Elizabeth Warren delivered a speech in Washington last week that she titled “The Unfinished Business of Financial Reform.” The woman just won’t let up! Not surprisingly (to me, anyway) the speech was larded with factual inaccuracies, exaggerations, and straw men. Here are few examples of what I’m talking about, followed by correctives by me:
Warren: The financial reforms that followed the Great Depression, such as Glass-Steagall and the creation of the S.E.C. and FDIC, were so successful that for over 50 years “there wasn’t a single serious financial crisis.”
TKB: Wrong. The economy has endured a series of financial crises more or less regularly since the end of the Depression, caused by overlending on everything from commercial real estate to energy production. Perhaps the most severe of these occurred in the 1980s, when the big banks thought it would be a good idea to lend as much money as they could to the governments of what were then called “less developed countries.” After Argentina defaulted on its debt, lenders then went through years of LDC loan restructurings that might have rendered several large banks insolvent. But bank regulators and accountants turned a blind eye to the loan problems and didn’t require that banks, many of which didn’t have enough capital to absorb the losses, to build adequate loss reserves.
This pattern of restructuring and reserve avoidance (despite an active secondary market for the loans which valued them at 50 cents on the dollar) continued until the second quarter of 1987, when Citicorp became the first large bank to announce it was establishing a large reserve and would report a quarterly loss as a result.
All the other large banks followed except Bank of America, which added a smaller reserve on account of its low capital. Following that reserve addition, BofA ended up with a common equity to asset ratio of just 2.1%! That would be unthinkable today.
Banks’ LDC loan exposure was a true financial crisis, but it didn’t translate into a total meltdown because the U.S. economy was growing strongly, a bull market in both the stock and bond markets had begun, and investors’ and regulators’ views on capital adequacy was decidedly different from today. Even so, LDC debt problems lingered for years and weren’t resolved for good until the issuance of Brady bonds in 1989. So, yes, serious financial crises happened before the subprime mess.
Warren: Regarding the financial meltdown of 2008, “the moral of this story is simply, without basic government regulation, financial markets don’t work.”
TKB: Hang on. A moment ago, Warren was singing the praises of the post-Depression banking reforms the government put in place. Now she seems to be denying they exist. In any event, if Warren believes “basic government regulations” weren’t in place in the runup to the housing bust and resulting recession, she’s hallucinating. In the 30-plus years since the LDC loan crisis, bank regulation has become steadily more rigorous as a slew of new rules, notably the Basel capital standards, were adopted.
Warren: “Rules are not the enemy of markets. Rules are a necessary ingredient for healthy markets.”
TKB: Warren knows perfectly well (I hope) that the meltdown wasn’t caused by a lack of rules governing big banks. One can debate what the rules should have been or how they were enforced, but the quantity of rules on the big banks was not an issue.
Warren: “[Republicans] are trying to hamstring the CFPB by slashing its funding, reducing its jurisdictions, and restricting its enforcement authority – steps that would undermine the market by taking financial cops off the beat.”
TKB: This is a typical hysterical, Warren-style straw man. The Republicans, sensibly, simply want to reform the CFPB to make it more like other regulators. In particular, the agency should be governed by a multi-person commission rather than a single unfireable individual and be funded via Congressional appropriation rather than having access to an automatic money spigot at the Fed. But come on, Senator. That would “take financial cops off the beat?” Reform is not the same thing as repeal.
Warren: “The market is now thick with loose underwriting standards, predatory and discriminatory lending practices, and increasing repossessions.”
TKB: If Warren is right and all this bad stuff is happening, then what are the S.E.C., the FDIC the CFPB, the OCC, the FSOC, the FTC, and the Fed all doing to protect consumers? Warren is a Senator. She should hold hearings, and summon the heads of those agencies to explain publicly why they are in such clear dereliction of their duty. Alternatively, maybe all the bad loan practices that Warren says are so rife aren’t really occurring nearly as frequently as she supposes.
Warren: “In 2012, the London Whale blew a $6 billion hole in JPMorgan’s balance sheet.”
TKB: Again with the London Whale. JPMorgan lost $6 billion on the trade. Despite that loss, the company still earned $5 billion the quarter it recognized the loss, and posted record earnings for the year. Also, math: JPMorgan has a $2.6 trillion balance sheet. Six billion dollars comes to 0.2% of that. A hole that is not.
Warren: “There are two structural ways to do [fix too-big-to-fail]. We can cap the size of the biggest financial institutions . . . and we can adopt a 21st Century Glass- Steagall Act.”
TKB: I have written numerous times about why it’s important that the financial system should include large banks to provide global financial services to large U.S. (and international) companies. However, I’m struck by Warren’s confusion over why she wants to break up the biggest banks. Is it because they’re simply too big? If so, what should the size limit be, and why? Or is it because they’re too complex? Warren doesn’t say. It’s as if she just thinks that big banks are bad, and that’s that.
Warren: “After the crisis, there was near-universal agreement that big banks needed to be more capitalized and less levered–but our tax code pushes these banks in the opposite direction.”
TKB: Come on, Senator! You must know that the largest banks have significantly higher capital ratios today than they did before the crisis. If you don’t know this, you really need to learn a lot more about the industry you’ve made a career of berating. And if you do know and are intentionally misleading to score political points, then you ought to be ashamed of yourself!
Elizabeth Warren is no banking expert, but she’s an absolute pro at anti-bank demagoguery. It wouldn’t be too much, I don’t think, for someone in the mainstream media to point out her lies, exaggerations, and falsehoods. Sadly, I’m not holding my breath.
What do you think? Let me know!