Paying the Piper

House Republican Budget Plan Delivers Massive Gift to Wall Street

David Min demonstrates why the new budget plan in the House puts Wall Street profits before the needs of the middle class and our economy.

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. (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. (AP/ Scott Iskowitz)

House Republicans, led by House Budget Committee Chairman Paul Ryan (R-WI), released their “Path to Prosperity” earlier today—a plan that would end Medicare as we know it and transfer trillions of dollars from working- and middle-class Americans to the wealthiest in our society. But one less-noted (but no less cynical) element of this House Republican plan is that it would deregulate “too big to fail” financial institutions, in what amounts to an enormous giveaway to the largest Wall Street firms that caused the recent housing and financial crises and the resulting economic downturn that is responsible for so many of our current budget woes.

Specifically, Rep. Ryan’s misnamed “Path to Prosperity” would end the necessary financial regulation of big Wall Street financial institutions identified as so large or interconnected that they pose a threat to the financial system and larger economy. This would roll back one of the most important provisions of the recently enacted Dodd-Frank financial reform law and would allow the largest U.S. financial institutions to essentially operate as they did before the twin crises, putting U.S. taxpayers and our economy at enormous risk of another major financial crisis.

As I have noted previously, the Dodd-Frank Act puts a comprehensive new regulatory regime in place to deal with the problem of “too big to fail” financial institutions, including both banks such as JPMorgan Chase Inc. and Bank of America Inc., and large nonbank firms such as American International Group Inc. and Blackrock Inc., which are essentially firms that are so large or systemically important that their insolvencies would cause large amounts of economic and financial damage. The new law, I noted, imposes “heightened risk oversight on large financial companies, including higher capital requirements, increased reporting and examination [and] resolution authority.”

Conservatives cynically claim that identifying and providing extra supervision of these huge financial firms would endow them with a government “too big to fail” stamp, providing them with lower cost of funding. But as I pointed out then:

Whether the government acknowledges “too big to fail” or disavows it as a nonexistent problem is irrelevant. As long as large financial institutions can single-handedly implode the U.S. economy by going insolvent, they will be seen as enjoying a de facto government backstop.

Indeed, this conclusion is supported by significant amounts of research. A paper written by the Wharton School’s Todd Gormley, former chief economist for the International Monetary Fund Simon Johnson, and Changyong Rhee of Seoul National University finds that in South Korea, even in the face of a credible “no bailout” policy by the government, investors still made independent assessments as to whether firms are “too big to fail.” More recently, a paper out of UCLA’s Anderson School of Management found that large U.S. financial institutions enjoyed a 6.35 percent “too big to fail” funding advantage over their smaller competitors—roughly $4.7 billion per year per firm—before Dodd-Frank even was enacted.

Many critics of Dodd-Frank preferred stronger measures to deal with “too big to fail,” but the Dodd-Frank approach of imposing higher capital requirements and heightened levels of regulation for such institutions is a reasonable and appropriate attempt to rein in large sources of systemic risk and prevent the financial system from experiencing the type of meltdown that occurred in 2008. In the absence of other measures, such as breaking up “too big to fail” firms—something Rep. Ryan has not proposed in his budget plan for fiscal year 2012—rolling back the Dodd-Frank reforms will almost certainly ensure we will see another major financial crisis in the near future.

So why does Rep. Ryan’s plan aim to gut the prudent oversight of “too big to fail” financial institutions? Well, Dodd-Frank does result in higher costs for large financial institutions. House Financial Services Committee Chairman Spencer Bachus (R-AL), the leading Republican on financial issues, summed up the current mood of budget negotiations best when he stated: “In Washington, the view is that the banks are to be regulated, and my view is that Washington and the regulators are there to serve the banks.”

Rep. Ryan’s “Path to Prosperity” is a brazen attempt to ensure this quid pro quo between Wall Street and House Republicans becomes the law of the land. By proposing to deregulate “too big to fail” financial institutions, Ryan’s plan is essentially pretending that Wall Street had no role in the past decade’s housing and financial crises and providing their benefactors with an enormous deregulatory gift—one worth many billions of dollars.

But Ryan’s plan is doing so at the expense of taxpayers and of economic stability. This is consistent with the larger theme of the “Path to Prosperity”—transferring wealth from working- and middle-class households to the very wealthiest Americans.

David Min is Associate Director of Financial Markets Policy at the Center for American Progress.

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