Analysis: Obama's Plan for a Financial Overhaul

by Odysseas Papadimitriou on March 28, 2009

OverhaulAccording to the Associated Press the Obama administration has released its new proposal for dealing with the economy.  In response, we would first like to recognize the effort made by Treasury Secretary Timothy Geithner for realizing the need for an overhaul.   We feel that 50% of solving a problem is recognizing its scope.  Here at Wallet Blog, we’d like to throw our own advice into the mix, point-by-point, as outlined by Martin Crutsinger in his article.  The administrations proposals are:

  • “Imposing tougher standards on financial institutions that are judged to be so big that their failure would threaten the entire system.” AND “Creating a regulator to monitor the biggest institutions. Geithner did not say which agency should wield such authority, but the administration is expected to favor the Federal Reserve.”

We agree to the principal of tougher standards for larger institutions, but we should be weary of allowing any financial institution to grow to such a size that they would threaten the entire system by their failure.  Institutions of this size are unmanageable (Citibank and Bank of America are great examples in proving the point).  They are unmanageable for the executives and definetely unmanageable for the regulators. Their value to the market place is questionable given how difficult they are to run and is disproportionate to the damage they can cause through failure, as we all learned recently. So what are the market benefits of allowing an institution to become so big that if the regulators do not do their job it can bring down the entire economy?

  • “Extending federal regulation for the first time to all trading in financial derivatives - exotic instruments such as credit default swaps that are blamed for much of the economic carnage.”

This is much needed regulation.  However, we should not ignore that the Credit Default Swap scandal began because congress legalized something that was illegal for 91 years. Without an overhaul to the system of congressional piggybacking, we are treating the immediate problem but are not stopping other similar bad legislation from being passed in the future.

  • “Requiring larger hedge funds and other private pools of capital, including private equity and venture capital funds, to register with the Securities and Exchange Commission (SEC).”

We simply do not feel that this is useful.  The economic failures America has experienced thus far have had nothing to do with instititions not being registered with the SEC.  The problem is that a market (Credit Default Swaps) was allowed to continue without any regulation at all.  If an improved system is to work then all financial instruments must be traded in a regulated manner and through official exchanges.

  • “Empowering the government to take over major nonbank financial firms such as insurers and hedge funds if deemed necessary.”

Again, we are in agreement with Mr. Geithner on this point.  Had the government been allowed to take over AIG it would have cost tax payers much less money. 

Finally, we recommend one more point which has yet to be mentioned.  If an overhaul of this scope is to succeed then it must alter as well the mechanisms of corporate governance that have thus far allowed corporate greed and incompetence to flourish.

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