How Do We Deal With The Banks Now?

There’s so much comment on the bankers’ bonus plans and now the still vague plan from the administration to pull back some of the banks’ profits that I’ve been hesitating to join the chorus. A lot of the commentary has been good if perhaps a bit too much knee jerk without a lot of thought.

Generally, I am going against my Libertarian/Free Market tendencies and siding with the apparently overwhelmingly large group that’s saying, “Hell yes, stick it to them.” The banks have just gone over the top this time around and probably established the case that  having amassed more power, independence and disregard for the general society they have to be brought down.

Having said that, I do want to quibble with a pair of my favorite bloggers.

Felix Salmon writes:

Might the fee at least reduce the amount of cash that the banks have available for lending? Yes. But this is a large reason for levying the tax in the first place. America’s fiscal and monetary policy during the crisis involved recapitalizing the banks in the hope and explicit expectation that they would turn around and lend that money into the real economy. They didn’t do that, so it makes sense to take some of that money back — certainly that part of it which is basically just windfall due to Fed policies.

I viewed those fiscal and monetary steps as having been taken in order to shore up depleted balance sheets. In essence a move that trumped the need to declare a few of the behemoths insolvent. While its success rendered them capable of lending to the real economy, the fact that they have not is not necessarily grounds for condemnation. As I have pointed out before, loan demand has been anemic and the credit profiles they see walking in the door today are not stellar.

If anything, I think they might deserve some credit for changing their habits and not shoveling money out the door in order to stave off political retribution. I agree with Felix in his assessment of the windfall nature of their profits but don’t agree that their lack of lending as a particularly good reason to claw back money from them.

Yves Smith has been brought back to her best by this whole episode and I’m frankly happy to see her incensed again. By all means, go back and read her posts over the past few days, not just the one I’m going to cite now:

So what should these fees be about? They should, correctly, be depicted as windfall profits taxes. The US has implemented them from time to time, most notably in the 1970s oil crisis. The idea that the extraordinary profits the banks are enjoying are the result of their efforts needs to be assaulted, head on. They are almost entirely the result of continuing government intervention.

Well, yes we did try windfall profits in the ’70s with mostly disastrous results. They introduced lots of unintended consequences, by most historical analysis did nothing in terms of actually increasing tax revenues and probably worsened the energy crisis. So, we need to be careful about what how we go about this particular exercise.

If I had my druthers, it would be that this entire episode tore the scales off of everyone’s eyes and put the Washington establishment in such a bind that it could not ignore the words of Paul Volcker. I cited these comments a couple of weeks ago and they deserve to be cited once more:

Volcker: Well, breaking them up is difficult. I would prefer to say, let’s just slice them up. I don’t want them to get heavily involved in capital market activities so my view is: Hedge funds, no. Equity funds, no. Proprietary trading, no. Trading in commodities, no. And that in itself would reduce the size of the big banks. So you get some reduction in size. Equally important, you make them more manageable and easier to deal with if they do get in trouble.

SPIEGEL: Banking should become boring again?

Volcker: Banking will never be boring. Banking is a risky business. They are going to have plenty of activity. They can do underwriting. They can do securitization. They can do a lot of lending. They can do merger and acquisition advice. They can do investment management. These are all client activities. What I don’t want them doing is piling on top of that risky capital market business. That also leads to conflicts of interest.

So maybe we need to use this opportunity to reopen the discussion about how to deal with the banks and their position in the economy long-term. Yeah, you can hit them with a tax or levy or whatever you want to call it but that only makes them bleed a little. Cut out the stuff that we shouldn’t be backstopping them on and it’s a body blow that will bring them back down to size.

Don’t let the Washington pols play us for a fool on this one. Use the anger to get some real reform.