SOURCE: AP/Damian Dovarganes

A single-family home for sale in Los Angeles.

The Center for American Progress, Center for Responsible Lending, Consumer Federation of America, and the National Council of La Raza recently submitted comments to the Consumer Financial Protection Bureau on the Ability to Repay Standards under the Truth in Lending Act (Regulation Z). These comments respond to the bureau’s proposed amendments to the Ability to Repay Standards, which it issued alongside the qualified mortgage rule in January. In particular, the comments addressed two concerns: defining mortgage-lending compensation in a way that protects consumers; and preserving lending programs that offer a gateway to safe and affordable credit. Read the full comment letter here.

Alongside its final qualified mortgage rule—which aims to insure that mortgage originators issue quality loans, and certify that borrowers have the ability to repay the loans they receive—the Consumer Financial Protection Bureau solicited comments on questions that were not resolved by the rule. This document, known as the concurrent proposal, addresses two issues that we believe are critical to the future of safe, sustainable, and affordable access to mortgage credit:

• First, it considers how to define compensation for the purpose of calculating the points and fees cap contained in the bureau’s final qualified mortgage rule. (Under this rule, borrowers who receive mortgages whose points and fees exceed 3 percent of the price of the loan will receive extra legal rights. Therefore, lenders have an incentive to originate mortgages with lower points and fees.)
• Second, it proposes a series of exemptions for specialized mortgage-lending programs and financial institutions that play an important role in ensuring broad access to safe and affordable credit.

Our concerns about defining mortgage-lending compensation arise from the danger of yield spread premiums, or YSPs. A yield spread premium is a method of payment in which the consumer pays a mortgage broker’s fee over the life of the mortgage through an increased interest rate, presumably instead of paying fees to the broker in cash upfront. Yield spread premiums were often abused, and as a result borrowers ended up with higher-cost mortgages. The use of yield spread premiums to push borrowers into higher-cost mortgages was a key part of the subprime crisis that stripped wealth from many lower-income borrowers and borrowers of color.

Because transactions using yield spread premiums are more complex and, therefore, less transparent, borrowers found themselves in loans where they essentially paid the broker twice—first through upfront fees and then through an increased interest rate that provided the funds for the lender to make a backend payment to the broker. Providing vulnerable borrowers more expensive loans may have resulted in greater returns for mortgage brokers, but it left many homeowners with mortgages designed for failure.

Currently, the Consumer Financial Protection Bureau is at risk of defining mortgage-lending compensation in a way that would encourage lenders to make opaque transactions that double-charge consumers. There are steps, however, outlined in the full comment letter, which the bureau can take to instead protect consumers.

Additionally, we strongly support the Consumer Financial Protection Bureau’s proposed exemptions for community-focused lenders, targeting rescue and refinance programs, and small entities as they will provide access to credit for borrowers without unnecessarily adding risk to the system. Because a full exemption from the ability-to-repay standards for some community lenders provides borrowers with very little recourse, however, we support loan limits for these entities as described in detail in the official comment letter.

SOURCE: AP/Mark Lennihan

Signs for American Express, MasterCard, and Visa credit cards are shown on a New York store's door in 2007.

The Federal Deposit Insurance Corporation, which insures Americans’ bank deposits, recently requested comments on its 2011 “National Survey of Unbanked and Underbanked Households.” The survey, which was first launched in 2009 and administered again in 2011, asks Americans about their financial habits as part of the U.S. Census Bureau’s Current Population Survey. Questions include whether households have a checking or savings account and whether they use certain types of financial services outside of the mainstream banking system such as check cashers and payday loans. Households without a checking or savings account are considered to be unbanked.

In response to the Federal Deposit Insurance Corporation’s request, the Center for American Progress submitted comments on December 18. Below is a summary of those comments.

Prior to the “National Survey of Unbanked and Underbanked Households,” no public data on the unbanked—or those without a checking or savings account—was available on a national scale. The Center for American Progress applauds the Federal Deposit Insurance Corporation’s effort to deliver a survey that thoroughly captures the size and scope of the unbanked population, including estimates of the unbanked by state and metropolitan area.

CAP believes the survey is relevant to the Federal Deposit Insurance Corporation’s safety and soundness mandate, as well as its consumer-protection role. The survey allows the corporation to better understand consumer demands that traditional banks do not currently meet, and its findings may help banks to develop new products intended for unbanked or underbanked consumers. It also enables the corporation to measure the growth of emerging transaction products for the unbanked and underbanked—such as prepaid cards—that may require new forms of deposit insurance, like “pass-through” insurance. Millions of prepaid cards are issued by nonbanks, which often—but not always—include this insurance to help protect consumers’ “loads,” or deposits, just as a bank would.

Because the survey results are made public at the state and metropolitan levels, they also allow state and local policy leaders to identify areas where the unbanked most need to be addressed. Leaders can do so by promoting, for example, BankOn initiatives. These are community partnerships in dozens of cities that encourage unbanked and underserved populations to open safe bank accounts instead of using high-cost alternatives like check cashers.

We appreciate the significant effort that the Federal Deposit Insurance Corporation has undertaken in developing a comprehensive national survey. At the same time, given the rapid evolution of both bank account and prepaid card products, we believe that this survey must also evolve to reflect a changing financial marketplace. As noted in a column published in American Banker on November 30, 2012, CAP questions one of the 2011 survey’s key findings: that the number of unbanked has increased since 2009. The growth in prepaid card usage among the unbanked and especially among the formerly banked suggests that account-like prepaid debit cards are being substituted for traditional bank accounts and that the distinction between cards and accounts is rapidly declining.

The Federal Deposit Insurance Corporation should examine prepaid card usage more closely in its 2013 survey in order to address this narrowing distinction. Specifically, we recommend the following two improvements to the 2013 survey and report:

1. The Federal Deposit Insurance Corporation should add additional questions regarding the relationship between unbanked and underbanked households and their use of prepaid cards. Given that prepaid cards are frequently marketed as “bank account alternatives,” it would be useful to measure the degree to which prepaid cards are serving as substitutes to bank accounts. These questions should include how consumers decide whether bank accounts or prepaid cards are more attractive, how they use prepaid cards compared to bank accounts, and what kinds of fees and features their prepaid cards and bank accounts have.

2. The Federal Deposit Insurance Corporation should calculate an alternative measure of the percentage of the unbanked that regularly use prepaid cards. As we suggested in American Banker, consumers who report not having a checking account but who did use a prepaid or payroll card within the past year should be considered “banked.” If the corporation does not wish to alter the established definition of “unbanked,” it should at least include this revised count as a new alternative measure. One way to consider this measure is that households without an account or any prepaid cards could be labeled “cash-only” transactors.

By better capturing consumers’ growing use of prepaid cards in the 2013 survey, the Federal Deposit Insurance Corporation will be able to focus more clearly on emerging transaction products and policies for the unbanked.

Joe Valenti is the Director of Asset Building at the Center for American Progress.

SOURCE: AP/David Zalubowski

A "for sale" sign stands in front of a single-family home in south-central Denver.

In August 2012 the Board of Governors of the Federal Reserve, the Federal Deposit Insurance Corporation, and the Office of the Comptroller of the Currency issued their notice of proposed rulemaking on Regulatory Capital Rules to implement the Basel III global regulatory standard. In response, the CAP Housing team, Mortgage Finance Working Group, and several other leading housing and consumer advocacy organizations submitted comments for the public record. Below is a summary of those comments. The official comment letter can be downloaded here.

Adequate capitalization—ensuring financial institutions have enough capital to absorb potential losses—is a critical component of any sustainable financial system. Strengthening institutional capital in our banking system can provide an important foundation for a stronger, more stable economy.

It is essential, however, that higher capital levels support a housing finance system that distinguishes between the reckless and overleveraged activities of the financial industry that caused the housing crisis and the legitimate pursuit of business that promotes long-term homeownership and affordable rental opportunities. In other words, capital rules should promote safety and soundness by encouraging lenders to provide affordable and sustainable mortgage products to creditworthy borrowers, but not push categories of borrowers out of the market entirely or discourage sustainable loan modifications to keep troubled borrowers in their homes.

We are particularly concerned about discouraging banks from originating mortgages with down payments that are smaller than 20 percent. The size of a down payment can create a significant barrier to obtaining mortgage credit, and there is ample evidence that lenders can extend mortgage credit to low-wealth households in a safe and sound manner. To avoid locking large portions of households out of homeownership, capital rules should consider providing capital relief when mortgage insurance or other credit enhancements are present.

Additionally, because the capital rules should seek to foster the broad availability of safe and sound mortgages for single-family and affordable multifamily properties, regulators should be mindful of the potential to drive mortgage lending out of banks, especially smaller institutions.

With this in mind, we submit the following recommendations for consideration:

• Consider properly funded/capitalized/structured mortgage insurance and other credit enhancements when assigning risk-based weights based on loan-to-value ratios
• Focus risk categories on the sustainability of the loan product
• Ensure that risk-weighting rules do not discourage lenders and investors from modifying troubled mortgages to reduce risk of default or re-default
• Distinguish between different types of second liens when setting risk weights
• Expand the equity rules on multifamily loans to avoid disadvantaging loans for affordable housing
• Exempt small banks, community lenders, and Community Development Financial Institutions from changing their mortgage-related capital standards or at least do not require risk weights to be adjusted for existing mortgages

Download the full comment letter here (pdf)

SOURCE: AP/Don Ryan

A "sale pending" sign is shown in front of a foreclosed house in Tigard, Oregon.

In September 2012 the Consumer Financial Protection Bureau, or CFPB, issued their notice of proposed rulemaking on mortgage servicing standards under the Real Estate Settlement Procedures Act, or RESPA. In response, the Center for American Progress submitted comments for the public record. (The Center for American Progress also signed onto a complementary comment with other groups, which can be found here). Below is a summary of those comments. The official comment letter can be downloaded here.

Providing comprehensive servicing standards for all mortgage servicers is one of the Consumer Financial Protection Bureau’s most important functions. While bad lending practices and risky products triggered the housing crisis, the abject failure of the mortgage-servicing industry to mitigate losses or to follow the law when pursuing foreclosures greatly exacerbated the damage done to homeowners, communities, the housing market, and the larger economy.

This comment letter focuses on the three overarching points that could strengthen the bureau’s proposed mortgage-servicing standards:

• The key to successful loss mitigation is helping the consumer before the foreclosure starts and before any “dual track” begins. (Dual tracking, which refers to a servicer’s attempt to conduct loss mitigation while at the same time taking steps toward foreclosure, is a widely criticized practice that confuses homeowners and reduces the likelihood of successfully avoiding foreclosure). For this reason, the Consumer Financial Protection Bureau should make sure there is a sufficient period of time for homeowners to seek help before the foreclosure process begins and that servicers review files before initiating the foreclosure to ensure the homeowner had a fair opportunity to obtain a foreclosure alternative.
• The best way to improve servicing standards is to make the process as similar as possible across all servicers and books of business.
• When a servicer fails to review a loan for foreclosure alternatives, the homeowner should have the ability to hold the servicer accountable.

Require loss mitigation before the foreclosure process begins

Helping consumers prior to the start of the foreclosure process—and even prior to default, when default is reasonably foreseeable—saves money for investors and homeowners alike and is far more likely to result in an affordable, sustainable modification or other alternative to foreclosure. For early intervention to work, however, homeowners must have an opportunity to be reviewed for loss mitigation before the servicer initiates foreclosure proceedings.

A useful model is provided by the Servicing Alignment Initiative, or SAI—an effort by the Federal Housing Finance Agency that aligned and improved the servicing practices of Fannie Mae and Freddie Mac. The initiative provides a standard 120-day “pre-foreclosure” period after delinquency, before the servicer initiates a foreclosure. During this “pre-foreclosure” period, servicers reach out to delinquent homeowners to provide every opportunity to obtain assistance. The initiative also requires a mandatory review of each file before initiating foreclosure to ensure the servicer adequately reached out to the borrower and appropriately reviewed any application for assistance. This review helps to avoid unnecessary foreclosures, an extremely important goal for this Consumer Financial Protection Bureau rulemaking.

Align the servicing process across all servicers and all books of business

No matter how good any servicing standards look on paper, they will only work if mortgage servicers and the general public understand what the standards are, how they work, and in what situations they apply. After the housing bubble burst, many homeowners lost their homes unnecessarily because they did not understand what rules governed the servicing of their mortgage and because their servicers provided them with incorrect information—in many cases, through ignorance or confusion rather than malfeasance. The best way to ensure broad understanding of the rules is to try to have as much uniformity as possible across the industry.

We acknowledge that the Consumer Financial Protection Bureau is not likely to impose extremely detailed standards across the board for all servicers and investors, and such detailed standards would not necessarily be workable. But the bureau can certainly adopt the same basic structure that already applies to the government-sponsored enterprises and the parties to the National Mortgage Settlement. (The National Mortgage Settlement is a legal settlement between 49 states, the federal government, and the country’s five largest mortgage servicers. In the settlement, these servicers agreed to strong, uniform servicing standards.)

Enable homeowners to hold servicers accountable for their failure to review a loan for foreclosure alternatives

Given the importance of loss mitigation and uniform processes surrounding foreclosure, it is of the utmost importance that homeowners have the ability to hold servicers accountable if servicers do not follow loss-mitigation requirements. To provide this accountability, a failure to review the loan for foreclosure alternatives needs to be defined as an “error” under the Real Estate Settlement Procedures Act, which would trigger error-resolution requirements that require servicers to correct their mistake or justify their action. It is also important to not define error resolution too narrowly—even if the current rule solves today’s problems, flexibility is required to prevent tomorrow’s problems.

Download the full comment letter here (pdf)

SOURCE: AP/ Adam Nadel

Dodd-Frank created a new set of tools for regulators to keep our financial markets more strong and secure. The task now is to finish the job that was started.

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Strong and stable capital markets are critical to America’s economic success. The U.S. financial sector is the largest in the world and is one of the pillars of our economy. But the 2008 financial crisis also laid bare weaknesses in the sector—weaknesses that had severe consequences for American workers and their families. Millions of Americans lost their jobs and $17 trillion in household wealth was destroyed. On a more personal scale, the average net worth for American households dropped from $126,400 in 2007 to $77,300 in 2010 after the financial crisis, wiping out almost two decades of gains and dramatically weakening the middle class that is so crucial to economic growth.

Two years ago this week, in response to the financial crisis, Congress passed landmark reform to strengthen the U.S. financial sector and protect taxpayers from a repeat of the 2008 crisis. The Dodd-Frank Wall Street Reform and Consumer Protection Act was the most sweeping legislative reform in the financial sector since the passage of President Franklin D. Roosevelt’s suite of reforms in the 1930s. But passing Dodd-Frank through Congress was simply the first step in a process of shoring up the financial system that continues to this day, with critical decisions still to come in the months and years ahead, both to implement this key law, and also to ensure the financial sector is serving the economy.

Dodd-Frank gave regulators key new tools and a mandate to do a difficult job. Part of the challenge is technical: to use those tools, regulators must create and implement specific rules designed to make markets safer, keep our companies competitive, and protect U.S. taxpayers and consumers. But part of the challenge is also political: ensuring that opponents who have sought to weaken and delay key measures do not ultimately shelve progress.

Two years after President Barack Obama signed Dodd-Frank into law, we have seen some notable successes. Our financial markets are stronger than they were before the crisis, and Americans can count on better consumer finance protection in their day-today interactions with financial services institutions.

This issue brief presents five concrete ways that our financial markets are stronger today than two years ago alongside five concrete things that can be done to make them even stronger. Specifically, here are five ways financial reform has strengthened our markets:

• A consumer watchdog is now on the beat.
• Every financial institution now must play by the rules.
• Increased capital requirements are now in place.
• A new resolution authority for failing financial institutions now exists.
• New rules will help rein in executive compensation.

Yet we also know that in any task this big there is still more to be done. While this is not an exhaustive list, here are five concrete things that can be done to make our markets even stronger:

• Implement the Volcker Rule to protect taxpayers from excessive risk-taking by financial institutions.
• Finalize derivatives reform to protect our markets from overspeculation in this hundred-trillion-dollar market.
• Ensure financial regulators have the resources to protect taxpayers by adequately funding the Commodity Futures Trading Commission.
• Hold the line on mortgage origination and securitization to protect homeowners, investors and taxpayers.
• Continue to ensure coordinated global financial reform and strong international minimum capital standards are enacted.

So let’s delve into the details of Dodd-Frank two years on with much still to accomplish.

Five ways financial reform has strengthened our markets

A consumer watchdog is now on the beat

“If we had had this agency six years ago, eight years ago, we would not be in the mess we are today.”

—Elizabeth Warren, testifying before House Financial Services subcommittee, March 16, 2011

Perhaps the most visible and immediate result of the Dodd-Frank Act has been the establishment of the Consumer Financial Protection Bureau, which was created to protect con-sumers from confusing, and sometimes deceptive, financial products and lending practices that contributed to the collapse of the financial markets. Prior to the bureau’s creation, the federal government’s authority to write and implement rules aimed at protecting consumers had been dispersed between states and several different federal agencies. Not surprisingly, consumer protection was often a relatively low priority for these regulators, who were charged with monitoring a wide range of financial activities.

The bureau has broad authority to oversee financial products and services, including credit cards, mortgages, payday lenders, private student loans, and credit-reporting agencies. Since the appointment of Richard Cordray as the head of the bureau in early 2012, the Consumer Financial Protection Bureau has assumed its full rulemaking and oversight authority and has already starting to do its important work.

Earlier this week, the new consumer protection agency announced its first public enforcement action with an order requiring Capital One Financial Corp. to refund approximately $140 million to 2 million customers and pay an additional $25 million penalty for allowing vendors to pressure or mislead consumers into paying for “add-on products” such as payment protection and credit monitoring when they activated their credit cards. Cordray said, “We are putting companies on notice that these deceptive practices are against the law and will not be tolerated.”

Promoting financial education is also part of the bureau’s work. One of its first initiatives was designed to make sure that people taking out mortgages know what they are getting into. In the years leading up to the 2008 financial collapse, too many Americans didn’t fully understand the terms of their mortgages, which contributed to increased foreclosures and the housing market collapse. In the “Know Before You Owe” initiative, the bureau recently proposed redesigning the federal mortgage form to make it easier for consumers to understand their anticipated interest rates, monthly payments, loan amounts, and closing costs.

Through practical measures to protect consumers, the Consumer Financial Protection Bureau can have a real and lasting impact on the long-term financial health of our economy.

Every financial institution now must play by the rules

“Before Dodd-Frank, major financial firms were essentially regulated by what they called themselves rather than what they did, with the legal name often determining regulation by the least stringent supervisory agency or no supervision at all.”

—Michael Barr, former assistant secretary of the Treasury for financial institutions

One of the biggest contributing factors to the financial crisis of 2008 was that in the run-up to the crisis the activities of a large number of financial services firms that weren’t banks went largely unchecked. These so-called nonbanks or nonbank financial institutions range in size from small entities, such as payday lenders or check cashing outlets, to massive “too big to fail” institutions, such as Wall Street investment banks and global insurance companies.

With the collapse of large nonbanks such as American International Group, Inc. and Lehman Brothers, it became clear that these firms needed much better regulation to keep them from dragging down the economy. Similarly, in the wake of the financial crisis it became abundantly clear that some small mortgage-finance brokerages were abusing prudential underwriting practices and placing many homebuyers in expensive and unsustainable loans.

Dodd-Frank created the Financial Stability Oversight Council to monitor systemic risk in the financial system and coordinate several federal financial regulators. The council is empowered to identify “systemically important” bank and nonbank financial institutions, the failure of which might pose a risk to the U.S. economy. These institutions are subject to centralized regulatory oversight by the Federal Reserve, which is authorized to implement checks including limits on the amount of debt they can carry, enhanced capital standards to boost the amount of equity capital they hold, and restrictions from certain type of risky activities.

The Financial Stability Oversight Council issued its final rule on systemically important financial institutions in April 2012. Nonbank financial institutions will be designated “systemically important” if they have total assets of more than $50 billion and meet one of five thresholds relating to credit default swaps, outstanding debt, derivatives, leverage ratio, and short-term debt. In July 2012, the council designated eight financial clearinghouses as systemically important. These so-called financial market utilities are the first phase; it is expected that another three to four large nonbank financial institutions will be designated before the end of 2012.

In the area of consumer financial products, small nonbanks were also largely outside of strong regulatory scrutiny. In January 2012 the Consumer Finance Protection Bureau took over the supervision of smaller nonbank companies that provide consumer financial products or services, including mortgage brokers and payday loan companies. By requiring the bureau to examine nonbanks, Dodd-Frank helps ensure that consumers get the benefit of federal consumer financial laws on a consistent basis.

Increased capital requirements are now in place

“The longer I taught and wrote in the area of financial regulation, the more convinced I became of the centrality of strong capital standards to a sound financial system.”

—Federal Reserve Governor Dan Tarullo, June 6, 2012

Capital requirements are designed to decrease the probability of a financial institution failing by determining the type of capital they need to hold in reserve. Generally, these requirements increase the use of equity (stocks) as a funding source for financial firms, so that if a firm gets into difficulties it is the shareholders and not the taxpayers that pick up the bill. But the 2008 financial crisis exposed the inadequacy of existing capital regulations as many financial institutions were vastly overleveraged and therefore unable to withstand financial distress. When Lehman Brothers failed, it had $1 in equity for every $30 it was borrowing.

Dodd-Frank has not only directed regulators to increase minimum-capital requirements, but has also placed greater emphasis on the types of capital that qualify. Bank holding companies and nonbank financial institutions with assets of at least $50 billion are now subject to greater regulatory oversight by the Federal Reserve, which can impose additional capital requirements on these institutions. The Federal Reserve is in the process of adopting rules, agreed at the global level, to further raise capital over the coming years.

Dodd-Frank also mandated the Federal Reserve to carry out annual stress tests on all banks with $50 billion or more to determine if they have the capital needed to absorb losses under various scenarios. The Federal Reserve has carried out three stress tests so far, with the latest results in March 2012 showing that 15 of the 19 largest financial firms operating in the United States have enough capital to withstand a severe recession. This reflected a significant increase in capital since the 2009 test, when 10 of the banks were found to have insufficient capital to withstand another crisis.

Increased capital requirements and stress testing help make our financial system more resilient to economic shocks and future financial crises. This is critically important given continued financial market problems in Europe, which have created uncertainty and volatility in global markets.

A new resolution authority for failing financial institutions now exists

“In summary, the measures authorized under the Dodd-Frank Act to create a new, more effective SIFI [systemically Important Financial institutions] resolution authority will go far toward reducing leverage and risk-taking in our financial system by subjecting every financial institution, no matter its size or degree of interconnectedness, to the discipline of the marketplace.”

—Sheila C. Bair, former chair of the FDIC, testimony before the House Subcommittee on Financial Institutions and Consumer Credit, May 26, 2011

The collapse of Lehman Brothers and the near collapse of global insurer American International Group and Wall Street investment bank Bear Sterns highlighted the need for a resolution process that would allow the wind-down of systemically important nonbank financial institutions without the need for taxpayer backed bailouts. The new resolution authority rules mandated in Dodd-Frank attempt to end this problem of “too big to fail” and ensure U.S. taxpayers will no longer be asked to bail out failing banks and other nondepositary institutions.

While the Federal Deposit Insurance Corporation is traditionally in charge of winding down failing depository banks, other nonbank financial institutions have been subject to the normal bankruptcy process. But bankruptcy is unsuitable for large financial institutions that are systemically important for a variety of reasons, especially because bankruptcy is not designed to keep credit flowing in the broader economy.

Dodd-Frank gives the Federal Deposit Insurance Corporation authority to wind down bank holding companies and nonbank financial institutions whose failure would be potentially damaging to the U.S. economy and financial stability. Resolution methods include selling assets and paying off depositors as well as the transfer of deposits to healthy banks. Under the process, management is fired and shareholders bear the losses.

Another key tool is the requirement for large banks and nonbank financial institutions to do advance preparation for failure by submitting plans to regulators. These so called “living wills” help prepare the institutions and regulators for a rapid and orderly wind-down in the event of financial distress.

Nine of the largest U.S. banks and the U.S. units of foreign banks with more than $50 billion in assets or more than $250 billion in nonbank assets, such as derivatives, submitted their plans to regulators on July 2, 2012. The Federal Reserve estimates that 124 institutions, including dozens of foreign banks, will need to submit living wills by the end of 2013. If regulators believe that the resolution plans are not credible, Dodd-Frank gives them the authority to make the banks sell off business lines and restructure to become less complex. The granting of this resolution authority and the drafting of credible living wills provides increased visibility into complex institutions and helps ensure that corporations have the ability to wind down, under the supervision of regulators, in a way that minimizes the damage to taxpayers and the economy.

New rules will help rein in executive compensation

“In the half a dozen financial institutions that needed help the most during the crisis, that were too big to fail … the managers which led them into the trouble in all cases went away very, very wealthy.”

—Warren Buffett, March 25, 2011

Public anger over rapidly escalating pay for corporate executives, regardless of their firms’ performance, led to the inclusion of several executive compensation provisions in the Dodd-Frank Act. These include requiring corporations to report the ratio of CEO to average worker pay and a measure to restrict pay at banks so as not to encourage and reward excessive risk taking. Regulators continue to work through many of these important rules, but one notable provision already in affect is “say-on-pay,” which requires all publicly traded companies to submit their executive compensation plans to shareholder votes at least once every three years.

While these votes are non-binding, industry analysts agree that they are already having a significant impact on corporate compensation practices, as companies are taking these votes seriously. Although a very small number of companies (less than 2 percent) have actually failed their say-on-pay votes since the act’s implementation, firms have begun restructuring executive compensation packages to avoid embarrassing votes. Case in point: After its failed vote in 2011, Hewlett-Packard Co. eliminated its compensation formula that allowed the CEO to earn millions despite falling share prices.

While shareholder disapprovals remain uncommon, the impact of say-on-pay votes and the potential negative attention that accompanies them has resulted in a shift in industry practices that for too long allowed executive compensation to go unchecked.

Five things that will make markets stronger if we finish the job

Implement the Volcker Rule to protect taxpayers from excessive risk taking by financial institutions

“Banks benefiting from public support by means of access to the Federal Reserve and FDIC insurance should not engage in essentially speculative activity unrelated to essential bank services.”

—Five former secretaries of the Treasury: Michael Blumenthal, Nicholas Brady, Paul O’Neill, George Shultz and John Snow, in a letter to the Wall Street Journal, February 21, 2010

The Volcker Rule, named after former Federal Reserve Chairman Paul Volcker, prohibits federally insured banks and their affiliates from engaging in proprietary trading, defined as when a bank buys and sells certain investments for its own profit, instead of its clients.

Proprietary trading can add significant risk to banks. First, it could put a bank in a conflict of interest with clients. In the years leading up to the 2008 financial crisis, for example, some banks sold products to clients while at the same time their “prop desk” took positions on the opposite side of the same deal.

Second, if banks are trading with their own money then they run the risk of losing that money. If these speculative investments turn bad, and if the losses are substantial enough, then the federal government—and the taxpayer—may have to step in to bail out the bank.

In both cases, proprietary trading creates a culture of risk taking, which because of the importance of banks and other systemically significant financial institutions, puts the entire financial system at risk. JPMorgan Chase & Co.’s recent multibillion-dollar loss highlighted the need for a strong Volcker Rule—one not weakened by proprietary trading masked as hedging the bank’s overall risk.

During the Senate Banking Committee hearing into what went wrong at JP Morgan, Sen. Jeff Merkley (D-OR) pointed out: “the basic concept of the Volcker rule is that banks are in the lending business, not the hedge fund business.” In May of this year, President Obama underlined the importance of the Volcker Rule to ensure that taxpayers are not again forced to bail out a bank because of risky bets.

The final Volcker Rule is due to be published in July 2012, though it is likely the deadline will be missed as regulators work to get the final rule right. Both clarity and timeliness are important in making sure that the taxpayers are protected from excessive risk.

Finalize derivatives reform to protect our markets from overspeculation in this hundred-trillion-dollar market

“Among the causes of the financial crisis was Wall Street’s use of extraordinarily complex derivatives—financial instruments that derive their value from other financial instruments. These derivatives were largely shielded from scrutiny in an opaque marketplace.”

—Sen. Carl Levin (D-MI) on Wall Street reform

Derivatives are financial instruments whose value is derived from some underlying security or commodity. Derivatives have existed for centuries, and the futures and commodities markets in, say, corn or pork bellies have been regulated since the 1930s, but the rapid growth in often complex and opaque derivatives led Warren Buffett to famously describe them as “financial weapons of mass destruction.”

Derivatives such as financial futures, options, and swaps involving interest rates or credit defaults were developed to allow investors to hedge risks in financial markets—but quickly become a means of investment in their own right. This global market grew from $88 trillion in 1999 to $684 trillion before the crisis in 2008.

Leading up to the 2008 crisis, large financial institutions bought and sold trillions of dollars of over-the-counter swaps, meaning the trades were unregulated and outside the oversight of regulators. Although derivatives can play an important role allowing companies such as airlines to manage risk, a lot of the trading amounted to little more than speculative bets for profit—often with an inadequate level of capital to back up the trades.

Reforming the derivatives market became an important focus of regulatory reform after the 2008 financial crisis because of the role derivatives—credit default swaps specifically—played in the failure of American International Group, which required a bailout costing U.S. taxpayers $182 billion. AIG’s London affiliate, AIG Financial Products, sold billions in swaps without having to place capital to back up those bets. When the British unit of AIG failed in London, its U.S. parent had to be rescued by the U.S. taxpayers.

Dodd-Frank’s Title VII provisions significantly increase the mandate of the Commodity Futures Trading Commission to bring greater regulatory oversight and transparency to derivatives. The rules are detailed and highly technical, though broadly will have the effect of requiring most derivatives to be traded on a regulated exchange and cleared through a central clearinghouse. This means a counterparty—a clearinghouse whose main purpose is stability—will stand between the buyer and seller and guarantee that each party is able to make good on their obligations by collecting a proportion of the value contract, known as a margin.

The exchanges are regulated by the Commodity Futures Trading Commission, giving the regulator much more information about the market and allowing them to better monitor, and prevent, the type of excessive risk taking that ultimately led to the AIG bailout. Derivatives will in the future be traded through transparent platforms with real-time pricing information. This should create a more efficient and competitive marketplace, ensuring that end-users including Main Street businesses and local government can access the best prices.

Much progress has already been made, and recently the Commodity Futures Trading Commission and Securities and Exchange Commission, which regulates equity and debt markets, issued a definition of the type of swaps that will be subject to centralized clearing and exchange trading. This is a major milestone as a number of rules the commission has already finalized—such as new position limits, registration, real-time reporting, business conduct, and commodity options rules—will go into effect in a matter of weeks, now that the definition is finalized. Both financial regulatory agencies have made a commitment to completing the rulemaking on Title VII by the end of 2012.

Ensure regulators have the resources to protect taxpayers by adequately funding the Commodity Futures Trading Commission

“The CFTC’s success in uncovering the outrageous manipulation of the Libor, and the consequent settlement which will bring to the U.S. Treasury hundreds of millions of dollars, demonstrates the value of that agency. The refusal by Republicans to meet the Obama administration’s request for $308 million for the CFTC, when the agency has helped bring into the Treasury approximately that amount in one successful prosecution, demonstrates that the party is driven not by concern for the deficit but rather by ideological rigidity.”

— Rep. Barney Frank (D-MA), June 29, 2012

Laws need enforcers. To protect markets and consumers requires both sound regulations and adequate resources for regulators to see them through.

Some financial regulatory agencies, such as the Federal Reserve, Comptroller of the Currency, and the Federal Insurance Deposit Corporation are independently funded, insulating them from attempts to cut their budgets to the point where they can no longer do their jobs. The Securities and Exchange Commission is funded by a small user fee on all equities trading.

The Commodity Futures Trading Commission, however, relies entirely on the congressional appropriations process, making it vulnerable to partisan attempts to starve it of resources as it works to fulfill its enhanced responsibilities under Dodd-Frank. The House Appropriations Committee has reported to the floor a bill that provides only $180 million to the derivatives regulator. This represents a cut of $25 million (12 percent) from last year’s appropriation, and is 41 percent below the agency’s requested budget of $308 million.

This cut would require the commission to cut staffing back to levels prevailing in the mid-1990s. Yet since then the combined impact of the growth in the futures market and the new responsibilities under Dodd-Frank means that the market the agency now overseas is 40 times to 50 times larger and a notional value of $300 trillion.

The Commodity Futures Trading Commission’s two-year investigation into Barclays’ rigging of the London Interbank Offered Rate, known as Libor, demonstrates the continued need to make sure there are enough cops on the beat to identify and punish financial misconduct. The settlement fine of $200 million is almost equivalent to the agency’s entire 2012 budget of $205 million.

President Obama’s 2013 budget attempts to address some of the budgetary concerns around Dodd-Frank implementation by funding the Commodity Futures Trading Commission in part through “user fees.” In a joint letter to Congress, organized by the public advocacy group Americans for Financial Reform, more than 50 consumer, labor, faith-based, nongovernment, and business organizations gave their support to a user fee funding model.

This is a sound idea, and one with precedent as seen in similar regulatory agencies.

Hold the line on mortgage origination and securitization to protect homeowners, investors, and taxpayers

“There were too many people in all of the functional component parts—mortgage brokers, loan originators, loan securitizers, sub-prime lenders, Wall Street investment bankers, and rating agencies–who were interested only in making their own fast profits and were indifferent to the consequences of their actions for homeowners and communities, much less the nation as a whole.”

—Federal Reserve Governor Sarah Bloom-Raskin, February 11, 2011

The misalignment of incentives throughout the housing and housing finance market lies at the heart of the mortgage crisis. Brokers got paid at the closing table, leaving them no incentive to underwrite borrowers carefully. Lenders quickly flipped those loans into the secondary market, leaving them with no exposure to shoddy mortgages. Wall Street firms paid top dollar for the riskiest loans to sell to institutional investors worldwide who were looking for greater returns on their investments, leading brokers and lenders from whom they were buying the loans on a race to the bottom in terms of origination and compensation practices. Those investment banks, which never took ownership of the loans themselves, then sliced and diced the loans into securities, paid the ratings agencies to bless them, and passed them along to investors who were often misinformed of the underlying risks.

In short, every link in the production chain was insulated from the consequences of bad lending, leaving homeowners and investors holding the bag when the bubble burst. Dodd-Frank aims to realign these market incentives from top to bottom, thereby enabling the market to produce more sustainable mortgages for homeowners and safer securities for investors.

To ensure better mortgage origination, Dodd-Frank requires lenders to ensure homeowners have the ability to repay their mortgages. As the Consumer Finance Protection Bureau works to delineate the contours of this requirement by the end of 2012, it is important for it to resist industry pressure to water down its so-called qualified mortgage standard, which sets out the underwriting criteria for the safest category of mortgages and establishes an appropriate standard of legal review for ensuring that the criteria are followed.

Dodd-Frank also prohibits the perverse compensation practices that drove many mortgage brokers to steer borrowers into mortgages more expensive than those for which they qualified, particularly in African-American and Latino communities, and bans most prepayment penalties. The effective implementation of these provisions is also key to preventing predatory lending in the future.

On the securitization side, Dodd-Frank requires issuers of mortgage-backed securities to retain 5 percent of the credit risk for each security issued, giving those securitizers “skin in the game.” One of the most controversial parts of this provision is the exemption of “qualified residential mortgages” from the risk retention requirement, and market participants are anxiously awaiting a final rule. A broadly defined qualified residential mortgage will help ensure an optimum balance between access to credit and accountability.

Continue to ensure coordinated global financial reform and strong international minimum standards are enacted

“We all have a mutual responsibility to deliver on all our commitments to address the weaknesses that led to the financial crisis. Now is the time for the Leaders of the G20 both to recommit themselves and deliver on the ambitious reform objectives and agenda we have already agreed to and to explore cooperative approaches to meeting our common goals.”

—President Obama, open letter to the Group of 20, March 29, 2010

The financial crisis did not just affect the United States. Financial systems are interconnected and risks are spread across national borders. Recognizing this fact, global leaders at the Group of 20 Washington Summit in 2008 agreed to move toward international agreement on basic financial rules in order to ensure protections are in place to shield taxpayers from risks emerging from abroad, as well as to maintain an open and healthy international financial services sector.

The United States has led the way in setting the international reform agenda by overhauling its financial regulation through Dodd-Frank. Working alongside partners in the European Union and other G-20 nations, there has been substantial progress made on extending the framework for systemically important financial institutions to domestic banks and global insurance companies, and in preparing an integrated set of recommendations for more effective oversight and regulation of derivatives markets.

The leaders of the G-20 nations agreed to coordinate global standards in banking regulation in order to strengthen international financial stability. The Basel III banking reforms increase the minimum regulatory capital requirement from 2 percent to 7 percent, and subject globally systemically important banks to a 1 percent to 2.5 percent surcharge.

Although Basel III sets out a global standard, it is not legally binding as countries are required to implement the accords into their own laws. The “Collins Amendment” of Dodd-Frank created the statutory basis for the implementation of Basel III in the United States. In June 2012 the Federal Reserve proposed final rules on a regulatory capital framework which incorporates the international Basel III standards.

The Obama administration is pushing through the G-20 process for more progress on the global implementation of bank capital requirements in other markets, particularly Asia, on rules regarding over-the-counter derivatives, and on the orderly resolution (winding down) of failing financial institutions.

Creating minimum international rules is essential to protect financial stability globally, including U.S. economic growth, and to preserve the advantages of an open and globally integrated financial system and economy. Without confidence in the strength of financial institutions and markets in other countries, recent experience in Europe has shown that problems in one country can spread rapidly. A healthy global economy depends upon a stable and integrated global financial system.

Conclusion

In a letter to the leaders of the G-20 in advance of the Rio Summit, the members of the Financial Stability Board—the international body that monitors and makes recommendations on the global financial system—said continued financial reform was part of the solution to economic growth.

The stakes of seeing financial reforms through are huge. As Dennis Kelleher of the public advocacy group Better Markets pointed out in a recent testimony before a House committee, "The Dodd-Frank law is intended to protect the American people, taxpayers, and the U.S. Treasury from ever again having to suffer through and pay for another financial collapse and economic crisis."

Dodd-Frank created a new set of tools for regulators to keep our financial markets more strong and secure. The task now is to finish the job that was started.

Jennifer Erickson is Director of Competitiveness and Economic Growth at the Center for American Progress, Tamara Fucile is Vice President for Government Affairs at the Center, and David J. Lutton is a Visiting Scholar at the Center and at the Center for European Studies at Harvard University.

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SOURCE: AP/Nikolas Giakoumidis

Antonis Samaras, leader of the conservative and probailout New Democracy party in Greece, speaks during an election rally in June. His party's victory in the recent elections means Greece will likely remain in the eurozone for now.  

"Drachmageddon" has been avoided. The election of the probailout New Democracy party in Greece should keep the country in the eurozone—at least for now—but the region’s debt crisis is far from over. Markets reacted positively to the election results, but this has proved short lived. Spanish 10-year government bond yields rose to 7.14 percent, pushing the nation’s implied borrowing costs to their highest during the euro’s lifetime. Italian 10-year bond yields also rose to 6.08 percent. (Seven percent is widely seen as an unsustainably high cost of borrowing.)

As leaders gather for the meeting of the Group of 20 developed and developing nations in Mexico this week, the main agenda item will be the need to create a lasting strategy to save the euro and end the crisis, which is causing turmoil in financial markets. Ahead of the summit the Obama administration called on European leaders to prepare an "immediate plan to tackle the crisis and to restore market confidence." More specifically, the White House has called for a clear roadmap for deeper financial and fiscal integration in Europe to emerge from the G-20 meeting.

Bringing the crisis to an end is in the United States’s interest. Exports to the European Union account for 21 percent of overall U.S. exports, and EU imports account for 18 percent of total imports, according to figures by the Office of the U.S. Trade Representative. Breaking up the eurozone—and the resulting reduction in demand—would hurt American companies that do business on the continent, not to mention the impact that a break up could have on U.S. banks exposed to European debt, currently around $767.5 billion. Even if the euro doesn’t fall off the precipice, the fear of that happening is enough to hurt growth. But resolving the crisis is not so much a problem of economics as one of politics.

German Chancellor Angela Merkel says that the solution to the crisis requires “more Europe,” meaning deeper fiscal and political integration. In a fiscal union, in which individual member nations of the European Union would give up control over their nation’s budgets, decisions about the collection and expenditure of taxes would be taken by common institutions, much like it is in the United States—where fiscal policy is determined by the federal government, which is empowered to raise taxes, borrow, and spend. But concrete movement toward deeper political and fiscal union is a distant dream, not least because it requires a referendum in many member states, whose citizens are wary of more encroachment by their European peers into domestic financial affairs.

In the absence of a fiscal and political union, French President Francois Hollande has suggested that European countries share their debt though Eurobonds. While the public debt of some of the eurozone’s members is unsustainable—the so-called PIGs (Portugal, Ireland, and Greece) and Italy have public debt in excess of 100 percent of gross domestic product, the largest measure of economic growth—the overall situation is much healthier because the eurozone government debt-to-GDP ratio is 87 percent.

Under the Eurobonds proposal, rather than individual governments borrowing money on their own, the entire eurozone would borrow money together as a unit. Spain and Greece would, in effect, pay the same interest rates on their debts as France and Germany. Since the eurozone as a whole is economically sound, this would calm the panic about individual countries. If Portugal had to pay the average interest rate of eurozone members, its annual debt payments would fall by €15 billion, or 9 percent of its GDP.

But the German government is strongly opposed to this “mutualization” of debt because it gives rise to “moral hazard.” Once the debts of countries are underwritten collectively by all the members of the eurozone, countries no longer have an incentive to make the difficult structural reforms necessary to keep their public debt in check. If the borrowing costs of the PIGs are subsidized by Germany, there’s less need to worry about racking up more debt in those more-troubled countries.

Germany’s preferred solution is to see bailout countries tackle their unsustainable debt levels through austerity measures involving cuts in public spending and structural reform. But is this the best approach?

Take Greece, for example. The austerity measures enforced on it by the EU-International Monetary Fund bailout have had a devastating effect on its already-weak economic recovery: In the first three months of 2012 alone, its economy shrank by 6.2 percent. Greece has been in a recession for four years, and its economy has contracted 20 percent. The official unemployment rate is well-above 20 percent, and youth unemployment is nudging 50 percent. The economic conditions have caused social unrest, bringing citizens to the breaking point and causing them to question whether Greece would be better-off outside the eurozone.

Austerity is particularly painful for countries that use the euro. Members do not have the option of printing more money or devaluing their currency in order to make exports cheaper, so they have been forced to try and achieve the same results through “internal devaluations”—a euro euphemism for reducing labor costs—through drastic cuts in public expenditure.

These deep spending cuts have caused higher unemployment, lower tax revenue, and increasing social expenses such as unemployment benefits and health care. This creates a self-reinforcing cycle, in which deeper cuts are required to offset the revenue lost as a result of the shrinking economy.

Europe is proving what the Hoover administration already showed in the 1930s—that cutting spending in a recession is counterproductive. Head of the International Monetary Fund Christine Lagarde and financial commentators such as George Soros and Paul Krugman have made that same point.

It’s not just the bailed-out economies that are feeling the pain. In May French voters showed they were fed up with austerity, and they elected Socialist President Francois Hollande, who has promised to balance cuts in public spending with a robust growth plan.

The crisis is starting to hurt Germany, as well. In April German industrial exports fell at their fastest rate since November 2011, as orders from abroad slowed down. European countries can no longer afford to buy German products in the volumes they once did.

So what can be done at the G-20 meeting to resolve the crisis, given these major political hurdles? Here are two suggestions.

First, the debate needs to move beyond austerity to focus on growth. President Hollande—buoyed by the recent success of the Socialist party in the parliamentary elections in France—has made a serious growth pact a condition of the European Union’s new fiscal discipline treaty, which European leaders agreed to enter into in December 2011 and will meet to finalize later in June.

A draft plan to be put before the G-20 by the French government wants European leaders to commit to a €120 billion ($151 billion) growth package that will come from a combination of €4.5 billion ($5.66 billion) in project bonds; jointly financed spending on infrastructure such as transportation and energy projects; €55 billion ($69 billion) of unused EU structural development funds; and a €10 billion ($13 billion) capital injection into the European Investment Bank—a lending institution that supports economic development in weaker states—which would potentially enable the bank to increase lending by €60 billion ($75 billion). The money from the growth plan would be used to finance projects that create much-needed jobs.

President Hollande says the measures should be expanded before the end of 2012 by creating a financial transaction tax, which could be used to fund measures to create jobs, especially for young people.

Second, in order to calm the market panic and ease the immediate budgetary crisis of the bailout countries, European leaders need to reach some type of agreement on debt mutualization. Although the German government has ruled out full-blown mutalization in the form of Eurobonds, other options are on the table.

For instance, five leading German economists, known as the “wise men,” have suggested a Debt Redemption Fund. Under this proposal national debt of up to 60 percent of GDP would continue to be the responsibility of individual eurozone countries, as specified by the Growth and Stability Pact, which governs fiscal policy within the zone. Debt above 60 percent of GDP would be pooled in the Debt Redemption Fund, with eurozone members having joint liability for that debt.

Countries receiving the EU-International Monetary Fund bailouts would be allowed to pool their debt only after the successful conclusion of their austerity programs. Therefore the problem with this proposal is that it does little to solve the immediate problems of Greece and Portugal, and commits other countries to a crash course in fiscal adjustment—even Germany’s public debt is 81 percent of GDP.

Also being considered are “Eurobills,” which would mutualize short-term government debt with

maturities of less than 12 months up to a maximum 10 percent of eurozone GDP. European leaders should give serious consideration to the Eurobills because they would help with crisis management, as well as minimizing the risk of moral hazard associated with full-blown mutualization.

If Spain and Italy were to use their entire 10 percent quota of Eurobills, it would cover around half of their refinancing needs for 2012, which would means that financial markets would remain an important mechanism to provide price signals and incentives for fiscal discipline on longer-dated debt. Eurobills would allow a country such as Italy to save €5 billion a year ($6.3 billion) by lowering the cost of its debt. These savings would give countries some breathing room to implement their fiscal reforms.

The commitment would be limited to 12 months so other members could refuse to renew or rollover loans if countries are found to be behaving irresponsibly. Eurobills could not be used to bail out insolvent countries due to their limited size and magnitude. As such, they would not violate the spirit of the monetary union treaty that created the euro, which specifically prohibits government bailouts by the European Central Bank.

The G-20 will be another crossroad in this two-year debt crisis. Although the Greek elections may have brought some respite, continued uncertainty about the future of the euro is creating financial turmoil that is damaging to growth. President Barack Obama has said that the European leaders have it in their capacity to resolve the crisis. As the world’s largest economy and most dynamic financial market, the United States can still play a role at the G-20 in helping broker a deal, particularly by focusing European leaders on taking decisive action to stimulate much-needed growth.

David Lutton is a visiting scholar at the Center for American Progress and the Center for European Studies at Harvard University.

SOURCE: AP/ Charles Dharapak

President Barack Obama talks with World Trade Organization Secretary General Pascal Lamy, who warns that “the discrepancy between the commitments taken [by the G-20 countries to avoid protectionism] and the actions on the ground add to credibility concerns.”

President Barack Obama will head to Mexico next week to meet with the heads of the Group of 20 leading developed and developing nations. On the agenda will be many issues, ranging from the cascading Eurozone crisis, slowing growth in China, an increasingly sluggish global economy, and the usual pledges by the G-20 leaders to avoid trade protectionism.

On many of these issues the G-20 will prove to be a valuable forum for discussion. But if the leaders at the group’s seventh meeting since 2008 are serious about playing a constructive role in promoting trade openness, avoiding protectionism, and reinforcing trust in the multilateral trading system then they must live up to their prior commitments and strengthen the ability of the World Trade Organization, or WTO, to act as a steward of global trading rules more effectively.

Sadly, the G-20 members boast a lackluster record of following their rhetoric up with action when it comes to global trade. The G-20 countries have collectively agreed to heed the “merits of the multilateral trading system as a way to avoid protectionism.” And they have promised to “stand by the Doha Development Agenda”—a plan to reduce global trade barriers in a way that supports economic development—in every communique coming out of the leaders’ summits so far. But the repetitive rhetoric without action is starting to get stale.

Indeed, G-20 members have increased the net number of protectionist measures each year since the onset of the financial crisis in 2008. The World Trade Organization reported that the 16 members of the Group of 20 that it monitors instituted 326 protectionist measures between 2008 and 2011. The average member has reported over 16 measures, and the median number of protectionist measures reported stood at 7.

The G-20 member that reported the most measures is Russia, with 80 protectionist measures. Japan reported only 1 measure, although one problem with these data is that countries are lax in notifying the WTO of changes in policies, laws, and regulations, so in reality many countries may have many more trade restrictions in place. (see Figure 1)

These are worrying trends. Pascal Lamy, the secretary-general of the WTO, in a speech earlier this month warned that “the implementation of new measures restricting or potentially restricting trade has remained unabated over the past seven months, which is aggravated by the slow pace of rollback of existing measures. The accumulation of these trade restrictions is now a matter of serious concern.” Lamy went on to warn that “the discrepancy between the commitments taken [by the G-20 countries to avoid protectionism] and the actions on the ground add to credibility concerns.” 

Yes, the G-20 can do better. Its leaders must hold each other accountable for living up to their commitments of avoiding trade restrictions. But for accountability to work, the G-20 must better equip the WTO with what it needs to be an effective steward of global trading rules. As the world’s premiere forum for economic governance, the G-20 is the best forum for this discussion and it must rise to the challenge. The discussion at the upcoming meeting, and subsequent ones, should examine how to:

• Free the WTO from the shackles of the Doha Development Agenda
• Strengthen the WTO’s data collection, research and policy analysis capacity
• Improve the WTO’s ability to enforce trade obligations

Let’s examine each of these points briefly in turn.

Free the WTO from the shackles of the Doha Development Agenda

When asked in December 2011 whether the Doha round of trade negotiations is dead, Bernard Hoekman, a sector director in the World Bank’s trade department, responded, “Well, it’s not dead yet. It’s certainly in a coma.” He’s right, of course. At the G-20 summit in Cannes last year, the leaders finally admitted that “it is clear that we will not complete the Doha Development Agenda if we continue to conduct negotiations as we have in the past,” and then stated that “we need to pursue in 2012 fresh, credible approaches to furthering negotiations.” No country wants to take the blame for the round failing by being the first to declare it officially dead. One proposed solution would be for the G-20 to collectivize the blame by proposing a firm deadline for completing negotiations.

A new approach to multilateral trade negotiations would push the WTO to start over and institute a formal consultation process with nation-level stakeholders, especially in emerging and less-developed countries, to properly discern what matters to them most before establishing an agenda. The failure to conclude the Doha Round calls into question whether the so-called single undertaking approach to negotiations—where nothing is agreed until everything is agreed to—is in fact the best approach to global trade talks. Perhaps an alternative arrangement would be better. One proposal is exploring a variable geometry approach where subsets of WTO members agree on particular issues but not all members have to join every agreement.

Starting fresh does not mean throwing away the progress made so far in the Doha round, it means learning from the mistakes of the past and considering a new, more effective agenda and framework for the negotiations.

Strengthen the WTO’s data collection, research, and policy analysis capacity

The World Trade Organization needs to have more resources to strengthen its data collection, research, and policy analysis capacity. These are fundamental to its ability to effectively promote greater trade openness, negotiate trade agreements, and settle trade disputes.

The WTO’s data collection on nontariff trade barriers such as subsidies and services trade is limited and irregular. As more and more countries deploy nontariff barriers to gain a competitive advantage, and as services trade continues to become more important in global trade, the WTO should be in a position to monitor and analyze these trends.

Data, research, and analytical capacity are also important for the WTO to be able to help countries understand the connections between consumer demand, trade shocks, high unemployment and underemployment, as well as how they can hedge against them. The G-20 should mobilize support among its members to expand the remit of the WTO in this area.

Improve the World Trade Organization’s ability to enforce trade obligations

The G-20 members should work together to explore how the World Trade Organization can better enforce its trade rules starting with notification requirements. They could increase the resources and mandate of the organization’s secretariat to monitor and publicly red-flag countries that violate their WTO obligations. There are a number of countries that have failed to notify the WTO of their domestic subsidies in a timely manner. Russia just recently joined the WTO and as additional countries negotiate accession it is important that the secretariat has the ability to hold countries accountable to their accession obligations.

Conclusion

To the credit of the leaders of the Group of 20, they have repeatedly and publicly acknowledged the importance of effective global trading rules in charting a path forward for the multilateral trading system. And certainly protectionist responses to the 2008 global economic crisis were markedly muted compared to how countries have responded to past global recessions.

Yet the global economy today is more integrated, with countries more codependent than ever before. While countries may put fewer trade restrictions in place than they have in past recessions, the number of trade restrictions countries put in place since the onset of the 2008 crisis speaks volumes about the G-20’s largely ineffectual record on trade. It doesn’t have to be this way. The G-20 can play a key role in promoting a more open, transparent, and healthy global trading regime but it has to be willing to take difficult steps to change rhetoric into reality. 

Sabina Dewan is Director of Globalization and International Employment at the Center for American Progress. Jordan Bernhardt is a Special Assistant with the Economic Policy team at the Center.

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See also:

• The Volcker Rule Must Be Strengthened by Travis Waldron

SOURCE: AP/ Scott Iskowitz

The well-publicized losses at JPMorgan last week make it even clearer now that a strong Volcker Rule is imperative if we want to ensure that our financial industry will never again jeopardize the health of the entire American economy.

Recent bombshell news that JPMorgan Chase & Co. is losing billions on an alleged “hedge” was terribly timed for those on Wall Street who have been trying to water down a rule prohibiting risky trading by federally insured banks. But it’s well timed for ordinary taxpayers who should never again have to make up for that risky trading by bailing out our nation’s banks when too many of their trades go wrong.

At a time when opponents of financial reform were succeeding in watering down financial regulations included in the 2010 Dodd-Frank Wall Street Reform Act, JPMorgan’s losses give regulators a reason to re-examine and strengthen rules protecting taxpayers and the American economy.

The JPMorgan case spotlights one of Dodd-Frank’s rules in particular. The Volcker Rule, named for former Federal Reserve Chairman Paul Volcker, who proposed it, would prohibit commercial banking institutions with insured deposits—such as JPMorgan—from proprietary trading, in which banks take on excessive risk by making speculative investments that do not benefit their customers. This kind of trading played a large role in bringing down the financial industry just four years ago.

In the run-up to the crisis, many banks embraced a casino mentality, taking on greater and greater risk in housing-related financial securities. When those securities went bust and large banks began to fail, they turned to taxpayers for a bailout. “Risky proprietary investments by investment banks, along with trading for clients whose decisions were influenced by these banks, was one of the main forces that sustained upward pressure on securities prices” as the housing bubble grew, according to the Political Economy Research Institute at the University of Massachusetts-Amherst.

Last week’s events bring back unfortunate memories of that crisis. A London-based JPMorgan trading unit in charge of managing risk in the bank’s overall investment portfolio lost billions of dollars when what it claimed was a “hedge” turned sour. The losses, JPMorgan CEO Jamie Dimon said, resulted from “sloppiness” and “bad judgment,” and the ensuing wounds were “self-inflicted.” The trade was incredibly complicated, so much so that not even JPMorgan’s own traders and risk managers “appear to have fully understood the trade itself,” Bloomberg Businessweek reported.

JPMorgan is widely regarded as one of Wall Street’s smartest banks, causing advocates for stronger rules, including President Barack Obama, to wonder how complex and dangerous such trades could be. “This is the best, or one of the best-managed banks,” President Obama said Tuesday. “You could have a bank that isn’t as strong, isn’t as profitable making those same bets and we might have had to step in. That’s exactly why Wall Street reform’s so important.”

Under the latest draft of the Volcker Rule, hedges aren’t banned, and it is unknown at this point whether the trade in question would be subject to the rule.

What is clear is that in the months and weeks leading up to its losses, JPMorgan engaged in an extensive lobbying effort to create carve-outs and loopholes in the Volcker Rule. According to OpenSecrets.org, JPMorgan has spent nearly $10 million lobbying since the beginning of 2011, much of it aimed at the Volcker Rule. In February JPMorgan bankers met with Federal Reserve officials to argue that trades that originated on the Chief Investment Office desk—the same desk that oversaw the current trade—“not be included as prohibited proprietary trading,” Bloomberg reported. And just two weeks ago, it was part of a coalition of Wall Street banks that again met with Fed officials regarding the rule.

Those efforts paid off. The Volcker Rule draft now has a loophole big enough “a Mack truck could drive right through it,” Sen. Carl Levin (D-MI) said. And it potentially allows the type of trade JPMorgan made to remain legal.

The rule, however, hasn’t been finalized and won’t go into effect until July, and the White House announced its support for a stronger Volcker Rule last week. The timing of JPMorgan’s losses gives taxpayers and policymakers a chance to make their voices heard as well.

Though opponents of reform spent the last two years working to weaken the Volcker Rule, the huge JPMorgan loss should serve as a wake-up call for policymakers and regulators in charge of finalizing the rule. They now have a golden opportunity to ensure the Volcker Rule is strong enough to help protect taxpayers and the American economy. They should take advantage of it.

Travis Waldron is an Economics Researcher at the Center for American Progress and a Reporter/Blogger at the Center for American Progress Action Fund.

SOURCE: AP/ Ed Andrieski

Workers with Namaste Solar Electric install solar panels on the Carriage House at the governor's mansion in Denver.

Tomorrow the U.S. Department of Commerce will announce its preliminary ruling on an “anti-dumping” petition filed by SolarWorld Industries America, Inc. against Chinese solar panel manufacturers. SolarWorld claims the Chinese government is providing subsidies to Chinese solar manufacturers that would be illegal under World Trade Organization rules, thereby artificially lowering the price of these panels, and then dumping the cheap panels on the U.S. market. SolarWorld petitioned the Commerce Department to levy two different types of trade remedies: countervailing duties (to offset the subsidies) and tariffs (to discourage dumping).  

The Commerce Department in March unveiled its remedy for the countervailing duties, also known as subsidy tariffs. Those tariffs were relatively low, ranging from 2.9 percent to 4.73 percent, which is less than most sales taxes around the United States. Chinese manufacturers breathed a collective sigh of relief after that first announcement, but they are now gearing up for the next round of tariffs, which many industry analysts expect to be much higher.

They may well be right. The countervailing duty decision required Commerce Department investigators to track down specific evidence of Chinese government subsidies—a difficult task given China’s nonmarket, nontransparent policy environment—but the antidumping calculations simply compare Chinese panel prices in the U.S. market with panel production costs in a surrogate market economy, like Thailand or India. This type of comparison generally results in a higher tariff.     

The specifics of this case speak most directly to the U.S. solar industry, of course, but also to trade enforcement in general and the U.S. economy more broadly. In this column we will examine the five most common arguments we’ve heard from the antitariff contingent in the U.S. solar industry, and why we think these arguments don’t hold water—drawing larger lessons about the key role of trade enforcement to the health of U.S. companies and our economy.

The bitterly divided U.S. solar industry

First, we need to explain why this case has sparked such a huge debate within the U.S. solar industry. On one side of the debate are solar installation companies and project developers for whom low solar panel prices mean lower project development costs overall.  On the other side are U.S.-based solar manufacturers who compete directly with Chinese imports. They claim that artificially suppressed Chinese manufacturing prices are making it impossible for other solar panel manufacturing companies to survive.  

There is actually a third group of companies that is equally concerned about this case but generally less vocal. These are the companies that sell solar manufacturing equipment and other upstream products, such as polysilicon, to China. Those companies generally side with the installers in opposing tariffs, not because they do not believe there is wrongdoing on the Chinese side but because they are afraid tariffs might trigger retaliatory action from China that would most likely target them.

The companies on the various sides of this debate all have their own interests at stake and their opinions on the case are driven by their individual desires to protect their bottom lines. That is very understandable. That is what our market system incentivizes—pursue your own interests to maximize profits.

But some of these companies have used more theoretical arguments to support their position against the trade case, focusing on the larger issue of whether this trade petition—and trade enforcement in general—is or is not good for the U.S. solar industry and for the U.S. economy as a whole. So let’s turn now to those claims and the underlying realities.   

Myth

Trade enforcement is a losing proposition because imposing tariffs will slow solar industry growth in the United States

Reality

Innovation and demand-side policy, not cheap imports, are the real keys for solid and sustainable solar growth in the United States

Solar cell and module prices have declined rapidly in recent years—falling by 50 percent in 2011 alone—and Chinese manufacturing has been a major contributor to the price decline. Solar installation companies and other tariff opponents argue that the only way to reach grid parity with fossil fuels is to keep solar energy prices low, while the only way to keep prices low is to keep those low-cost Chinese imports coming. Never mind what the Chinese government may or may not be doing to generate those prices. And never mind whether those activities do or do not violate international trade rules.

This antitariff argument assumes that if import tariffs raise the price of Chinese-manufactured panels in the U.S. market, U.S. consumers would no longer have access to cut-rate panels, and the lack of Chinese pricing competition would reduce the declining price trajectory in the U.S. market more broadly. Higher U.S. market prices would then, in theory, make solar projects less attractive to investors, thus slowing industry growth. Alternatively, if cheap Chinese panels keep coming into the United States, the theory is that prices overall will continue to go down, ultimately leading to more domestic solar installations.

But this theory doesn’t comport with the basic realities of international trade. In fact, if the Chinese government—or any other foreign government—is indeed engaging in “dumping” by using WTO-illegal methods to reduce export prices and drive foreign firms out of the market, the end result of those practices will be Chinese market dominance. If that dominance is due to natural market forces, it is not necessarily a bad thing. But if it is due to state subsidies, that is problematic, because that would mean state officials in China are determining which companies and technologies dominate this critical global market, and those officials may not choose well.

Competing with entrenched fossil fuels will require more than cheap imports. It will require the absolute best technology the world can make. The way to get that technology is by giving all clean-tech firms strong market incentives and to allow the market, not state bureaucrats, to select the winners. To do that, we have to keep the global manufacturing market vibrant and diverse. That means not allowing Chinese subsidization to determine which firms and which technologies come out on top.

The other effect of a government-created Chinese monopoly on solar panels is that once Chinese companies drive out their competition from the solar manufacturing sector, they will immediately start raising prices to increase their profits and start to wean off of government subsidies. We are currently seeing a similar pricing pattern in the global rare earths market. China has around one-third of the world’s rare earth supplies but controls 90 percent of the global market, primarily because lax regulatory oversight enabled Chinese companies to mine cheaply and price everyone else out of the market.

Now the Chinese government is restricting exports and raising prices, triggering panic among rare earth consumers who are now almost completely dependent on China for a major commodity, so when Chinese prices rise consumers have no alternative but to pay more. This is exactly what antidumping legislation is designed to prevent—not low prices, but the eventual price fixing. Low prices can be bad for some sectors of the industry, but they are always good for consumers. The eventual price fixing, however, hurts everyone.

Finally, the fact is that whether or not China is violating trade rules, low-priced imported panels are not the only factor driving U.S. market growth. Demand-side policies are just as important. Panel prices are already low enough to stimulate market interest. Tariffs will not change that. Even before the 2011 price plunge, the U.S. solar market was expanding, and it is unlikely that tariffs will bring panels back up to 2010 prices. If you look within the U.S. market, there is a huge amount of variation from state to state, and that variation is primarily due to differences in state incentives.

Even when prices are held constant, strong policy incentives—such as renewable energy standards, feed-in tariffs (which require utilities to buy renewable power and integrate it into the grid at a set price), and rebates or tax credits for installation of solar panels—result in more solar investment. In the third quarter of 2011 the seven states with the strongest demand-side policies accounted for 89 percent of the U.S. market. What the other states are lacking is not cheap Chinese solar panels—the entire U.S. market has access to those—it is good demand-side policies. That is the real key to U.S. market success.

Myth

U.S. manufacturers should accept that they cannot compete with China

Reality

The United States is actually quite strong in higher-end manufacturing

One assumption underlying the cost argument is that we are not good at manufacturing—that China will always have lower costs and weaker regulations, and therefore it does not make sense to rock the boat in an effort to protect US manufacturing.

In reality, our nation is still a global manufacturing powerhouse. In 2010 manufacturing contributed $1.7 trillion to the U.S. economy. Manufacturing accounts for 60 percent of all U.S. exports. The United States ranks first in the world in manufacturing value added, meaning that the raw materials and processes used by the manufacturing sector result in products that add more value to the overall U.S. economy than is the case in any other country. The country was also the third-largest exporter of manufactured goods to the world in 2009. Despite drops in employment the U.S. share of global manufacturing output since 1970 has remained fairly constant at around 22 percent.

Clean energy investments are particularly good for manufacturing. As The Brookings Institution notes, over a quarter of all the jobs created in clean energy industries are in the manufacturing sector. Between 2004 and 2009, when federal support for wind energy was stable and installed capacity grew from 6.7 megawatts to 35,000 megawatts, manufacturing in that sector grew correspondingly, to nearly 250 facilities. By 2010 the wind sector had more than 400 U.S.-based manufacturing facilities.

While the solar industry has had a more turbulent time with manufacturing, perhaps in part because of unfair competition from China, domestic production in this sector also increased dramatically in 2010. According to the Solar Energy Industry Association, this demand was due primarily to strong growth in demand for solar, both globally and domestically, as well as to increases in manufacturing capacity.

Yet there were also some high-profile bankruptcies in the solar manufacturing arena in 2011, including Solyndra, a California-based manufacturing company that pioneered an innovative rooftop solar system that did not use polysilicon, but which went bankrupt when polysilicon prices went from an all-time high in 2008 through the floor in 2009. But the solar manufacturers that remain are, in general, those with innovative products and advanced manufacturing techniques, such as First Solar Inc. of Tempe, Arizona, and SunPower Corp. of San Jose, California.

What do all these stories and statistics tell us? Primarily, that solar manufacturing is indeed possible in the United States, and that location decisions of solar firms are driven in large part by strong market demand and access to innovative ideas and advanced manufacturing practices.

The United States is a leader in advanced manufacturing and can be a leader in strong demand for clean energy. Our country can and should be attractive to solar manufacturers so long as there is true price competition in the global marketplace. Moreover, we should be fighting hard to keep manufacturing in the United States precisely in order to maintain our competitive edge in innovation and advanced manufacturing. 

Manufacturing is critical to maintaining the U.S. leadership in technology and innovation—a key to strong economic growth. Manufacturing firms are more likely to innovate than firms in other industries; 22 percent of manufacturing companies are active innovators compared to only 8 percent of nonmanufacturing companies. Manufacturing firms also perform the vast majority of private research and development. Despite comprising 13.4 percent of the nation’s gross national product—the largest measure of economic growth—manufacturing companies contribute 70 percent of private R&D spending.

In addition to what manufacturers spend on innovation, there is increasing evidence that our capability to innovate is linked to our ability to actually, physically, manufacture. Harvard University professors Gary Pisano and Willy Shih have written about the decline of the U.S. “industrial commons”—the collective R&D, engineering, and manufacturing capabilities that mutually reinforce each other to sustain innovation. For many types of manufacturing, geographic proximity makes for a much stronger  “commons.” Specifically, Pisano and Shih find that there are few high-tech industries where the feedback loop from the manufacturing process is not a factor in developing new products.

As an example of an industry in which innovation has followed manufacturing, they cite rechargeable batteries. Rechargeable battery manufacturing left the United States many years ago, leading to the migration of the batteries commons to Asia. Now new technologies (batteries for hybrid and electric vehicles) are being designed in Asia where the commons are located. Which begs the question, asked by a recent New York Times article on China’s increasing investment in research and development: “Our global competitiveness is based on being the origin of the newest, best ideas. How will we fare if those ideas originate somewhere else?”

Myth

Imposing tariffs would trigger a trade war with China, and that must be avoided at all costs

Reality

Maintaining a mutually beneficial trade relationship requires a steady hand, and fearful capitulation is not a winning strategy

What exactly are antitariff groups implying when they warn that enforcing trade rules will trigger a “trade war” with China? The logic behind the trade war argument is that if the United States responds to illegal trade activities by the Chinese government by enforcing our mutually agreed, extensively negotiated trade rules, then the Chinese government will then retaliate against U.S. companies by accusing the United States of its own trade misconduct and levying tariffs against U.S. products, or by simply shutting down relationships with U.S. companies.

This trade war argument basically assumes that facing Chinese retaliation would be worse than putting up with the initial misbehavior and that we are therefore better off putting our heads in the sand, ignoring Chinese government violations of our trade policies, and continuing on as usual.  

These retaliatory fears are certainly valid. We can already see this coming in the current solar trade case. The Chinese companies targeted in the SolarWorld petition have already filed retaliatory trade complaints in China. China’s Ministry of Commerce is investigating Chinese trade complaints against six U.S. state-level renewable energy incentive programs, and it is slated to announce its findings on May 25, right after the U.S. antidumping announcement. U.S. upstream suppliers selling silicon and manufacturing equipment to China claim that in addition to the formal Chinese government investigation, some of their Chinese customers have threatened to terminate purchasing contracts if the SolarWorld case results in significant tariffs.

If China does take retaliatory action by levying tariffs on U.S. imports or switching to non-U.S. suppliers, U.S. companies could feel a big impact. But wouldn’t allowing China to violate international trade agreements ultimately have an even bigger, and more disastrous, impact on the U.S. economy? Would it not signal that the United States has now reached the point where we are too dependent on and afraid of China to enforce trade rules that Chinese leaders have explicitly agreed to? If so, that is a dangerous position to be in, and it likely would not have a good outcome for the U.S. economy.

It is important to remember that the U.S.-China trade relationship is mutual—China is also dependent on and strongly affected by the United States. The fact that Chinese companies and officials are up in arms about the SolarWorld case demonstrates that U.S. trade enforcement actions impose real costs, which is exactly what they were designed to do. If the United States can consistently demonstrate that it is willing and able to impose those costs, then those actions will increase Beijing’s estimates of the risks involved in targeting U.S. markets with WTO-illegal trade policies. And perhaps, consistency in trade enforcement on our side will help convince China to start playing by the rules across all its industries, not just solar manufacturing.

Myth

U.S-China trade tensions are bigger than solar so they shouldn’t be fought in the solar domain

Reality

The best approach to trade enforcement is a fact-based approach—we should address alleged rule violations where they occur

There are those who think the SolarWorld case, and the solar industry in general, is not the right place to have larger discussions about the U.S.-China trade relationship. Scaling up renewable energy is a strong public good, the argument goes, so we should not undermine that objective by bringing trade claims when Chinese subsidies are actually helping U.S. installers do more to promote solar energy in this country.

But the only honest way to address trade issues with China is on a case-by-case basis, as objectively as possible. That is exactly what the domestic trade resolution procedures at the U.S. Department of Commerce and the international procedures at the World Trade Organization are designed to do. Those institutions take trade complaints out of the hands of politicians—who almost always have political incentives to overreact or underreact to trade accusations against China regardless of the facts—and put them into the hands of independent arbiters.  

At present, a large portion of the trade allegations levied against China are in the clean energy sphere. The reason is clear: Chinese leadership decided that clean energy is their country’s “historic opportunity” to finally surpass the United States in a major technology sector. Chinese government institutions at all levels—national, provincial, and local—are directing massive subsidies to green energy companies in direct support of that goal. When U.S. clean energy companies face stiff competition from Chinese rivals and the latter appear to be benefitting from such generous government support, that can easily trigger suspicion and trade complaints on the U.S. side, particularly when low Chinese prices are driving U.S. companies out of the market.

How much China is providing to its clean energy sectors in subsidies, and whether the subsidies are illegal under our trade agreements with China, can be difficult to ascertain. Many of China’s green energy development policies are not transparent. As is the pattern with most Chinese laws and regulations, those policies give subnational provincial government agencies wide discretion to support local companies as they see fit, and subnational agencies generally do not share the details with foreign observers. When China joined the World Trade Organization in 2001 Chinese leaders promised to submit subsidy reports on those subnational programs every two years but they have never done so. That is a clear violation of China’s WTO commitments. Overall, due to these transparency problems, it can be hard to determine just how much support a particular Chinese company is getting and whether that support violates trade rules.

The U.S. Commerce Department’s countervailing duty and antidumping procedures are designed to investigate these problems on a fact-based, case-by-case basis. Commerce Department investigators view the evidence and if they find wrongdoing, levy tariffs accordingly. The alternative to this fact-based approach would be to put trade issues in the hands of elected politicians who would immediately involve companies and other groups that contribute to their political campaigns—contributors who are likely to reward general China-bashing. With politicians at the helm, tariff decisions would be much more erratic, thus contributing to market uncertainty (since investors would have no idea what to expect in these disputes) and give lobbyists (including Chinese-funded lobbyists) more influence over these decisions.   

Myth

The U.S. solar market would be much better off if SolarWorld would drop the petition and allow the U.S. government to negotiate a private solution with China

Reality

If U.S. companies drop trade petitions in response to China’s real or implied threats then capitulation wins out over negotiation—and capitulation is a losing game

The Coalition for Affordable Solar Energy, or CASE, the group of companies who strongly oppose levying tariffs on Chinese solar panels, has repeatedly called on SolarWorld to drop these trade petitions. CASE would prefer to take dispute resolution away from the Commerce Department, and instead have the Obama administration step in to negotiate a mutually agreeable settlement with China. They make a strong case that the Obama administration would be more likely to take the general public interest in getting solar installations to scale, and the potential negative impact of tariffs on those installations, into account and would balance those interests against the impact of Chinese subsidies on the U.S. solar manufacturing sector.

As a result of this proposed balancing exercise, CASE expects that a bilateral negotiation would result in much lower tariffs (compared to what the U.S. Department Commerce might impose) or a price floor, possibly in exchange for Chinese promises to reduce or eliminate the contested subsidies. But such a balanced outcome is highly unlikely, either in the case of the solar industry or in the many other cases in which U.S. companies face unfair Chinese trade competition.

There is certainly nothing wrong with negotiation, of course. In general, the more the United States and China engage on trade issues and share their concerns, the better. What CASE is calling for, however, is capitulation, not negotiation.

One of the biggest barriers to a balanced U.S.-China trade relationship is that so many U.S. companies avoid filing trade petitions due to fears that China will retaliate against them. Many U.S. companies strongly suspect—based on their conversations in China—Chinese officials and enterprises would respond to formal filings with punitive market-access reductions. That risk is too great for companies depending on the China market to keep their businesses afloat, so many U.S. companies keep quiet and put up with short-term problems to protect their longer-term relationship with Beijing.

The end result is that the United States winds up tacitly accommodating a wide range of trade violations, eroding our economic competitiveness. 

U.S. companies already face enough political pressure from Beijing to avoid and drop these trade complaints. We do not want them to face the same pressures here at home. Just as we should protect the rights of individual citizens to use the judicial system to file legal complaints, we should also protect and support the rights of individual companies to use our trade institutions to file trade complaints, even if other sectors of the industry find those complaints inconvenient.

It is also important to note that in private conversations with this column’s authors, at least some of the companies lobbying for a negotiated settlement in the SolarWorld case claim that Chinese officials and their Chinese customers are leaning heavily on them to do so by, for instance, threatening to reduce market access for companies who are not visibly and loudly opposing the SolarWorld trade petitions in Washington. Based on those conversations it appears the Chinese government is using U.S. companies as levers to influence Washington’s willingness to take enforcement action, and that is a disturbing trend. The best way to avoid that problem is to keep these decisions where they are now—in the hands of independent investigators at the Department of Commerce, where trade investigations are largely isolated from political pressure and less susceptible to Chinese interference.

The bottom line is that a true negotiated agreement with China, if China is indeed violating its trade obligations, would result in the United States extracting some array of promises or concessions from China—ideally promises to remove the policies that caused the trade frictions in the first place. If that is our end goal, then we should let the Commerce Department process play out first. If that process results in very low tariffs, then we can assume that China’s behavior does not warrant high-level political negotiations. But if the tariffs are significant, then we have a clear signal that there is something to negotiate about—and we will subsequently be at a good starting point for negotiations, because the Chinese government will be keen to find a solution less onerous than the high-tariff status quo.

The Chinese government will certainly do everything in its power to strengthen its negotiating leverage in bilateral trade disputes. We should do the same.

Melanie Hart is a Policy Analyst on China Energy and Climate Policy at the Center for American Progress. Kate Gordon is Vice President for Energy Policy at the Center.

SOURCE: AP/Katsumi Kasahara

Women ride bicycles past Sony Corporation headquarters in Tokyo. The Trans-Pacific Partnership would benefit well-known Japanese businesses such as Toyota and Sony and give U.S. businesses better access to Japanese markets.

Representatives from the United States, Australia, Brunei, Chile, Malaysia, New Zealand, Peru, Singapore, and Vietnam will meet in Dallas this week to continue negotiations on the Trans-Pacific Partnership, an ambitious new trade agreement that if done right could reap benefits for the United States. But one big issue confronting negotiating countries is who isn’t in the negotiating room yet.

At the Asia-Pacific Economic Cooperation summit last November, Japan announced that it was interested in joining the TPP negotiations, and Prime Minister Yoshihiko Noda has made Japan’s entry into the agreement a top priority. But to be part of the agreement Japan would likely have to commit to further opening of its protected farm and auto sectors, and this is controversial in Japan.

Still, Japan’s entry into the Trans-Pacific Partnership would magnify the potential impact and import of this agreement for the U.S. economy. For the impact to be a positive one, however, U.S. negotiators would have to work through the thorny issues mentioned above.

The prospect of Japan joining the TPP is indeed promising for the United States. U.S. goods trade with current TPP economies constitutes 5.3 percent of total U.S. goods trade. Japan’s inclusion would double this to 10.6 percent.

And while Japan is already a leading destination for U.S. exports, the United States has a $62.6 billion goods trade deficit with it. The TPP could help bring down that deficit by reducing trade barriers and opening the Japanese market up to more exports from the United States and other countries.

The United States has welcomed Japan’s participation in the TPP. U.S. Trade Representative Ron Kirk said, “In close consultation with Congress and our domestic stakeholders, we look forward to engaging with the Japanese in these discussions…. Japan’s interest in the TPP demonstrates the economic and strategic importance of this initiative to the region.”

But even though Japan’s potential inclusion is exciting, there are points of contention. U.S. agricultural producers have long been frustrated with their ability to access the Japanese market. They argue that Japan’s restrictions on U.S. beef and rice imports must be part of the TPP discussions.

Protections against foreign cars and auto parts are also troubling for U.S. businesses. They believe that nontariff barriers such as technical standards for cars and auto parts currently lock U.S. manufacturers out of the Japanese market.

These are legitimate concerns, and TPP partner nations are also wondering whether Japan’s addition to the negotiations at this stage would slow down the current process. That’s why many stakeholders, including some U.S. businesses, would in fact prefer if Japan joined the negotiations after the initial terms were put in place by the nine countries currently engaging in trade talks.

It’s true that participation in the TPP will not come without costs for Japan, particularly to its sectors that rely on high and uncompetitive protective tariffs. To be part of the agreement, however, Japan will have to be willing to put these barriers on the negotiating table.

But for Japan, the benefits of the agreement outweigh the costs. Japan pays some of the highest food prices in the world, and Japan’s participation in the TPP would help reduce that burden. Lower tariffs would benefit well-known Japanese businesses such as Toyota and Sony and help attract investment into Japan’s struggling economy.

The TPP is a historic opportunity. It will foster the kind of regional integration that will create dynamic and stable domestic economies in each of the partner nations. The TPP can ultimately be a net positive for Japan and the United States if the two countries can work out their differences.

Jordan Bernhardt is a Special Assistant for Economic Policy and Sabina Dewan is Director of Globalization and International Employment at the Center for American Progress.

SOURCE: AP/ Michel Spingler

By focusing on progressive, pragmatic, pro-growth policies, French President-elect Francois Hollande has set out a realistic and achievable vision for restoring Europe.

Yesterday’s election of Francois Hollande as president of France, by a 52-to-48 percent margin, will hopefully mark a turning point in the economic fortunes of Europe. Those concerned that Hollande’s victory and forthcoming policy shifts in favor of economic growth over budget austerity might put financial market stability at risk are mistaken. The new French president is no ideologue. On the contrary, he is a pragmatic progressive who realizes that austerity alone hasn’t worked, and that what Europe needs is a realistic strategy for job creation and economic growth.

This is precisely what Europe needs today. And a pragmatic, progressive, pro-growth agenda is what Hollande will pursue to deal with the continent’s slumping economies and government budget deficits.

Indeed, the election of Hollande compares to two historical precedents—Barack Obama in 2008 and Francois Mitterrand, the first socialist president of France, in 1981. Olaf Cramme at Policy Network, a London-based think tank that is at the hub of modernizing European social democracy, contrasts the “era of hope” that saw President Obama elected to the one of fear that defines the Hollande victory. Much of Europe is back in recession, unemployment continues to grow, and the eurozone sovereign debt crisis seems to be spiraling out of control again. Yet when Obama was elected, he too was faced with a dramatic economic crisis, a financial system on the brink of collapse, and rising unemployment. In 2008, just like today, it was the candidate not the context that provided hope for a better future.

Perhaps the more telling comparison in the French context is with Mitterrand, until now the only socialist president in France’s history. Thirty-one years ago Mitterrand defeated the incumbent center-right president, Valery Giscard D’Estaing—the last time an incumbent president seeking re-election was defeated. Like the loser in yesterday’s election, Nicolas Sarkozy, Giscard D’Estaing had become increasingly unpopular with the French people—not least because of his adherence to liberal laissez-faire economics. Like Hollande today, Mitterrand promised a change to the economic agenda.

Unlike Hollande, however, Mitterrand tried to pursue a purely national policy of economic renewal, seeking to defend the inflated value of the French franc on the international markets and pursue an industrial policy of national champions. Ultimately he failed and embraced Europe as the route to resolving France’s economic woes and saving his own presidency. Interestingly, Francois Hollande was an early opponent of Mitterrand’s failed strategy and one suspects Hollande’s own approach today will be well informed by the lessons of that failure.

Hollande realizes that the policy options open to any one nation in a highly integrated European economic area are marginal. From day one of Hollande’s campaign, he has focused on Europe. Speaking at the Global Progress summit organized by the Center for American Progress in Madrid last October, two days after becoming the party’s nominee, he called for an end to austerity. As his campaign evolved he presented arguments in favor of a financial transaction tax in the eurozone to fund industrial-led growth, a renegotiation of the European Union’s fiscal pact agreed to in December—a pact that imposes overly tough fiscal constraints and European supervision on member state budgets—and the creation of eurobonds issued by the European central bank to mutualize the EU’s sovereign debt burdens.

Speaking at the Bastille in front of his supporters on Sunday evening, Hollande said his victory was a "message for all the people of Europe who, regardless of their leaders, want an end to austerity."

Despite the rhetoric Hollande used to guard his left-flank during the presidential campaign, Hollande’s economic advisors pivoted back to pragmatism and began to sketch out a realistic European agenda in the runoff campaign against Sarkozy. As I noted in a recent column on the eve of the first round of the election, Elisabeth Guigou, former finance minister and advisor to Hollande, addressed a meeting of the progressive parliamentarians network co-organized by the Center for American Progress in Rome, where she suggested that rather than pursuing a burdensome renegotiation of the EU fiscal pact and eurobonds for mutualizing debt, Hollande would actually seek to complement the pact with a jobs and growth protocol at the continental level. She added that he would push for the creation of European “project bonds” designed to leverage private capital into much-needed European infrastructure and industrial investment projects. Days later this vision was echoed by Annd Michel Sapin, another former finance minister advising Hollande, in an interview with The Financial Times.

Like President Obama four years ago, the expectations now resting on Hollande’s shoulders are unrealistically high and extend well beyond his national borders. And like in 2008 change today will take time. But by focusing on progressive, pragmatic, pro-growth policies, the new French president has set out a realistic and achievable vision of the Europe we need.

Matt Browne is a Senior Fellow at the Center for American Progress working on building transatlantic and international progressive networks.

SOURCE: AP/Susan Walsh

President Barack Obama’s executive order creating a beefed-up trade enforcement office means our domestic trade laws and agreements will be more aggressively enforced. But we need to do more to fill in large intelligence gaps about foreign and domestic trade activities.

See also: Combating China’s Trade Subsidies Isn’t the Entire Answer by Adam Hersh; The Complexities of the U.S. Decision on Chinese Solar Panel Imports by Melanie Hart and Kate Gordon

Next week’s verdict due from the U.S. Department of Commerce on whether the Chinese government is unfairly subsidizing the production of solar panels and thus driving American competitors out of the market reflects the Obama administration’s commitment to making sure our trading partners play by the rules. Indeed, President Obama’s February 28 executive order creating a beefed-up trade enforcement office means our domestic trade laws and agreements will be more aggressively enforced.

But the new trade enforcement office won’t ensure those rules and treaties adequately protect American workers and firms. For that to happen, we need to do more to fill in large intelligence gaps about foreign trade activities. We don’t know the full extent of subsidies, export financing, or the range of trade promotion activities in other countries, especially those with state-owned enterprises.

Without this crucial information, our lawmakers and trade negotiators can’t adequately safeguard American workers and companies from unfair trade practices by our competitors.

President Obama’s request for $26 million to create the Interagency Trade Enforcement Center, a new department within the U.S. Trade Representative’s office, will increase the number of trade lawyers and investigators available to take cases against countries that violate trade rules. Investigators will also defend America’s firms and workers from claims filed against the United States. But in order for the new Interagency Trade Enforcement Center to function effectively, we must still fill in large gaps in our intelligence in the following three areas:

• State-owned enterprises and subsidies
• Export finance
• Export promotion

Let’s look at each in turn.

State-owned enterprises and subsidies

We need more information about state-owned enterprises in other countries, and the extent to which governments in China, Vietnam, Singapore, and elsewhere subsidize the production and export of their goods and services.

What we do know is that a number of countries today manage their economies through a state-capitalist model in which the government directly or indirectly controls many of the economy’s productive assets, formal financial systems, and activities. State-owned enterprises participate in commercial markets but enjoy state backing benefiting from preferred access to bank capital, below-market-rate financing, favorable tax treatment, capital injections, and other subsidies that distort the playing field.

What we don’t know is how deep or wide these practices run. Our efforts to date have been piecemeal. And our laws and regulations are not adequately equipped to deal with such subsidies in a state-capitalist model. And without this information, it’s hard for us to craft rules and treaties, much less enforce them, to truly protect firms and workers from unfair competition.

Export finance

We don’t have enough information on how much other governments are spending on financing their exports.

The U.S. Export-Import Bank—the government agency that provides loans, guarantees, and insurance products to help U.S. companies export—has some records of equivalent institutions in other countries. But in many countries these export-finance institutions operate more like commercial banks that don’t share their information publicly. And the extent of export financing that takes place in countries with state-owned enterprises is even harder to discern.

Our government must provide access to appropriate levels of export finance for those who need it—and at levels that are in line with the financing other governments provide their businesses. That’s hard for us to do when we don’t fully grasp the extent to which other governments are financing their country’s exports.

Export promotion

Finally, we don’t systematically keep track of the full range of activities other countries engage in to promote their exports. Our government’s trade advocacy and export-promotion efforts are largely focused on educating, training, and assisting U.S. businesses on accessing information and resources on how and where to export, especially small- and medium-sized companies.

But other countries have a less conventional approach to promoting their exports. Foreign governments tend to play a more active role in negotiating deals to boost their exports, while the U.S. government tends to let businesses sell their own products. We must collect data on how other countries promote their exports to be able to compete with them.

We must allocate people, time, and money to improving our trade intelligence in these areas in addition to improving trade enforcement. If these gaps were filled, then we would be better equipped to try to preempt violations before they occur, protecting the rights of American firms and workers.

Sabina Dewan is Director of Globalization and International Employment at the Center for American Progress.

See also:

• Combating China’s Trade Subsidies Isn’t the Entire Answer by Adam Hersh
• The Complexities of the U.S. Decision on Chinese Solar Panel Imports by Melanie Hart and Kate Gordon

SOURCE: AP/ Pablo Martinez Monsivais

British Prime Minister David Cameron will pay a visit to the United States and President Barack Obama this week.

British Prime Minister David Cameron this week will receive all the pomp of an Official State Dinner in Washington, D.C., and the honor of traveling with President Barack Obama on Air Force One to Dayton, Ohio, where the two leaders will watch an NCAA opening-round college basketball game. In advance, President Obama and Prime Minister Cameron also set out their vision for the future of the special relationship in a joint Washington Post op-ed, arguing that this is a partnership based on heart, history, traditions, and shared values.

As a Brit it is reassuring to know the U.S. president appreciates the contributions of my country’s armed forces to the mission in Afghanistan, alongside our longstanding support for the United States in the international arena. As a progressive, however, I doubt very much the values of Prime Minster Cameron’s conservative government and those of the Obama administration are either very much shared or the likely foundation for a common vision or shared project with my country or much of Europe.

Why? Because a new transnational politics is taking shape in Europe, offering competing visions for the future of the Eurozone alongside new transnational political alliances. Over the coming 18 months, this shift will set the stage for a new era of transatlantic relations, one shaped by shared progressive values and common political projects, making alliances with conservative leaders on the margins of Europe less relevant than ever before.

Indeed, across the Atlantic this week, a parallel meeting of leaders from Europe’s major progressive parties is also taking place in Paris. Chaired by Francois Hollande, the Socialist Party candidate for the French presidency, the meeting will launch the "Paris Declaration" setting out a new progressive vision for Europe. The gathering is a response to the political coalition of conservatives built by German Chancellor Angela Merkel to defend the floundering incumbent French President Nicolas Sarkozy. The conservative coalition counts David Cameron as one of its members and is held together by its support for austerity policies.

This clash of visions in Europe is, in principle, something President Obama cares about. His administration repeatedly expresses frustration with how Europe’s conservative-led governments have responded to the Eurozone crisis. Evidence suggests that the government austerity programs initiated by these conservative governments are driving Europe back into recession, which could slow the current U.S. economic recovery.

At home President Obama favors a more nuanced approach to the current economic challenges, seeking to combine short-term investments to create jobs and rekindle sustained economic growth with a medium-term agenda to reform government spending. This is precisely the approach that Europe’s progressives are now arguing for—and a nod of support from the White House may well help their cause.

Some will claim this is too much to expect of President Obama, but it has happened before. When former Prime Minister Tony Blair visited President Bill Clinton in the mid-1990s while he was leader of the British progressive opposition, President Clinton took the unprecedented move of turning a photo-op into a virtual press conference. So began a truly special relationship, built on a political vision shared by the two leaders that would later provide the foundation for an unprecedented era of transatlantic cooperation.

The so-called Third Way movement—which brought President Clinton and Prime Minister Blair together with other like-minded leaders such as German Chancellor Gerhard Schroeder, Italian Prime Minister Romano Prodi, and Dutch Prime Minister Wik Kok—and the progressive governance dialogues they led offered a political antidote to the conservative Reagan-Thatcher axis of the 1980s, and heralded in an unprecedented period of economic growth and democratization. During the Clinton-Blair years, the United Kingdom experienced record-high employment, with 2.8 million more people in work by 2007 than there were in 1998, and 500,000 fewer children in income poverty. In the United States 22.7 million new jobs were created, unemployment dropped to the lowest levels in 30 years, and the economy grew by 35 percent overall.

The politics of such a progressive alliance are more complicated now than they were at the close of the 20th century. Then 13 out of 15 member states of the European Union were governed by progressive parties. Today 23 of the 27 are led by conservatives. And, of course, Europe is a less significant player than it once was given the growing economic clout of the leading developing nations of the world, among them China, India, and Brazil.

Yet with elections in France and Romania this year, and in Germany and Italy in 2013, that picture could soon change. During a potential second term for President Obama, Europe could well be marching to a different, more progressive tune, one much closer to the president’s liking. And a focused transatlantic agenda for shared progressive growth and prosperity could still be a major force for good in the world.

Amid the excitement and media frenzy of this week’s visit, then, it is still probably time to reflect on whether the special relationship needs a reset.

Matt Browne is a Visiting Fellow at the Center for American Progress, working on building transatlantic progressive networks and policy issues.

SOURCE: AP/J. Scott Applewhite

President Barack Obama delivers remarks on government reform in January 2012. The Business USA portal is part of his government restructuring plan.

You can also read this article at Science Progress, CAP’s online science and technology policy journal, here.

The White House last week took a big step in answering businesses’ call for a more effective and efficient interface with federal government programs by launching the new Business USA portal. This single online resource enables businesses large and small to easily discover and research the wide array of federal programs and services provided by dozens of federal agencies to help them innovate and increase their competitiveness.

This is the latest step by the Obama administration toward breaking down bureaucratic silos, increasing interagency collaboration, and making the federal government leaner, more efficient, and more customer-friendly. But much still must to be done to build the modernized government that American workers, businesses, and industries need to stay cutting-edge and to compete for the jobs of the 21st century.

To better understand the significance of Business USA and where it can be improved swiftly—a key goal of the administration as the new portal goes through its “beta” testing phase of development—it’s important to break down three distinct but related problems currently keeping federal innovation-oriented business programs from performing at their peak potential. Specifically, what impedes better private-public business solutions to help our economy grow are:

• The problem of discovery—knowing what the federal government provides
• The barrier to customer service—too much red tape
• The lack of strategic coordination among programs with complementary goals and similar constituencies

Let’s look at each of these problems in turn before highlighting a slate of reforms the Center for American Progress presented earlier this year to the administration and Congress. 

The problem of discovery 

The federal government operates hundreds of programs and services designed to help businesses create jobs and grow the economy. These programs are currently managed, maintained, and operated by dozens of federal agencies and many of them overlap. But many businesses simply are not aware or are not easily able to navigate the plethora of programs that exist to help them obtain financing, export assistance, manufacturing assistance, research and development funding, technology licensing, technical assistance, or other forms of counseling. This is mostly because these programs are managed without clear coordination by many different federal agencies, each of which market them differently—or in some cases not at all.

The problem of customer service

Once a business has identified one or more federal programs in which it is interested and eligible, actually completing the application process can be difficult, time consuming, expensive, and confusing. Furthermore, separate requirements and applications for programs managed by separate agencies make it difficult for businesses eligible for many similar programs to access the ones best suited to their needs.

Just one case in point: The National Institute of Standards and Technology manages the Technology Innovation Program, a competitive grant program to help small- to medium-sized firms innovate in strategic technological areas. At the same time the Small Business Administration and 11 different agencies maintain the Small Business Innovation Research and Small Business Technology Transfer Programs. These programs are designed to help small- to medium-sized firms obtain funding to pursue risky technological innovations but require separate applications.

What’s more, program requirements—which range from size to ethnic, gender, or socioeconomic status of organizational leaders to geographic location to industry sector—are mismatched with assistance delivery mechanisms, which range from project grants to microloans to financing assistance to technical assistance and others. Better aligning eligibility requirements with assistance tools can make federal programs more flexible and better able to ensure that every eligible businesses in need gets the right kind of assistance it needs to innovate and grow.

The lack of strategic coordination

This keeps federal business programs from working together with complementary innovation programs aimed at university technology transfer, community development, workforce training, and trade assistance at the regional economic level. CAP’s Science Progress project in 2009 detailed the importance of these "regional innovation clusters," and more recently my colleague Jennifer Erickson and I discussed why businesses do not exist, thrive, or innovate in a vacuum—their success is interconnected with the success of the communities, regions, and industries within which they operate.

Whether for high-tech, high-growth startups or small-town mom-and-pop businesses with more modest ambitions, the best businesses plans are responsive to local economic conditions. Innovative businesses must take into account the availability of local assets and liabilities such as infrastructure planning, district or regional economic development initiatives, local workforce talent, formal or informal university partnerships, and proximity of both supply chain partners and customers. In short, the vitality of the many regional economies upon which our nation is built and the success of businesses in these economies are fundamentally intertwined, yet the current fragmented system of federal businesses assistance programs is not well-coordinated with other existing federal efforts to invest in these important determinants of success. That means that federal programs supporting a small business as well as a university technology transfer effort, a community college workforce-training program, and a regional economic development plan in the same region, might not coordinate whatsoever.

Enter the Business USA portal

The Business USA beta portal tackles the first of these three challenges—the problem of discovery—head-on. It creates one place where businesses can go to discover the plethora of existing federal assistance programs available to them. As my colleague Kristina Costa wrote in January:

You might think that the Small Business Administration would be the go-to place for all things small business—but that assumption leaves out loan programs administered by the Departments of Agriculture and Energy, among others. “It’s hard to know which [loan] is best for you if they aren’t all in one place,” says Christine Koronides, who oversees small-business policy for the White House National Economic Council.

The recent “State of the Federal Web” report conducted, among other things, an inventory of federal websites. Fifty-six federal agencies publish 1,489 top-level .gov domains—and a dizzying 11,013 lower-level websites. This isn’t a knot that Google can untangle on its own—important information can be buried in poorly formatted .pdf or .doc files that search engines may not be able to parse.

The increased awareness from consolidating many of these resources in one website stands to increase utilization rates of many of these programs and maximize the economic bang for the taxpayers’ buck. But while the Business USA beta portal addresses the discovery problem, it leaves unanswered the questions of customer support and strategic coordination.

Another step toward tackling the customer service challenge can be taken by implementing the Business USA hotline that President Barack Obama highlighted when unveiling the new portal and by doing a comprehensive review of existing program application requirements with the goal of streamlining and integrating as many of them as possible using existing executive authority.

Next steps

To truly bring federal businesses and innovation programs into the 21st century, Congress needs to empower federal agencies to share information, increase the flexibility with which assistance tools can be applied to eligible firms, and coordinate strategically toward shared goals such as job creation, export expansion, regional economic invigoration, and technological innovation. Our proposal for a common application for federal innovation and competitiveness programs would move us further in the right direction by encouraging entrepreneurs, investors, universities, workforce interests, exporters, and other players to collaborate to access federal assistance jointly around shared goals.

Demand for these kinds of coordinated interagency programs focused on innovation clusters has grown among regional public, private, and nonprofit economic players and planners. Just look at the high number of applicants relative to available funding for the Energy Regional Innovation Clusters program, i6 challenge, and Jobs and Innovation Accelerator programs. Each of these programs coordinated the resources across six or more federal agencies to deliver funding to self-assembled regional innovation consortia with proposals that leveraged businesses, workforce, technology, and trade for innovation, job creation, and growth.

But this kind of interagency coordination and on-the-ground collaboration around shared goals needs to become the norm rather than the exception across the thousands of existing federal assistance programs. Rather than managing the rich array of existing resources independently as separate programs, a new structure such as the common application we propose could manage them as complementary tools to be deployed strategically to encourage bottom-up collaboration around shared goals of innovation and national competitiveness.

As my co-author Jonathan Sallet and I discussed in more detail in our recent paper, “Rewiring the Federal Government for Competitiveness,” shifting existing programs to empower businesses, entrepreneurs, inventors, researchers, and workforce development organizations to work together could go a long way toward spurring innovation that creates new economic value, business activity, and jobs in regions across the country.

President Obama announced his intention to take these next steps when he called for “one department with one website, one phone number, and one mission—helping American businesses succeed.” The ball is now in Congress’s court to allow the president to build on what he started with Business USA and to bring antiquated government bureaucracy up to speed with the dynamic needs of the 21st century global innovation economy.

Sean Pool is Managing Editor of Science Progress, a Center for American Progress project.

SOURCE: AP/Charles Dharapak

President Barack Obama shakes hands with Japanese Prime Minister Yoshihiko Noda in November 2011 at the APEC summit, where Trans-Pacific Partnership leaders met, in Hawaii.  

U.S. trade negotiators meeting their Asian counterparts in Australia next month should come prepared to stand firm on the thorny question of how to deal with “state-owned enterprises” that are common in Asia. Discussions about state-owned and state-subsidized companies in economies of countries such as Vietnam, Malaysia, and Singapore are expected to dominate the upcoming 11th round of negotiations on the Trans-Pacific Partnership, a nine-country free trade agreement under development since 2009.

Now that a broad framework over the agreement is in place, it’s time to get into the details. Our trade negotiators should insist that unfair advantages state-owned companies enjoy because of their state backing be remedied to the greatest extent possible. The goal should be an even playing field so that the Trans-Pacific Partnership becomes a vehicle for expanding American exports, jobs, and economic growth for years to come. Our negotiators need to understand the problems posed by state-owned enterprises and deal with them accordingly.

State-owned enterprises

The expanding power of state-owned enterprises poses unprecedented challenges for a market economy such as the one in the United States. That’s something U.S. businesses and organized labor agree on.

A number of Trans-Pacific Partnership participants—among them Vietnam, Malaysia, and Singapore—manage their economies through a state-capitalist model in which the government directly or indirectly controls many of the economy’s productive assets, formal financial systems, and activities. These enterprises participate in commercial markets but enjoy state backing. They benefit from preferred access to bank capital, below-market-rate financing, favorable tax treatment, capital injections, and other advantages that distort the playing field and put American firms and workers at a competitive disadvantage.

U.S. domestic and international trade laws are ill-equipped to deal with this version of state capitalism in which transactions are frequently based on a government’s political objectives rather than commercial considerations. It’s time for the United States to stop treating such countries as if they operate under free market rules. They do not. The Obama administration must articulate a firmer approach to state-owned enterprises in the Trans-Pacific Partnership to ensure a level playing field.

Recommendations

U.S. negotiators should insist that state-owned enterprises be evaluated under the agreement as if they were operating solely according to commercial considerations. The rules governing commercial considerations—as they relate to export finance, for example—should be based on the existing Organization for Economic Cooperation and Development protocol, which governs economic relations between its developed-economy member nations.

The Trans-Pacific Partnership should require member countries to provide a list of their subsidies on a regular and periodic basis to ensure proper adherence to commercial considerations. If a country does not comply, then the United States or other signatories to the agreement should under the agreement be able to request more information in an expedited manner. The requirements in order to file a claim and ensure action on a request for full disclosure of government subsidies should be kept to a minimum.

There must also be an appropriate enforcement mechanism when a particular country does not comply with the requirements of the agreement. One strong approach would be to use a market-based proxy rate to adjust tariffs on exports from state-owned enterprises based on the expected subsidy rate.

Another remedy to consider is including a “snap-back provision” that allows Trans-Pacific Partnership signatories to suspend tariff concessions if a member is found in violation of its obligations under the agreement. As a final recourse the United States or other signatories should have an expedited process that allows for fair adjudication of unfair advantage claims

If the Trans-Pacific Partnership is going to be a template for the rules of trade for the 21st century, then we had better make sure that its rules are strong enough to create a level playing field not only for the current nine negotiating partners but also for other countries that may want to someday join the trading bloc. And the United States should apply these rules to the activities of state-owned enterprises in other areas governed by the Trans-Pacific Partnership as appropriate.

As the Obama administration prepares to enter the 11th round of negotiations in Melbourne, it must ensure that the Trans-Pacific Partnership chapter on state-owned enterprises is robust and protects the interests of American workers and firms wherever state-owned enterprises operate—in their home country, third country, and the U.S. market for years to come.

Sabina Dewan is Director of Globalization and International Employment at the Center for American Progress.

SOURCE: AP/Cliff Owen

Attorney General Eric Holder, center, accompanied by Housing and Urban Development Secretary Shaun Donovan, right, Iowa Attorney General Tom Miller, and other federal and state officials, announces a settlement regarding mortgage loan servicing and foreclosure abuse.

The recent housing downturn revealed how homeowners are systematically disadvantaged by the current system of mortgage finance and are in need of additional rights to be protected from abuses in the servicing of mortgages. This is why President Barack Obama’s call last month for a “homeowner bill of rights” is so important.

The homeowner bill of rights provides long overdue protections for homeowners from abuses in the servicing of mortgages and is an important step toward reviving a dormant private mortgage finance industry. “As we have learned over the past few years, the nation is not well-served by the inconsistent patchwork of standards in place today, which fails to provide the needed support for both homeowners and investors,” said President Obama. “A fair set of rules will allow lenders to be transparent about options and allow borrowers to meet their responsibilities to understand the terms of their commitments.”

The Center for American Progress noted before that a market failure in the mortgage servicing industry developed over the past decade. Because homeowners are not the customers of mortgage servicers, these servicers have had no interest or duty to consider their needs. Instead, mortgage servicers are responsible only to mortgage investors for whom they collect principal and interest payments. This means that the issues that matter most to homeowners—whether they can remain in their home, on what terms, and for how much in fees—are of little concern to the servicing firms with which they must resolve those issues. To complicate matters, the financial regulatory reform law passed in 2010 by Congress did not specifically address mortgage servicing rights.

This lack of consumer protection against improper acts and omissions by mortgage servicers was most evident during the headline-grabbing robo-signing scandal that came to light in 2010. The practice of robo-signing involved employees of the nation’s largest servicing firms routinely falsifying documents such as swearing that the key facts in the file had been checked when in fact the affidavits were signed automatically. The robo-signing problems led to the historic $25 billion settlement with the five largest mortgage servicers announced earlier this month—the largest federal-state consumer settlement in U.S. history. Importantly, the settlement also lays out certain mortgage servicing standards, ending servicing practices such as dual-track foreclosures in which a bank begins foreclosure proceedings at the same time as a borrower seeks a loan modification.

President Obama’s homeowner bill of rights goes one step further. It lays out a set of principles that “ensure borrowers and lenders are playing by the same common-sense rules.” Specifically, it requires:

• Servicers and lenders to offer a much simpler mortgage disclosure form that clearly outlines relevant fees and penalties, so that homeowners will better understand their loan terms
• Servicers and mortgage investors to develop standards that reduce conflicts of interests that ultimately harm the homeowner
• Homeowners to be provided with a right of appeal in order to protect them against improper foreclosure

Better servicing rules such as these benefit not only homeowners but also mortgage insurers and investors, as well as the Federal Housing Administration and Fannie Mae and Freddie Mac—the two housing finance giants now under federal conservatorship. Private mortgage insurers experienced losses when they had to make insurance payouts for mortgages that were improperly originated and serviced. Fannie Mae and Freddie Mac have filed suit on mortgages they guaranteed but claim were fraudulently originated and serviced. And private-label mortgage-backed securities investors—those who purchased mortgage-backed securities that were not guaranteed by the federal government in some fashion—believe that servicers modified loans in ways that put their own interests first and those of investors second.

Each of these participants in the mortgage market stands to gain from the more robust set of protections in servicing.

To be sure, more details of the homeowner bill of rights will need to be worked out between regulators and the administration. But as we noted in our December 2011 response to the Federal Housing Finance Administration’s request for public comments regarding mortgage servicing pricing rules, private capital will not begin to take over a larger portion of the mortgage market unless consumer interests are protected from the kind of mortgage servicing problems that have taken place in recent years.

Clearly our mortgage servicing market did not work the way it should have in the lead-up to the housing crisis. President Obama’s homeowner bill of rights is one part of a broader strategy that will protect homeowners and kick-start the private mortgage market. It deserves our support.

Peter Swire is a Senior Fellow at the Center for American Progress and is also the C. William O’Neill Professor of Law at the Moritz College of Law of the Ohio State University. Jordan Eizenga is an Economic Policy Analyst at the Center.

SOURCE: Flickr/Independent We Stand

BusinessUSA would make it easier for owners of small businesses like Quail Ridge Books & Music to find information on important topics like the right kind of loan or retirement planning.

This is the latest installment of a new CAP series called “Big Ideas for Small Business.” The weekly series aims to offer a collection of bold proposals that taken together will form a progressive pro-business agenda for the small- and medium-sized companies—and future big companies—our economic competitiveness depends on.

In this space CAP’s economic policy team will offer a weekly pro-growth alternative to the simplistic conservative advocacy for irresponsible tax policy and unaccountable government that are hardly the real priorities of small businesses—and that will do nothing to boost economic growth and ensure widely shared prosperity.

The problem: Programs to help small businesses are spread throughout the federal government

For small-business owners the sprawling online presence of the federal government is just one in a long line of obstacles to navigate as their enterprises grow. Multiple departments and agencies manage programs that may be useful for small businesses—everything from grants and loans to helpful information about exporting goods.

You might think that the Small Business Administration would be the go-to place for all things small business—but that assumption leaves out loan programs administered by the Departments of Agriculture and Energy, among others. “It’s hard to know which [loan] is best for you if they aren’t all in one place,” says Christine Koronides, who oversees small-business policy for the White House National Economic Council.

The recent “State of the Federal Web” report conducted, among other things, an inventory of federal websites. Fifty-six federal agencies publish 1,489 top-level .gov domains—and a dizzying 11,013 lower-level websites. This isn’t a knot that Google can untangle on its own—important information can be buried in poorly formatted .pdf or .doc files that search engines may not be able to parse.

The solution: BusinessUSA.gov, a one-stop online shop for small business

In October the White House announced the new BusinessUSA, which will “implement a ‘no wrong door’ policy for small businesses and exporters by using technology to quickly connect businesses to the services and information relevant to them.” Slated to launch this month, BusinessUSA will pull together information from agencies across government, including the Commerce Department, export agencies, the Small Business Administration, and the Department of Agriculture.

“This isn’t just about navigating the federal infrastructure,” says Steven VanRoekel, federal chief information officer. “It’s about national priorities.” The hope is that by making information about grants, loans, and exports more accessible, these priorities—including creating jobs and boosting exports—will be easier for businesses to achieve.

The BusinessUSA site has been built with input from business and VanRoekel promises that process will continue. “When we go live, we’ll have the ability for businesses to give us real feedback on the site as we progress,” he says, noting that BusinessUSA’s goals hinge on “continuous improvement.”

In addition to the BusinessUSA aggregator, the White House plans to launch a related call-in line and to integrate BusinessUSA “widgets” into other federal websites. “If you’re somewhere in the federal web presence and there’s information around business, you can go there and connect back to the main BusinessUSA site,” VanRoekel says.

Aneesh Chopra, the federal chief technology officer, stresses that BusinessUSA will follow an open implementation model, allowing search engines and other sites to easily access and consume the information gathered there. “We want to make sure this information is discoverable more generally, not just on BusinessUSA,” Chopra says.

Next steps

There is still work to be done beyond launching BusinessUSA, the associated call center, and widgets for other federal sites. The “State of the Federal Web” report clearly identifies several areas for improvement in the government’s online presence. For instance, only 35 percent of agencies report having standardized web policies and procedures; 19 percent of top-level domains are identified as “inactive”; and most agencies report not having a consistent, agencywide web design. The government should cull inactive sites and urge agencies to adhere to uniform design standards as first steps toward making the federal web easier to navigate.

The administration should also aggressively market BusinessUSA, beginning by highlighting it in the president’s State of the Union address and urging business organizations like the Chamber of Commerce to promote the site to its members. “Part of the challenge is that folks don’t think of the government as a resource,” says Rhett Buttle of the Small Business Majority, a Washington-based advocacy group. In addition to access to capital and information about exporting, Buttle identifies health care, retirement planning, and hiring as areas where small businesses often struggle. “A lot of small businesses don’t have human resources directors,” he says, “And they’re really looking for tools and resources⎯for instance, ‘How do I write a job description?’ It sounds simple, but there are some things that folks just haven’t done.”

VanRoekel says that businesses of all sizes had a similar request when the BusinessUSA process began: “Make it easy for me to find the things I need.” That’s an ideal that more government sites should strive to achieve for business—and for citizens.

Kristina Costa is a Special Assistant at the Center for American Progress.

SOURCE: AP/ Manuel Balce Ceneta

Treasury Secretary Timothy Geithner testifies on Capitol Hill in Washington, Tuesday Oct. 18, 2011, before the Senate Small Business and Entrepreneurship Committee. The Treasury Department can guarantee up to $1 billion in CDFI-issued bonds per year through fiscal year 2014.

This is the latest installment of a new CAP series called “Big Ideas for Small Business.” The weekly series aims to offer a collection of bold proposals that taken together will form a progressive pro-business agenda for the small- and medium-sized companies—and future big companies—our economic competitiveness depends on.

In this space CAP’s economic policy team will offer a weekly pro-growth alternative to the simplistic conservative advocacy for irresponsible tax policy and unaccountable government that are hardly the real priorities of small businesses—and that will do nothing to boost economic growth and ensure widely shared prosperity.

The problem

The federal government has not yet implemented a program, authorized in legislation passed in September 2010, which, once up and running, will help so-called Community Development Financial Institutions invest in small businesses and communities hardest hit by the financial crisis.

The 2010 CDFI Bond Guarantee Program will expand access to low-cost capital for Community Development Financial Institutions, or CDFIs. These are U.S. Treasury-certified entities that offer basic financial services to communities traditionally overlooked by banks. CDFIs provide low-interest loans, basic banking services, and other affordable financial products to low-income households and businesses. The more than 800 CDFIs range from small loan funds with less than $1 million to lend to large banks and credit unions with billions of dollars in assets.

CDFIs are more willing than traditional banks to take a chance on low-wealth borrowers. Access to credit can prevent a small business from laying off employees or ensure an affordable housing project goes forward. Indeed, CDFIs played an especially important role in the recent economic recovery, as many mainstream lenders pulled back from the communities most affected by the housing foreclosure crisis. In 2008, the most recent year for which comprehensive data are available, CDFIs provided more than $5.5 billion in financing for community-development activities and created or retained more than 35,000 jobs, according to a study of 495 CDFIs by Opportunity Finance Network.

But CDFIs also have their challenges. Many of their customers need long-term loans, but CDFIs tend to have access only to private, short-term capital for their own funding. That’s because banks are often uncomfortable lending to financial institutions that primarily serve lower-income communities, and the CDFI industry, in general, has been unable to issue bonds. It’s risky for financial institutions including CDFIs to make long-term loans that are funded by short-term debt because they are exposed to interest-rate changes. So CDFIs are often unable to efficiently meet the needs of their customers.

The solution

The CDFI Bond Guarantee Program was meant to address this need for low-cost, long-term capital. The authorizing legislation permits the Treasury Department to guarantee up to $1 billion in CDFI-issued bonds per year, with maturities up to 30 years, through fiscal year 2014. The guarantee makes CDFI bonds palatable to the credit markets and lowers CDFI’s borrowing costs. This better positions them to provide high-quality, affordable financial products to low-income households, businesses, and communities.

Next steps

For more than a year, this program has been authorized but not operational. Given the challenges facing the communities that CDFIs serve, and the fact that this program is already authorized by Congress, the Obama administration should establish a clear plan to get the new bond-guarantee program up and running as soon as possible.

To be fair, this program is a complex one for the devoted government officers who manage it because of requirements to receive a credit-subsidy score of zero. That is, the program must be structured to not generate any net losses to the taxpayer.

This is not an insurmountable challenge, however, and it should be tackled soon. Regulations for the program need to be finalized and made public, detailing, among other things, the size of guarantee fees levied on participating CDFIs to cover expected losses from the program.

The longer we delay, the less time we have to pilot a potentially transformative program that provides additional assistance for small businesses and households in devastated communities to get back on track at a time when our economy needs them most.

Let’s get this thing up and running. Let’s implement the CDFI Bond Guarantee Program.

Jordan Eizenga is an Economic Policy Analyst at the Center for American Progress.

SOURCE: AP/Charles Dharapak

President Barack Obama, joined by small business owners, walks back to the White house after giving a speech on his small business initiatives in June 2010.

This is the latest installment of a new CAP series called “Big Ideas for Small Business.” The weekly series aims to offer a collection of bold proposals that taken together will form a progressive pro-business agenda for the small- and medium-sized companies—and future big companies—our economic competitiveness depends on.

In this space CAP’s economic policy team will offer a weekly pro-growth alternative to the simplistic conservative advocacy for irresponsible tax policy and unaccountable government that are hardly the real priorities of small businesses—and that will do nothing to boost economic growth and ensure widely shared prosperity.

The problem: Federal government assistance for innovative startup companies too often misses the mark

High-growth startup companies are one of the most important drivers of job creation in the economy today. They are also vital to tackling some of our most pressing long-term societal challenges such as improving our health care, education, and energy systems. It’s clearly in our national and economic interest to help entrepreneurs and innovators succeed.

Unfortunately, many existing small-business loan and assistance programs are not optimized to help the innovative startup firms reach their job-creation potential. The reason: Fledgling startup companies—those with great a idea but without a clear path from proof-of-concept to commercialization—face unique financing challenges that the federal government’s small-business policies are not tailored to solve.

Fully unlocking the power of America’s innovators to create jobs will require Congress to act to support high-potential startup companies at their earliest stages of growth.

The solution: Revamp small-business financing programs to get companies with high growth potential through the crucial proof-of-concept phase

Here’s a solution: Revamp small-business financial assistance programs to better serve the needs of innovative, high-growth potential startup firms.

The Obama administration has already taken some encouraging steps toward this end. In October 2011, the president issued a presidential memorandum asking agency heads and federal lab directors to review current technology transfer priorities and develop plans for improvement. And just last week the president announced the creation of a $1 billion early stage innovation fund using money already appropriated by Congress. This fund will provide matching capital to private loans already made through the existing Small Business Investment Company program. To help with this, the Startup America Partnership, a public-private partnership between the White House and more than 50 corporate partners, pledged an additional $1 billion in donated services geared toward helping 100,000 entrepreneurs and innovators get businesses off the ground over the next three years.

The 50 companies involved will provide free software, consulting, and legal services to the innovative startups with the most job-creating potential. And not a dime of this $1 billion commitment comes from taxpayers.

But the federal government can do more to help bridge the gap between early-stage research and the marketplace. It needs policies and programs that:

• Increase mutually beneficial flows of knowledge and intellectual property between academia and industry
• Support university technology-based spinoff companies
• Encourage public-private partnerships that support translational research and proof-of-concept projects that demonstrate to private investors the viability of new ideas in the marketplace

Here are the avenues to achieve these ends: The Small Business Innovation Research, or SBIR, and Small Business Technology Transfer, or STTR, programs administered by the U.S. Small Business Administration allocate 2.5 percent of federal agency grants for small businesses. That’s a key resource for some small companies seeking to bring early-stage innovations to market. Yet many university innovations are created too early to spin out into a company, so this program does not fully address the need for earlier-stage proof-of-concept funding.

Although some universities have managed to secure donor and private-sector funding to cover some of the costs of proof-of-concept programs, even the most successful programs struggle to become sustainable on these sources alone. That’s why the federal government should encourage other funding sources such as industry and donor support to extend the impact of the federal funding. Given the importance of transitioning between early-stage research and spinout startup companies, funding proof-of-concept projects is an appropriate role for the federal government to play.

Next steps: Reauthorize SBIR and STTR programs and set aside money to fund proof-of-concept centers

The chairs of the Republican-controlled House Small Business Committee and House Science, Space, and Technology Committee announced on Monday they had reached a deal with congressional democrats to reauthorize the SBIR and STTR programs through 2017. While the deal contains progress on many important fronts—including increasing program funding levels and maximum award amounts, increasing eligibility for companies with more diverse investment profiles, and setting new standards and oversight—it could go further to support the journey of innovative technologies from lab bench to assembly line.

One important way to do this would be to enhance the program by setting aside a portion of funding for proof-of-concept centers. Krisztina “Z” Holly, the vice provost for innovation at the University of Southern California and executive director for the USC Stevens Institute for Innovation, first proposed this idea in a 2009 policy paper called “Innovation Model Program for Accelerating the Commercialization of Technology.”

In a forthcoming paper by Holly from the Center’s Doing What Works project and online magazine Science Progress, she elaborates on this idea, noting that “the need is now acute. If past experience can be a guide, even a modest investment of $80 million could potentially stimulate $1 billion in private-sector investment in ideas that would otherwise be too early and risky for investors to currently bet on.”

That’s an effective, efficient way to bring federal money to bear in helping the private sector create more innovative small businesses that contribute so much to job creation in our country.

Ed Paisley is Vice President for Editorial at the Center for American Progress. Sean Pool is Assistant Editor in charge of the Center’s Science Progress online magazine. Paisley and Pool are the project coordinators and lead editors for the forthcoming series of papers on U.S. science and economic competitiveness.