What’s $2B amongst Friends?

Before jumping to discuss the $2B loss by JPMC last week, let’s look at a structural change in banking that contributed to the financial crisis that started in 2008. Many analysts believe that the late-twentieth-century deregulation of the banking industry (repeal of Glass-Steagall) opened a Pandora’s box of new opportunities for mergers and growth that led superbanks away from their core businesses of deposits and lending, and into the murky realm of dubious financial products and risky investments. Glass Steagall was put in place after the 1929 Crash. It forced investment banks (risky businesses) and commercial banks (providing deposit and loan services to consumers and businesses) to be separate companies. Repealing this opened up the door to the current financial situation we see ourselves in today. Our “trusted banks”, in the name of investment banking like profits, are juggling both businesses. As you can see from the $2B loss by JPMC, that juggling didn’t work very well.

 

 

JPMC was the super bank that faired the best in the 2008 financial crisis. CEO, Jamie Dimon steered the bank toward avoiding unnecessary risk with the sub-prime debt derivatives unlike many other US superbank’s risker policies.

 

Yet more recently Jamie and JPMC’s leadership has been rushing for faster growth. According to Bloomberg – “This is Jamie’s new vision for the company…Dimon pushed to invest deposits the bank hasn’t loaned, to seek profit by speculating on higher-yielding assets such as credit derivatives, according to five former executives. Profits surged over the next five years as assets quadrupled to $356 billion”.

 

The bank can handle the loss of $2B (profits last year were $19 billion). But the bigger issue is public trust and government policies.  Many American’s have lost trust in the large banks due to their role and response to the financial crisis of 2008. This recent JPMC loss reinforces that lack of trust and tarnishes the strong reputation of the one large bank in the US that was thought of by some as conservative and responsible.

 

And the government response to the high risk behavior of banks and it’s impact has been the Dodd-Frank financial reform law. It was passed in the wake of the financial crisis to reduce risk from these types of high-risk activities.  But the new regulations are not yet in place, and the financial industry has been lobbying tirelessly to water them down.

 

After the recent JPMC $2B loss announcement, Sen. Carl Levin (D-Mich.) told the press that the bank’s bad bets underscores the importance of the Dodd-Frank Volcker rule. The Volcker Rule is a specific section of the Dodd-Frank Act originally proposed by American economist and former United States Federal Chairman Paul Volcker that restricts United States banks from making certain kinds of risky investments that do not benefit their customers.

 

It is amazing how so many federal regulations that look so good on paper are rendered quickly obsolete by the realities of a quickly evolving banking marketplace and the endless ingenuity of banking professionals.  The current tension between those who want government to let the financial services industry “police itself” and those who favor strong federal oversight is nothing new; it has been going on since our founding fathers wore powdered wigs.

 

Yet right now I worry a lot about excessive lobbying. As the government works to make banking safer and better at serving the needs of the average American or small business, how can we be sure the large dollars going into lobbying aren’t watering down the results? According to the New York Times, Wall Street firms spent more than $100 million between January and August of 2011 on lobbying related to Dodd-Frank. Many experts claim that as a result the Volcker rule is so watered down it bears little resemblance to the former Federal Reserve Chairman Paul Volcker’s original proposal.

 

Who is watching out for our interests? Hard to believe it is our elected officials since they depend heavily on campaign contributions from the banks.  OpenSecrets.org, Center for Responsible Politics reports the donations of JPMC at  $24,336,481, and Citigroup at $29,433,390 (from 1989-2012) which is pretty evenly split between Democrats and Republican candidates.  (http://www.opensecrets.org/orgs/list.php?order=A )

Banks are in crisis for many reasons – and I am optimistic that we can develop solutions to make banking more responsible and better at serving everyday American needs. What I am not optimistic about is our ability to implement those solutions in the current political and business environment.

 

We’ve asked how consumers feel about big banks, and the answer is that they don’t feel very good about them. For the banks that hold their life savings, mortgages, and checking accounts, their own customers express a high level of mistrust and dissatisfaction. So while the bank is focused on growing profits and personal bonuses through the risky side of the business (investment banking), the everyday American is struggling to get their basic needs met. Are the lobbyist in Washington pushing for laws that help them give consumers better service? or small businesses more help to grow? I don’t think so. And that is a bigger crisis than JPMC’s recent $2B loss. We are insuring and supporting these banks to provide key services to businesses and consumers – we need to make sure they keep their end of the bargin.