Mihir Desai, a professor at Harvard Business School, proposed a tax on “excess cash reserves” in a 2010 Washington Post op-ed and alluded to it again in congressional testimony the following year. Recently, the Financial Times’ Martin Wolf called for a “punitive tax on retained earnings” to spur investment. (He wrote this about Japan, but has suggested this policy more generally.) Overall, however, this idea has, so far, not made much of an impact on public debates.

Desai views a cash-reserves tax as a solution to a “coordination problem.” This means a situation in which individuals act rationally (from their own vantage point), yet their decisions add up to an “irrational” (undesirable) overall outcome. Low investment in a depressed economy is a classic example: No single company can affect overall demand in the U.S. economy very much. As long as demand is weak, then, it makes no sense for any one company to expand its current production or future capacity. Therefore, low investment creates a vicious circle of low demand, low output, and high unemployment. A cash-reserves tax would increase the cost of not investing. By spurring new spending, it would create the demand needed to justify the new investment.

Despite record profits and rampant corporate tax avoidance, public debate has focused largely on yet more tax cuts for big corporations. In part, this is because big business speaks with a giant megaphone. In recent congressional testimony, Apple CEO Tim Cook blamed U.S. corporate taxes for Apple’s huge offshore cash hoards. Economists, commentators, and politicians have echoed calls for a repatriation “tax holiday.” This shows how thoroughly the bias in favor of corporate tax cuts has permeated the political mainstream.

To work right, a cash-reserves tax should come along with other changes to the corporate tax code. By itself, the tax would not necessarily distinguish between spending on new investment and cash disbursements to shareholders. From the standpoint of total demand, however, inducing companies to “disgorge” profits to shareholders—in the form or dividends or stock buybacks—would probably not help much. Corporate stock is overwhelmingly owned by wealthy individuals, who would surely save a large portion of the windfall. It would make sense, then, to impose a cash-disbursements tax high enough to prevent corporate cash stockpiles from just going into shareholders’ bank accounts.

Meanwhile, the loophole in the tax code that allows corporations to exploit offshore tax havens also need to be addressed. The answer, though, is not to suspend the “repatriation” tax, but to close the loophole and tax corporate profits on a global basis.

The cash-reserves tax, if done right, would be an elegantly double-edged policy. If corporations still won’t spend their cash hoards, the tax would boost government revenue—which could be used to address human needs, build infrastructure, etc. (If corporations won’t invest, the government will.) On the other hand, the companies could avoid the tax by spending the idle cash, increasing output and employment.

For years, we’ve been told that rising corporate profits and growing inequality are necessary incentives for the “job creators” to do their magic. Maybe it’s time to abandon the sanctity of corporate profits and tell the corporations to move it—or lose it.

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